Gold lacking lustre as rate hike looms

Wealth investors’ interest in gold is falling as tensions between the US and North Korea begin to subside and the US Federal Reserve gears up for another rate hike.

But while most feel the commodity will be rangebound, and could decline, some argue that there is a buying opportunity ahead.

Gold has offered investors reasonably good returns so far this year. Its price has risen about 12% since the beginning of 2017 to reach $1,273 per ounce as of Friday (October). In comparison, the S&P 500 Index has risen 14% since the beginning of this year.

This decent performance has been in large part a result of the relative weakness of the US dollar. Gold is typically seen as a defensive investment, and it enjoyed a sustained rally between July and early September.

This was in large part down to the heightened geopolitical rhetoric between the US and North Korea, Tuan Huynh, chief investment officer (CIO) and head of wealth discretionary, Asia Pacific, at Deutsche Bank Wealth Management, told AsianInvestor.

He said the bank held 1.5% to 2% of its balanced discretionary portfolios in gold in the beginning of the year, but increased this to 5% over the summer.

“This was more for a portfolio balance and hedging purpose, as we took profit from the equities space and held more cash,” he added.

Huynh believes investors should consider buying the metal on dips, but not everybody is listening. “We are advising our clients to invest in gold when it trades below $1,300. However, we are seeing the opposite kind of reaction from them,” he said.

Ironically, clients with advisory portfolios were most interested in buying the precious metal when its price was above $1,300 per ounce. But after hitting a peak of $1,346 on September 7, its highest level in almost a year, gold has since slipped downwards, according to data by the World Gold Council. And when it slipped below $1,300 in late September, the same investors became less interested in buying it, Huynh said.

Pretty unyielding

Huynh said Deutsche Wealth Management’s base-line scenario is that US and North Korean tensions will not escalate. As a result, the price of gold is unlikely to greatly shift over the coming year.

He predicted that it will trade around the $1,300 level, but noted that its value, along with that of other commodities, will likely begin to deteriorate after the US starts increasing its interest rate, something expected to take place when the Fed meets in December.

The opportunity cost of holding gold will get higher when interest rate rises because it has no yield and people would rather deposit their money in banks, where it will earn more as rates rise.

Huynh’s view was echoed by others in the investment community.

“We are setting up a multi-asset fund [in 2018], which will invest in bond, convertible bonds, stocks, private debt, ETFs…but it’s unlikely to buy gold,” a Hong Kong-based portfolio manager in an asset managment company told AsianInvestor. 

He noted that because gold has no yield, a fund manager must be highly convinced that its price will rise before investing in it. But rising US rates are likely to cause the dollar’s value to increase too, which is more likely to have a negative impact on the value of the metal.

Névine Pollini, a senior commodity analyst at Union Bancaire Privée, added in a note on September 13 that speculative long positions in gold are at a one-year high, while North Korea did not flex its muscles at its Foundation of the Republic day on September 9. That means political tensions appear to have dissipated somewhat, which could leave room for a sell-off in the commodity.

Buying opportunity

However, George Milling-Stanley, vice president, head of gold strategy, at State Street Global Advisors (SSGA), believes that gold will rebound after the interest rate hike.

Ahead of US interest rate increases, it’s common that speculative investors go long on the dollar and short gold. But they then unwind those trades after the interest rates rise, Milling-Stanley told AsianInvestor.

“That means that, counter-intuitively, in the weeks and months after the rate increase, you often find the dollar weakening, and gold strengthening,” he said.  

He agreed that the price of gold might end up under some pressure if and when a rate hike happens in December, but “my view is that will be a buying opportunity for investors,” he said.

It’s also possible that there is a relatively firm floor for the value of the metal. Milling-Stanley noted that gold has long traded between $1,150 and US$1,350, and has not fallen below the former since 2015. Its price will not drop below that level even if the North Korea crisis is resolved, he predicted.

However, even assuming that range is correct, it also means that gold may only have a maximum upside of 6% from its current $1,270 value. 

And even though Milling-Stanley emphasised that small allocations to gold can improve risk-adjusted returns in a properly balanced portfolio, he agreed that it remains a safe haven asset in Asia.

 “[In Asia], it’s more the case of people are talking about the idea of allocating [to gold] in a strategic way rather than actually taking action. But people will always talk and discuss an idea before following through and translating that into real investment action,” he said.