Stock markets around the world have rallied in recent weeks on news of successful trials of several Covid-19 vaccines, but what does this mean for gold?
Investors tend to flock to gold in times of market stress. So far this year the price of the yellow metal – as represented by the Bloomberg Gold Sub index below – has moved 20.15 per cent higher, in US dollar terms. Meanwhile, the FTSE Gold Mines index – a commonly used benchmark for gold mining equities – is up by 31.81 per cent.
Performance of indices YTD
Source: FE Analytics
Gold has sold off in the past few weeks as positive vaccine news led to a sudden "risk-on" move in markets. However, Jupiter Asset Management’s Chris Mahoney – a manager on the $827.5m Merian Gold & Silver fund – said investors shouldn’t be too worried about the prospects for the commodity.
“Contrary to perception, gold can rally in a risk-on environment and we saw this in 2019 when gold and the MSCI World index of global equities rose in tandem, advancing 18 per cent and 25 per cent respectively,” he said.
“Far more important for the direction of the gold price than risk sentiment is the path of real interest rates.
“Over meaningful periods of time, the gold price has an inverse relationship with real interest rates, such that lower real interest rates make for a higher gold price and higher real interest rates make for a lower gold price.”
He further explained: “This is entirely logical given that gold, which does not yield any income, competes with other asset classes for investor capital.”
And interest rates, having been cut to all-time lows at the outset of the pandemic, are likely to stay low until the economy starts to grow significantly; particularly in the US.
“By its own projections, the Fed will not be raising rates until 2023 and I would not be surprised if its first rate-hike fails to materialise before 2025,” said Mahoney (pictured).
“It is worth remembering that after the Fed cut rates to zero in 2008, in response to the global financial crisis, it subsequently left them unchanged for seven years.”
As such, near-zero interest rates are likely to remain a feature for some years to come.
Mahoney highlighted the UK, which has been one of the hardest-hit developed economies and will likely take longer to recover than the US. Therefore it is likely to keep rates lower for longer.
“Investors certainly aren’t discounting the notion of the Bank of England cutting rates even further during this cycle and it is noteworthy that it recently wrote to a number of firms to request information about their operational readiness to implement a zero or negative bank rate,” the manager added.
Although there will be little appetite to raise rates while economies recover from the impact of the coronavirus, it will depend on the inflation outlook.
However, this is unlikely to pose a threat to real rates on either side of the Atlantic, said Mahoney.
“For the last decade or so, inflation in both countries has fluctuated within a narrow range and has been persistently low,” he explained.
“There are no signs that this is about to change, but it is well understood that both the Fed and Bank are keen to see higher inflation on a sustained basis, having seen inflation in their respective countries below their targets for so long.
The manager continued: “It follows that unless inflation moves significantly above their targets, or becomes problematic, both central banks will be reluctant to act to suppress it with higher interest rates.
“This tolerance for higher inflation was reflected in the Fed changing its target for inflation this summer from an upper bound of 2 per cent to an average of 2 per cent over time, which could allow for a lot of observations above 2 per cent.”
As such, higher inflation could make for lower real interest rates, which is more conducive to gold prices, said Mahoney.
“It seems probable that real interest rates in both the US and the UK will move lower by virtue of lower nominal rates and/or higher inflation before they move higher and so, risk-on or risk-off, I believe gold will continue to shine,” he concluded.
The Merian Gold & Silver fund, which is now part of Jupiter’s range, has been overseen by Ned Naylor-Leyland since launch in March 2016.
It targets a total return greater than that of the composite benchmark, comprising 50 per cent the gold price and 50 per cent the FTSE Gold Mines index over rolling three-year periods. The fund does this by investing between physical gold and silver and mining shares, depending on prevailing economic and market conditions.
Performance of fund over 3yrs
Source: FE Analytics
This year the fund has made a total return of 19.18 per cent (to 27 November) and has returned 44.81 per cent over the past three years. It has an ongoing charges figure (OCF) of 0.88 per cent.