Bullion-Watch

Where is the price of gold heading in 2016?

U.S. Federal Reserve for the first time in nearly 10 years increased the interest rates creating turbulence in gold prices. On December 16, most active gold contract had fallen by 9 percent since the end of 2014, indicating the precious metal settlement will very likely log a third consecutive year of losses.

Heading into 2016, is gold going to bounce back from its multi-year lows as traders ceased to speculate about when the hikes would begin? Many investment banks’ predictions for 2016 suggest another tough year for gold amid low inflation and higher interest rates in the United States. In early July, Goldman Sachs’ Jeffrey Currie, who told investors to sell in 2013 before the metal’s biggest collapse in three decades, has predicted gold prices could trade below 1,000 U.S. dollars an ounce.

“We think we are in a structural bear market, not only in gold, but across the commodity complex, as the individual commodity stories are reinforcing to one another, creating a negative feedback loop,” Currie said in a late July interview. Goldman Sachs, JP Morgan, Citi, ABN Amro, and Societe Generale all forecast gold prices will break down below 1,000 dollars in early 2016, with the average price declining further from 2015 levels. ABN Amro’ s forecast, in one of the most bearish forecasts so far, suggests gold will drop to a low of 900 dollars or below during 2016. HSBC, however, believe that gold will finally bounce back in 2016 after repeatedly hitting multi-year lows. The bank also warned that gold prices are likely to remain under pressure in the short-term and may move within striking distance of 1,000 dollars before recovering.

The 2015 weakness in gold is due to several events occurring together: lower inflation, a surging U.S. dollar amid expectations that the Fed will increase interest rates, and sluggish physical demand for the precious metal as global growth slows down. These drags on gold in 2015 overwhelmed risk events, a major factor which sent investors running to buy gold, bringing the metal to a nearly six-year low. Most of them (drags) will not disappear next year, and might show more strength following a new Fed rate-hike cycle. In other words, the downward pressure on gold will continue to outweigh the support for the metal in 2016. Some analysts argue that historical data show gold rallies during the majority of Fed rate-hike cycles, with traders enjoying large average gains.

The last such occurrence was between mid-2004 and mid-2006, when gold jumped above 700 dollars from 400 dollars, while the U.S. central bank raised the federal funds rate 17 consecutive times. These analysts are potentially ignoring inflation as a factor, which has greater influence on the value of gold. Investors generally purchase gold for safety’s sake when markets and economies crash and doubt surrounds the value of paper currency.

 

The most important reason for the gold rally during the 2004 U.S. rate hike cycle is soaring inflation with many commodities such as oil staying on track to break their all-time record highs. But now many countries struggle to fight deflationary threats as commodity markets remain in multi-year downward trends with oil prices falling more than 60 percent since June 2014, hitting seven-year lows. U.S. core consumer price inflation is projected to climb no higher than 2 percent by 2017, according to an annual forecast released in late November by economists at the University of Michigan.

What can history actually tell us about gold? Gold prices have experienced two most serious bubble phases since the collapse of the Bretton Woods system with the U.S. dollar being taken off the gold standard in the early 1970s: In the first phase between 1979 and January 1980, the metal jumped by 325 percent to a record high of 850 dollars from 200 dollars. Another large jump occurred as gold gained about 375 percent from mid-2004 to August 2011, reaching an all-time high of about 1,900 dollars.

The two bubble phases came from very similar backgrounds with uncommon high inflation accompanying severe global crises, and the difference is that there is a new push in the later period with U.S.-led Western countries employing massive quantitative easing programs, sending gold more than double its record highs in 2007, while oil and other commodities fell into a long-term bear market, far away from the 2007 historical highs. As history often repeats itself, could the 1980 bubble cycle give us clues about the question: how deep and long this gold bottom could go?

In January 1980, gold hit 850 dollars an ounce. After reaching those dizzy heights, it plummeted and remained steady in the 300-400 dollar range for 22 years before starting to climb again to new levels. As a result of worries on central banks reducing gold bullion reserves, in August 1999, gold fell to an all-time low of 252 dollars, about 70 percent lower from the previous peak. When the cycle turns, gold will have its day again. But the price of gold in 2016 will very much depend on how rapidly the Fed decides to tighten monetary policy, and gold could continue to experience a hard time before the Fed signals that this hike will be the last for some time.

Courtesy: China Economic Net