With the price of gold approaching its highest levels ever at a time when stocks and bonds are suffering, many investors are wondering what is happening, why are we currently witnessing a rise in gold prices, especially in light of these difficult times?
What are the reasons that will push the price of gold in dollars to rise during 2023?
Gold prices rose due to the weakness of the US dollar
Gold like other commodities is mainly traded in US dollars, the most influential gold trading venues in the world take place in London and in New York there gold is traded exclusively in US dollars.
Although gold is traded in US dollars, the United States accounts for only a few gold purchases, instead China and India are the two largest gold buyers.
This means that when the US dollar falls it becomes easier for people outside the US to buy gold, this can then translate into more gold buying which supports prices.
We can see the impact of the US dollar on the price of gold by looking at the correlation (relationship) between the US dollar index (called DXY which measures a basket of world currencies against the US dollar) and the spot price of gold.
Specifically looking at how that changed over the course of the year as the price of gold moved, in the first half of 2022, during which the price of gold traded sideways, the correlation was essentially zero, indicating that there is no correlation.
But in the second half of 2022, during which gold rose, the correlation dropped to -0.59, suggesting that the weakness of the US dollar largely explains the higher price of gold.
In December, the American Dollar Index fell below its 200-day moving average for the first time since June 2021, possibly indicating that US dollar weakness is gaining momentum. This continued weakness of the US dollar is the main supporter of gold prices at the moment.
Rising prices forecast lower real interest rates
Gold, like other assets, is directly affected by prevailing interest rates, and gold as a general rule does best when real interest rates (which include the effect of inflation) are low or even negative.
The reason is that it can be more attractive when you are not paying cash and bonds, which are gold's primary competitors in the case of "safe" assets i.e. real income as well.
Because of this characteristic, many investors believe that gold is a type of inflation hedge. When high inflation and low central bank interest rates work together to ensure that cash and bonds have little income to offer, gold tends to shine.
As of late January, the market still expects the Federal Reserve to cut interest rate hikes, according to futures markets traders expect the Fed to cut interest rates in the second half of the year, as such the appetite for gold is rising.
Central banks buy larger amounts
Conventional wisdom says that central banks ended their marriage to gold with the collapse of the gold standard in 1971, and the Reserve Bank of Australia, which sits on nearly $7 billion worth of gold in London, hasn't added an ounce since.
However, the reality is more complex. Many central banks around the world continue to add gold to their stockpiles even today. According to interviews with central bankers conducted by the World Gold Council (WGC), the main reason why global central banks continue to buy gold is diversification. (Central banks, like maximum investors, like to diversify their asset base.)
The role of central banks in the gold market came to prominence in October and November. The People's Bank of China (PBoC) took gain of decrease gold expenses in those months to shop for file quantities of gold. As of November, approximately 3.8% of the total reserves of the People's Bank of China (PBoC) were held ) in gold according to the WGC.
Meanwhile, the Bank of Russia is said to be buying gold in record quantities without reporting its gold holdings to the International Monetary Fund, as is customary. (Hence no Russian buying of gold in the chart above).
Russia likely did this to support its gold mining and refining industries, which were frozen out of international trade (South Africa did something similar during apartheid, when its gold industry was frozen out of international trade).
This buying of gold from Russia and China meant that central banks bought more gold in the third quarter of 2022 than in any other quarter in 55 years, and this also helped fuel the recovery.
We would like to point out here that the role of supply and demand in determining the price of gold
Determining the price of gold, like any commodity, is subject to the forces of supply and demand, but this precious metal remains of high value and is used in savings, so it has a high price.
Demand for gold and silver
Rising gold and silver prices are usually due to increased demand from investors as it is widely used for saving as well as investment.
The demand for gold and silver from investors has grown exponentially over the past two years, but in recent months this demand seems to have grown astronomically, there are few reasons for that.
First, the likelihood of an imminent recession is getting more real and clear every day. People who might have underestimated the possibility of a recession two years ago now realize that the economy is in bad shape.
As household debt mounts and companies begin to lay off workers and the workforce shrinks, it becomes clear that the economy is not in good shape.
Then there is the fact that there is still plenty of time to hedge your investments, the markets still believe that the Federal Reserve is going to pounce, so the correction that many of us have been waiting for months has yet to materialize.
The total demand for gold and silver coins has increased all over the world and this increased demand leads to higher prices, and this is increasing dramatically in emerging markets, especially those that are witnessing the collapse of currencies.
Of course, it is important to remember that precious metal coins are always sold at a higher price than the spot price, the price you pay may depend on the spot price, but it will be a percentage higher than the spot prices.
On the other hand, the collapse of more monetary currencies against the dollar leads to an increased demand for gold and silver, whether for bullion or silver and gold coins, which are among the best options.
The supply of gold and silver
The combination of increased investor demand and supply issues in the various mints helped reduce the actual supply of gold and silver coins available for purchase.
In the case of the US Mint, for example, the Mint sold just 980,000 ounces of gold coins last year, down from 1.252 million ounces in 2021.
Sales of US silver coins also fell further, from 28.275 million ounces in 2021 to 15.964 million ounces last year, a decrease of 44%.
This is a problem, particularly because the Gold American Eagle and Silver American Eagle are among the most popular precious metal coins.
The US Mint faced several supply issues in 2022, including an inability to supply enough coins for many of its silver coins.
These supply issues are not unique to the United States either, as other mints around the world are having a hard time keeping up with the increase in investor demand for gold and silver coins.
It is these supply constraints that are helping to drive up premiums on gold and silver coins right now, hunting off many potential buyers of the precious metal.
It is hard to imagine that 2023 will not be a good year for gold and silver, especially if the long overdue recession becomes a reality. Demand for gold and silver remains strong which bodes well for the gold price.
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