Mid-year 2020 Gold Outlook

Half Year 2020 Gold Perspective

Gold in 2020 was grasped by investors as a major portfolio hedging strategy. However, the COVID-19 pandemic will have a lasting effect on asset allocation and boost the role of gold as a strategic asset. High risk, low opportunity cost and positive price momentum looks set to support gold investment and offset weakness in consumption from an economic contraction.

Gold exceeded in H1 as equities recovered
In the first half of 2020, Gold performed incredibly, increasing by 16.8% in US-Dollar terms and exceeding all other primary asset classes. LBMA Gold Price PM was trading towards end of June close to US$1,770/oz, a level last seen in 2012, and reaching record highs in all other major currencies. Equity markets worldwide recovered strongly from their lows in the first half year but nevertheless, the uncertainty of the Covid-19 pandemic and the very low interest rates promoted strong flight–to–quality flows.

COVID-19 has damaged the world’s economy drastically leading to high unemployment and wealth destruction and leaving investors in uncertainty and a possible long-lasting impact on their portfolio performance. Gold could be a valuable asset and help investors diversify their risks and improve to risk-adjusted returns.

Changes in asset appropriation due to Covid-19
Consequences on asset performance due to banks cutting rates, expanding asset purchasing programs for stabilization and stimulation of economies because of Covid-19 are:

• More pullbacks due to soaring equity market valuations which are not always backed by fundamentals,
• Increasing corporate bond prices pushing investors further down the credit-quality curve,
• Reduced effectiveness of short-term and high-quality bonds as hedges,
• Worries about long-term inflation and erosion of the fiat currencies value due to increasing government debts and fiscal stimuli.

Therefore, due to the above - mentioned points, Gold is likely to play an increasingly relevant role in investor portfolios.
Overpriced Equities could cause strong pullbacks
Covid-19 has changed the trend of global equities causing their pullback by dropping by more than 30% during the first quarter of the year but have recovered sharply since, especially tech stocks. Nevertheless, stock prices don’t appear fully supported by company fundamentals or the overall state of the economy. Investor’s worries about pullbacks and Gold’s hedge effectiveness may help reduce the risks regarding equity volatility.

Limited protection by bonds
Low rate environment lead investors to increase their risk level in their portfolios by purchasing longer-term bonds, lower-quality bonds or replacing them with more risky assets such as stocks or alternative investments. Therefore, it is very likely that investors will not have the same bond returns as in the past and might see an average compounded annual return of less than 2% (+1%)
in US bonds over the next decade. This will be particularly challenging for pension funds, since many of them are required to deliver annual returns between 7% and 9%. Lower rates increase pressure on the ability to match their liabilities and limit the effectiveness of bonds in reducing risk. Therefore, investors might consider Gold as a viable substitute for some of their bond exposure.

Inflation, deflation
It is evident that asset price valuations are affected by low interest rates and asset purchasing programs but it is not clear what effect monetary and fiscal policies will have on inflation and whether quantitative easing and increasing debts will lead to inflation or not. There are some indications though that deflation is happening already. While the price of necessities spiked during the lockdown in China, consumer price inflation has fallen from 5.2% in February to 2.5% in June. And some economists predict outright deflation by the end of the year. Periods of low interest rates and high financial stress lead to high demand of Gold and historically has Gold protected investors against extreme inflation. When inflation is higher than 3% gold’s price increases 15% on average. Oxford Economics show that Gold should do well in periods of deflation!

Conclusion
High risk, uncertainty, low opportunity cost and positive price momentum are the four drivers for demand in gold investment in the current global economic environment.
Historically, investment demand during periods of financial stress has offset weakness in consumer demand and it’s believed that 2020 will be no exception. However, Gold’s performance may depend on the speed and shape of the recovery, which investors can analyse using Qaurum.