The last month has been a tough one for gold futures. The value of gold per ounce has lost about $80 over the last month and also suffered the biggest one-day drop since 2013 in early October. Gold futures have declined as investors are spooked by the potential of higher interest rates, a stronger dollar, as well as an increase in global economic and political stability.
But gold should be stabilized for now by actual demand for the metal, and there are reasons to believe that the Federal Reserve rate hike is not going to be the blow that most people assume. While investors should probably hold off on buying gold in the very short term, the upcoming rate hike could actually represent a good opportunity to get gold at a cheaper price before its value increases next year.
Are Interest Rates Important?
The first problem with gold is that the Federal Reserve looks to be ending its dovish monetary policy and will probably raise interest rates in December. Bloomberg reports that there is a 74 percent chance of a December rate hike, and the Federal Reserve may begin taking a more aggressive approach of rate hikes to fight inflation and end the perverse incentives which have resulted from such a long period of low interest rates.
Raising interest rates is bad for gold because investors can expect higher yields on bonds and commodities, which causes them to turn away from gold. It also strengthens the U.S. dollar, which has been a key cause behind gold’s recent price fall.
But even if the Federal Reserve does decide to raise interest rates in December, it is going to be cautious about it. Chicago Fed President Charles Evans stated that he only expects to see three rates hikes of a quarter percentage point in 2017. And the United States is much more aggressive about its desire to raise interest rates compared to banks in Europe and Japan, where negative interest rates continue to be in place in certain areas.
While some investors will hear the word “rate hike” and panic, the size of these planned rate hikes should not seriously impact gold. It should be remembered The Federal Reserve’s decision to increase interest rates in December 2015 did not stop gold from rising for most of 2016.
Demand and other factors
While the Federal Reserve rate hike should not be that big of a problem for gold, there are other reasons why gold is going to have some short-term pain.
The first reason is that the world has calmed down compared to a crazier political summer. Hillary Clinton’s odds of winning the election have continued to climb and the hype about how Brexit would shake up the global economy has died down. According to Reuters, gold prices will likely decline in the case of a Clinton victory and increase if the more unpredictable Trump prevails.
There is also the fact that the demand for gold is inconsistent in India and China, two of the biggest buyers of gold. While demand could increase due to two upcoming religious festivals, Indian consumers are slated to purchase 650 metric tons of gold in 2016 compared to 864 tons last year. China is buying less gold jewelry than before, but the good news is that Chinese citizens are increasingly turning to gold as an investment. This fits earlier patterns of how the Chinese have turned towards investing in commodities, and could help spark a newfound demand for gold.
While there are reasons to be skeptical about gold, it still is viewed as a store of value in what are uncertain times. A gold IRA rollover is still popular, and a Clinton victory will be more stabilizing than a Trump victory, but the U.S. political system will be racked with turmoil as Republicans continue to battle with their long-time enemy. The markets may have calmed down from Brexit for now, but will that continue to be the case when the UK actually begins preparing to leave? There will be other economic and political storms in 2017, and people will turn to gold as a source of stability.
Buy – but not yet
Over the short term, gold has its issues which will likely see the price decline further. If Hillary Clinton wins and if the Federal Reserve does raise interest rates in December, these pieces of news along with an inconsistent demand will keep gold down for the rest of 2016.
But this is a temporary market correction and gold will have a solid 2017. I do not expect gold to perform as well as it has in 2016, but uncertain economic conditions as well as a change in how countries buy gold could give it a boost next year. And the Federal Reserve’s decision to raise rates will not be the dampener many think it is.
View lower gold prices for 2016 as an opportunity to buy low and reap a profit in 2017.