Gold rally leaves wealth managers wondering if price is still right

Chinese leader Xi Jinping and Russian president Vladimir Putin vowed last week to work together against what they called the “destructive and hostile” US. And few commodities have been as affected by their policies as gold.

Just days later, on Monday this week, the precious metal’s price soared to a record high of $2,450 per troy ounce — taking its gains to 25 per cent since October 5, just before conflict erupted in the Middle East. It is a rally that has been underpinned by the fracturing of the global monetary system, as nations like Russia and China seek to loosen their dependence on the US dollar.

With the safe haven asset trading at this all-time high, however, Chris Forgan, multi-asset portfolio manager at Fidelity, says: “the million dollar question, as an investor, is: is it still warranted?”

One of the puzzling elements when assessing gold’s recent rally is its disconnect from two usually closely-linked variables: the US dollar and the inflation-adjusted yields on US Treasuries.

“The jaws have opened up” between them, says Forgan, who has reduced the allocation to gold in his portfolio from 6 to 3 per cent, to take profits from the recent price surge.

A big factor behind this disconnect is that central banks have been boosting the bullion holdings in their reserves at an unprecedented rate since the start of 2022, to increase their resilience against western sanctions that could weaponise the primacy of the US dollar in global trade.

Official institutions led by China made their largest ever early-year gold purchases — buying 290 tonnes of the metal in the first three months, according to the World Gold Council, an industry group. The west’s move to freeze about half of Russia’s $600bn reserves, which are denominated in US dollars and euros, in the wake of Putin’s invasion of Ukraine was the main catalyst for the buying spree.

Added to that has been a pivot to buying gold by Chinese consumers, as the real estate market and local equity markets disappoint, and concerns persist over stubborn inflation and high levels of global debt. All of this has pushed the precious metal’s price higher.

Even as expectations of US interest rate cuts were wound back in recent months, gold continued to roar higher.

John Reade, chief market strategist at the WGC, says this indicates that the reasons people are buying gold “aren’t actually very much to do with the US and western financial markets”.

Instead, he believes the reasons have far more to do with what he calls “soft de-dollarisation” — whereby countries outside of the US network of allies diversify their reserve holdings to gold, partly because no other currency is able to step in to fill the void.

Gold exchange traded funds, which are typically used by western investors, continued to record net outflows in the first quarter of 2024, WGC data shows — indicating that the epicentre of the rally lies in the Far East.

But the higher gold gets, the more that macroeconomic headwinds — such as a stronger dollar and higher real interest rates — will start to constrain the commodity’s scope to move higher, says Nicky Shiels, head of metals strategy at MKS Pamp, a Swiss refinery and trader. These were the key factors that caused gold’s rally to pull back and stall around $2,300 per troy ounce for a fortnight at the end of April, she argues.

That has also worked the other way, though. Softer US inflation data last week boosted traders’ expectations that the Fed would cut interest rates twice this year, which would favour the non-yielding asset as returns on bonds would be diminished from the fall in real yields.

“I’m hesitant to say what you’ve seen is a systemic change in the drivers of the gold price,” says Forgan at Fidelity.

Many fund managers feel sure that the risks in geopolitics and the fiat currency system are only marching higher. They cite the major conflicts in Ukraine and the Middle East, a US election that might herald the return of Donald Trump to the White House, stubborn inflation, and $315tn of global debt, based on Institute of International Finance data.

That, they say, creates a vital role for gold as a wealth preservation tool, since it tends to rise when many other asset classes fall and during times of global upheaval.

Alex Chartres, fund manager at asset management group Ruffer, argues that “you want to own things governments can’t print” when the only likely solution for the US to solve its debt crisis is “financial repression”.

Steven Jermy, a renewable energy executive who served in the UK’s Royal Navy for 34 years, agrees — and holds most of his wealth in precious metals. He estimates that the gold price has about 30 per cent additional upside because he believes the US will have to inflate its way out of its debt situation. “If you take bonds and equities, they yield but it gets wiped out by inflation,” he says.

However, others suggest that the global risks are overstated and gold will do little to preserve wealth even if the global economy turns ugly.

Arnim Pinateau, who has recently retired after a career in accountancy and human resources, says that he will never invest in gold because, in his 45 years of investing in bonds and shares, he has only had a few bad years. In addition, he considers that war in western Europe is “not a heavy probability” in the next five years. “I will stay in my ‘no gold’ position and just keep as a memory the coin my grandfather gave me for my 10th anniversary,” he says.

Gold prices may even be dragged down if Chinese consumers lose their newfound penchant for precious metals as a way to preserve their wealth.

But, for now, with no easy way for Beijing to turn round economic sentiment, with global risks rising, and with dormant western investors ready to buy gold as soon as they are convinced the Fed will slash interest rates, most portfolios are likely to find a place for an asset with a 5,000 year pedigree in protecting wealth.

“Gold is a portfolio diversifier and a hedge against monetary and geopolitical instability,” says Chartres of Ruffer. “We expect more of both in the year to come as we are entering a more inflation prone and volatile era.”