During the recent equity market selloff in early August, gold hit a new high at USD 1’900/ounce. In our last update in late April we said that gold needed another driver to continue its strong upward trend. The equity market correction proved to be the triggering event for another jump in gold and silver prices.
Since that move in August, prices have consolidated somewhat and are currently trading around USD 1’820/ounce. The long-term upward trend remains in place, however, we expect higher volatility of precious metals in coming weeks. The reason for this is that we currently have a market environment, where people are very unsure about what happens next. From a macroeconomic point of view, we don’t know whether we are going to find ourselves in the midst of a recession next year or whether we are able to muddle through somehow, this is what the Federal Reserve refers to as “soft patch” economy. A recession would cause some deflationary pressure initially and we would expect this to be bad for equity markets, bad for precious metals (although not as bad as for equities) and probably U.S. Dollar positive. On the other hand, if we continue to see modest growth in the coming 12 months, I think that equities will do very well eventually, despite the risk of a further selloff in the near future. Under such a scenario, precious metals should be well supported and gold will most likely approach and possibly exceed the USD 2’000 mark/ounce, with silver being strong as well. For the U.S. Dollar, this would probably mean continued weakness versus most major currencies (Swiss Franc = special case). Despite the fact, that the longer-term outlook for precious metals remains in place, short-term there could be significant downward pressure, especially if economic momentum turns out to be more positive. Also external factors, such as increased margin requirements or speculation about a gold tax, could bring the gold rally to an abrupt end. Given the increased uncertainty in coming months, we think investors should still hold a significant position in precious metals, but also look to take profits on rather extreme moves to the upside. Cash generated through such profit taking can be invested in stocks of large precious metals mining companies. These companies are trading at compelling discounts to the spot metal prices and these stocks have recently started to outperform the broader stock market. The reason for this is very simple, in a time when equity markets are correcting, the increased correlation of gold mining stocks will cause prices to fall as well. At a later phase, however, investors are starting to realize that higher gold prices lead to a significant increase in profit margins for those companies just as we are seeing now. Also, gold companies will most likely increase their payouts significantly in coming years, therefore make a gold investment more interesting, because investors also get paid attractive dividends. So we don’t make a call to significantly reduce precious metal exposures but we do think about alternative ways to profit from the high prices we are seeing.