Why is gold treading waters?

Gold continues to tread water in a relatively tight range, caught in indeterminate no-man’s land between the January and June USD1900 area and the March break of USD1700.

This indecision aptly reflects the what is now customary binary nature of almost all financial assets in this current time: that being the “will they //won’t they raise rates?” Of course, “they” being the Federal Reserve of the United States, and “rates” meaning “interest rates”.

Naturally, such a question is premature. Indeed, the actual question is whether “they” will reduce asset purchases. This is known as tapering and caused quite the panic the last time it happened. Read more about the so-called “taper-tantrum” here.

It has been said one of the main problems (there are many) of financial markets is its almost sole focus on central banks these days. But it is easy to understand why. In just over a decade the role of central banking has changed dramatically from “lender of last resort” to becoming much more interventionist.

This coincided with the rise of more government intervention. Gone are the days of Hayek, Schumpeter, Thatcher, and Reagan where the invisible hand described by Scotland’s Adam Smith would guide and allocate the world’s resources through the simple interaction of aggregate demand and supply.

Such sentiments are only remembered fondly by rose-tinted libertarians who forget the damage the market created and thus brought hence the intervention we have today by central banks and governments. These interventionist forces have been compounded by two, not totally unrelated events – The Emergence of China, and the emergence of Covid-19.

Dealing with the latter more briefly, Covid reinforced the idea that governments and central banks would move pre-emptively with drastic and exceptional fiscal and monetary action whenever there were any crises whatsoever, regardless of severity.

At the same time, China has continued to see its own rise, and the West’s relative decline, as proof that the Western model is indeed failing. Social unrest, inequality (much due to central bank action) and too much freedom for tech companies, and too little regulation of social behaviour and the platforms that enable dissent combined to create the perceived mess that the West is in now.

And that is why in recent weeks we have seen a cacophony of announcements by the Chinese government against Chinese tech companies. Measures such as coerced donations by large companies to regulation of online educational content to the number of hours online games can be played are all part of a broader idea of “the China Way”, where intervention is the norm.

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This, however, only serves to make investors nervous, or at least a little wary of the next policy move that hurts returns and inhibits innovation and risk-taking. And while China attempts to row back some of the PR damage the direction of travel is clear.

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Yet, this is only sustainable as long as the economy develops, grows, and functions within an environment of a predictable rule of law and mutual trust in legal and business norms. Once this starts to dissipate, then economic damage can appear. The recent global PMI indicators of economic activity paint a worrying sign.

The vaccine bounce is not quite as resilient as first thought, with the aforementioned PMIs a sign of this but also the disappointing US jobs numbers last week.

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There are fears that the vaccine will soon start to lose efficacy and that vaccine uptake in the West at least has peaked, with pandemic fatigue and rule non-compliance becoming more prominent. This has led to an increase in cases, though not really hospitalisations yet. Globally, the vaccine rollout remains fairly slow. Thus, it seems unlikely that anything approaching normal will be back next year, let alone this year. Thus, it once again seems that governments and central banks will be invoked to come up with more stimulus and money printing to keep economies going until things clear up, whenever that may be.

But there is another perception that keeps gold supported. The recent Afghanistan debacle by the US led coalition has dealt a huge blow to the perception of the West as the pre-eminent global power. At the same time, China continues to make no secret of its ambitions, of its different way of doing things. Whether it is in Taiwan or Hong Kong, with its own tech companies or its rhetoric in diplomacy China feels that it is in the ascendant to sole superpower status by mid-century.

For asset allocators with a long-term view, a globally dominant China with interventionist DNA makes gold look very attractive.

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Important disclaimer: this document is not an official research report and the views expressed in it are those of the authors. The authors are not registered research analysts and there is no assurance the trends mentioned will continue or that the forecasts discussed will be realised. Gold as a commodity is not a specified investment for the purpose of giving advice under the Financial Services and Markets Act 2000, therefore, this does not give rise to rights to claim compensation under the Financial Services Compensation Scheme.