With its long history as a store of value, gold has traditionally been used by investors to guard against stock volatility, currency fluctuations and other market risks. But with gold prices treading water in the past year as other asset classes, including cryptocurrencies, have appreciated greatly, many investors are wondering whether gold is still worthy of a place in their portfolios.
Gold’s recent underperformance has been influenced by several factors, including central bank activities, potential interest rate changes and rampant inflation, all of which are thinning confidence in the long-standing safe-harbor asset.
Given that the price of gold has lagged in recent months, is now a buying opportunity for gold, or should investors hold off on buying the precious metal? Here’s what you need to know:
- The price of gold in 2021.
- Factors affecting the price of gold.
- Is gold still a good inflation hedge?
- Future outlook on gold.
The Price of Gold in 2021
Usually investors tend to allocate toward inflation-protection assets during an economic period where the prices of goods and services are rising, like now. That said, demand for gold has weakened. According to Goldhub, demand for gold fell 7% year over year in the third quarter and year-to-date demand for gold is down more than 9%.
Gold’s price is roughly $1,800 per ounce, which is down about 5% for the year but up significantly from prices seen three and five years ago. Even though the price appears to be lagging, it is historically high.
Gold reached a record, breaking $2,000, in August 2020 and since then has pulled back about 10%. “Most people look at gold in the last few months and are wondering why is gold not rising in the short term if Inflation is rising,” says Joseph Sherman, CEO of Gold Alliance.
Factors Affecting the Price of Gold
The answer, Sherman says, is rooted in economic policy: “The monetary expansion and stimulus has pumped the markets with trillions of dollars, squashing fear and causing risk assets to soar, like cryptos, stocks, junk bonds and real estate.”
As a result, investors are willing to take on more risk to cover for inflation. As gold’s price has slowed, investors have been turning to other assets like equities for greater yield.
Another influencing factor in the price of gold is the rise of cryptocurrencies, which could be eating into gold’s market share. Much of this weakening demand is exhibited by gold exchange-traded fund outflows, which continued in the third quarter.
There is an ongoing debate in the investor community whether cryptocurrency could function in a similar way to gold’s traditional role. Even though Bitcoin’s value is far from stable, some view the flagship cryptocurrency as akin to gold because of its fixed supply and performance potential. But gold is a tested asset, while Bitcoin is an emerging asset, which adds to investor risk.
Is Gold Still a Good Inflation Hedge?
Gold’s advocates have historically seen it as a safe-harbor asset that protects purchasing power against inflation during challenging economic times, since it tends to hold its value over the long term despite fluctuations.
Even though there is correlation between gold and inflation, that relationship could crumble in the short term due to multiple factors like bond yields, U.S. dollar volatility and other risks having a bigger impact on gold than inflation, says Mahesh Agrawal, assistant director at Acuity Knowledge Partners. But gold is likely to regain its inflation-hedge status as the current inflationary period continues.
“Empirical data suggests the relationship between gold and inflation usually improves during high inflation, as fears of value loss bring more investments into safe havens including gold. As inflation has been accelerating recently, the link between gold and inflation is also likely to recover over the coming year,” Agrawal says.
Future Outlook for Gold
A major factor that will affect the future of gold prices is the path the Federal Reserve takes with monetary policy.
The Fed is expected to start hiking interest rates in 2022, a less positive scenario for gold. This is because when interest rates increase, the relative cost of investing in gold increases, since it’s an asset that doesn’t pay out dividends or interest. In a rising-rate environment, gold may not be an appealing asset for investors to hold in their portfolios, which could impact future investor holdings of gold and put downward pressure on the price.
Wade Guenther, partner at investment firm Wilshire Phoenix in New York, says inflation and inflationary expectations can support gold prices even as 10-year Treasury yields rise. “Inflation has proven to be less ‘transient’ than expected and likely difficult to tame with continuing problems such as supply chain issues, rising energy prices, etc. Further, potential volatility in the equity markets could return the spotlight back on gold with its proven role as a portfolio diversifier and hedger,” he says.
Agrawal says a major factor that can bolster gold prices is healthy demand from India and China.
India’s influence in driving the precious metal’s growth is on the rise, and China is the world’s fastest-growing market for gold. According to the World Gold Council, gold buyers in China see drops in gold’s price as buying opportunities, another factor that could support gold prices.