Investment Idea

Gold that glitters

Anna Svahn
19/12/2022 | 2 min read
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For those who expected the same development of the gold price as we saw in the 1970s when inflation was last as high as today, the last year's development for gold has been disappointing. But despite the fact that there are several similarities between the period during the 1970s, there are also several important differences.

Just as then, inflation is now higher than in a long time. From over a decade of central bankers saying that the biggest threat to the economy is deflation, history has now turned and the same central banker who just a couple of years ago expanded the US monetary base by more than 25 percent must now pull the brakes to control that inflation which is demand-driven.

Note: Year-on-Year (YoY) changes.

In the same year that Powell expanded the money supply by over 25 percent, the price of gold rose by about the same amount, but since then we have seen the price fall from a peak of over $2,000 to a low of just over $1,600 in 2022. Since the bottom in early November, however, the price has moved on the upside simultaneously with, among other things, shares, and is now trading close to the USD 1800 mark.

Note: Past performance is not a reliable indicator of future results.

The difference with the 1970s and now, however, is that then the USA and the world entered a period where the USA had just completely left the gold standard, which meant that 1 oz of gold was no longer pegged to the price of USD 35, which led to the price in just a few years rising to USD 200 before falling back 50 percent in the mid-1970s again, then continuing to rise to over USD 800 per oz before Volcker finally raised rates to 20 percent.

However, there are several explanations for the sluggish development of the gold price over the past year. As the Federal Reserve has pumped financial markets full of excess liquidity, it has led to assets that historically had low correlation to each other instead moving simultaneously. The explanation is that with the abundance of capital in financial markets, most of it has moved into risk assets, causing them to rise together. When the Fed then raises the interest rate and cautiously tightens the monetary policy, the same capital flows out of the previously mentioned risk assets and these therefore move simultaneously downwards.

With less liquidity in the market, the correlation characteristics are expected to return to previous patterns, which means that investors can expect lower correlation between stocks, gold and other commodities going forward - if the Fed sticks to its plan to tighten the economy.

In other words, the last few years' movement in the price of gold says nothing about whether or not gold is a good or bad inflation hedge. What we do know, however, is that over long periods - decades - gold has retained its purchasing power when fiat currencies have fallen in comparison, and with high inflation globally, the risk of not owning hard assets can be greater than actually including them as a small part in one's portfolio.

This information is in the sole responsibility of the guest author and does not necessarily represent the opinion of Bank Vontobel Europe AG or any other company of the Vontobel Group. The further development of the index or a company as well as its share price depends on a large number of company-, group- and sector-specific as well as economic factors. When forming his investment decision, each investor must take into account the risk of price losses. Please note that investing in these products will not generate ongoing income.

The products are not capital protected, in the worst case a total loss of the invested capital is possible. In the event of insolvency of the issuer and the guarantor, the investor bears the risk of a total loss of his investment. In any case, investors should note that past performance and / or analysts' opinions are no adequate indicator of future performance. The performance of the underlyings depends on a variety of economic, entrepreneurial and political factors that should be taken into account in the formation of a market expectation.