Has Gold Lost Its Safe Haven Status?

At a Glance

  • Historically, we have seen aggressive buying of four assets during moments of market panic: the U.S. dollar, U.S. treasuries, Japanese yen and gold.
  • There are three primary factors that have resulted in gold’s plunge

Before we pull back the layers on this topic, I would like to make a solemn promise to avoid the temptation of using trite and tired analogies to describe the descending price of gold, such as “lost its luster”. We can all agree that it is time to retire that one.

The current reality is that gold, at the very least, is on probationary status in the traditional safe haven assets club. Historically, we have seen aggressive buying of four assets during moments of market panic: the U.S. dollar, U.S. treasuries, Japanese yen and gold.

To illustrate how strong and indiscriminate this impulse can be, we can look back to October of 2013, when U.S. Treasury debt received a downgrade from the ratings agencies due to budget concerns. The market’s panicked reaction was to buy the dollar, gold, and U.S. treasuries. You did read that last sentence correctly. The net result of a downgrade to treasuries resulted in a market panic wherein the same asset that was downgraded was also bought as protection. It does not make much sense to me either but that is the way it happens sometimes. Old habits die hard.

Three Factors to Consider

Over the last four months, gold futures have been knocked to the tune of fifteen percent, sparking reasonable speculation that gold is no longer a significant store of value or even a safe haven asset. My belief is that there are three primary factors that have resulted in gold’s plunge.

1) The dollar’s steady rise. Since mid-April, the U.S. dollar has increased in value by almost 8 percent. This increase was sparked by an improving U.S. economy coupled with attractive global interest rate differentials, not by safe haven buying. A strengthening dollar has an adverse effect on commodities denominated in dollars, like gold.

2) Increasing U.S. interest rates. The Fed has been pretty clear on their tightening intentions, and all U.S. rates have moved significantly higher in 2018. These higher rates make it more expensive to hold assets that have zero yield, like gold.

3) A lack of things to panic about. Since the Brexit vote on June 23rd of 2016, the market has been relatively sanguine regarding global events. Even the back and forth spurs with North Korea was essentially treated with a yawn from the market.

Lastly, I need to mention crypto currencies. Has the emergence of crypto eaten into our historic psychological reliance on gold as the alternative currency? Maybe, but my belief is that the effects are minor at this point.

What will help boost gold?

Although all these factors play a significant role in the decline of gold, the dollar’s increase in value affected gold’s value the most. As to the original question posed; has gold lost its status as a safe haven?

The answer is clearly no. All it will take for gold to move higher is an indication that the next domestic recession is on the horizon. If that happens, I would expect the Fed to pivot from its current path and begin to adopt a more dovish feel. Additionally, I would expect interest rates to move lower and the dollar to follow. If this happens while the European Central Bank and the Bank of Japan remain as dovish as they are currently, it will be even better as long as the dollar’s direction is lower.

I do not see a recession on the near-term horizon, so I do not expect gold to change its longer-term trend. However, there are a couple near term components that help complete the puzzle.

There are currently unusually high levels of short interest in long end U.S. treasuries and gold. That should leave both markets currently poised for a short-term counter trend bounce. If these things happen concurrently, the resultant rally could be sharp. I believe if December gold futures can settle above 1207, then we could see 1250. At this point, it should resume its downward trend.

Jim Iuorio is managing director of TJM Institutional Services and a veteran futures and options trader. Jim has spent his career brokering futures and options trades for large institutional clients in equity indexes, interest rate products, commodities and foreign exchange. His recommendations to clients blend macro-economic themes with technical analysis.

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