When investors look back at the recent rally in the tangible asset market of precious metals, they may rightfully wonder what caused prices to soar. And soar they did! In less than a week and a half’s time (Feb. 3-12), gold prices hit a three-month, six-month and 12-month high. Recently, gold prices hovered at just under $1,250 an ounce, but some pundits and some gold bugs are already predicting a new ceiling at $1,550 per ounce.
That’s a pretty spectacular turnaround when you consider that at the beginning of December last year, gold was in the doldrums, trading at $1,046 per ounce.
So what moves the needle when it comes to precious metals spot prices in the precious metals market? Well, if we truly knew, you and I would probably own a private island by now. As with most market activity, the answers are much more mysterious. That being said, this article will tackle a few of the factors that tend to have an obvious bearing on spot metal prices. Some are fairly well known, such as the stock market’s inverse relationship with precious metals value. Some factors, especially lately, border on the absolute mundane. To wit, the recent mini-rally in precious metals value may have begun innocuously enough with a few offhand remarks by members of the Federal Open Market Committee. Guess that’s how rumors do get started, huh?
So, let’s take a closer look at the remarks in question. On Feb. 4, Federal Reserve Bank of New York President William Dudley said, “The tightening of financial conditions that have taken place since the Fed began raising short-term interest rates in mid-December is a matter of considerable concern to the Fed.” He also indicated that a weakening of the global economy, accompanied by further appreciation in an already strong dollar, could have “significant consequences” for the U. S. economy.
What happened as a result? Gold and silver rallied off his comments, and the dollar index began a sell-off. In addition, stock market instability (at home and abroad) began to shake investor confidence. As we previously discussed, the inverse relationship of stocks and metals tends to send investors rushing to safe havens like physical gold. So the prices shot up further.
Precious metals prices this time around were also buoyed by interest in their “paper” counterpart – ETFs (exchange-traded funds). And there has been a lot of interest in the gold ETF and most recently silver-backed ETFs joined the party. All of a sudden, and due in large part to global market instability, investors were quickly looking to shore up their accounts and stabilize their returns.
Words spoken aloud, even simple hints, have the ability to drive precious metals prices up or down. Take Janet Yellen’s (Fed Chairman) most recent testimony before Congress on Feb. 10, when she stated, “Tightening financial conditions driven by falling stock prices, uncertainty over China and a global reassessment of credit risk could throw the U.S. economy off track from an otherwise solid course.” Right after this comment was released, gold immediately traded up $8 dollars.
When looking at spot prices for precious metals like gold and silver, keep in mind that there are factors that “move the needle” short-term (as we’ve seen above) and factors that affect the long-term price predictions. A few long-term examples include:
Inflation – Investing in gold is typically seen as hedging against future inflation. History shows us that economies and markets are quite cyclical. While we are in a state of low inflation and weak growth, things do change. And when this cycle begins to turn, the price of commodities begins to rise. What you’ll usually end up with is positive trending prices in gold.
Geopolitical events – The world—especially the Middle East—is rife with “hot spots” where aggression, war and terrorism attacks are sadly frequent. The instability and uncertainty of several failed states have provided a breeding ground for groups like ISIS. While the effect is currently limited, any major event could disrupt global markets, highlighting long-term value for precious metals.
Central Bank purchases – Gold purchases by Central Bank decision makers have grown steadily since 2010. Here’s why. If governments need to diversify themselves from USD- and EUD-denominated assets, it usually lifts the upside potential of metals.
Going forward, in my opinion, the single MOST important factor in determining the future direction of the gold market will be interest rates. Sure, a decline in the dollar index or a sell-off in equities can also move the gold price higher. But keep in mind with the Fed governors seemingly in the news every week and taking different positions, all this does is create volatility in the gold market. The best advice I can give Janet Yellen is let the markets do what the markets do and leave the FED minutes to speak for themselves.
As we’ve seen, factors both large and small have a way of “moving the needle” on the spot prices of precious metals. After 40 years in the business, I still haven’t seen it all, but I hope this information educates investors on spot prices and what to look for when considering precious metals as part of a balanced investment portfolio.
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Walter Pehowich is executive vice president of precious metals investment services for Dillon Gage Metals, an international precious metals wholesaler. With over 40 years in the precious metals trade, Pehowich shares his industry insights and market analysis several times a week on Dillon Gage web site. Pehowich began his career in 1977 at Bache, which…
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