Gold lost some of its luster toward the end of 2020 after posting substantial gains over the spring and summer. However, although investors started to shift back into risk assets due to expectations of an economic recovery, the gold rally may not be over yet.
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In its Gold Outlook 2021, the World Gold Council said ballooning federal budget deficits, inflation, market corrections and already high stock valuations will drive the gold price higher this year. The organization believes these factors will support investment demand, while the economic recovery will drive gold consumption, especially in emerging markets.
Why Gold Soared In 2020
The World Gold Council noted that gold was one of 2020's best-performing assets due to high risk, low interest rates and positive price momentum, especially in the late spring and summer. It also said gold had one of the lowest drawdowns last year, which helped investors limit their losses and manage volatility risk in their portfolios.
In early August 2020, the LBMA gold price hit a high of US$2,067 an ounce and record highs in all other major currencies. Heading toward the end of the year, the yellow metal consolidated below that level, although it remained above $1,850 for most of the third and fourth quarters.
The World Gold Council believes gold's performance in the back half of 2020 was linked more to physical investment demand via gold ETFs, bars and coins instead of the futures market. The organization pointed out that COMEX net long positioning hit a record high of 1,209 tons in the first quarter but ended the year nearly 30% below that level.
The WGC believes it resulted from the dislocation experienced by COMEX futures in March relative to the spot gold price, which made it more expensive to hold futures than other forms of gold.
What to expect in 2021
The organization expects gold investment to react to interest rates and inflation. It noted that global stocks did especially well in the last two months of the year as the MSCI All World Index climbed nearly 20%. However, caution returned due to a spike in COVID-19 cases and reports of a more infectious strain of the virus. Nonetheless, neither those problems nor the raid on the U.S. Capital in the first week of the year has kept investors from holding or expanding their risk exposures.
The price-to-sales ratio of the S&P 500 is at unprecedented levels. The WGC also noted that Crescat Capital's analysis indicates that the 15 factors which make up their valuation model for the S&P are at or close to record highs. The WGC believes the very low interest rates will keep stock prices high. Thus, there could be sizable market swings and pullbacks if there are problems with the COVID-19 vaccination programs or other issues.
The council also noted that many investors are concerned about possible inflation risks from the soaring budget deficits, low interest rates and surging money supply. The inflation concerns are heightened further by comments from the U.S. Federal Reserve and the European Central Bank that indicated they are more willing to tolerate inflation above their traditional targets.
Good factors for gold in 2020 and 2021
Historically, gold has done well when the stock markets have pulled back and during times of high inflation. The WGC said in past years when inflation was higher than 3%, the gold price climbed an average of 15%. Oxford Economics demonstrated in a study that gold should also perform well during times of deflation, which are usually marked by low interest rates and high financial stress. Additionally, the WGC said gold has been more effective than U.S. Treasuries at keeping up with the global money supply over the last 10 years.
Most economists believe growth will recover in 2021, although they also expect it to remain anemic for a while. The council said gold's more stable performance since August 2020 could present buying opportunities for consumers. It believes gold consumption in China and India will continue to improve this year.
The WGC also believes demand from central banks won't go away, although it was tempered in 2020. Central bank demand for gold was positive in the first half of the year but became more variable in the second half, moving between net buying and net selling. Russia's central bank stopped buying gold in April 2020, although the world's central banks are expected to finish the year as net buyers of the yellow metal. The WGC expects 2021 to be similar to 2020 in terms of central bank demand.
The council also expects gold mine production to improve this year after the decline in 2020. It said mines might see fewer stoppages this year as the world starts to move past the pandemic.