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Gold bulls tout “remarkable piece of good news”: falling real rates

Analysts also predicting surge in Chinese, Indian demand

With gold once again below the $1,300 level and stocks hitting new highs, gold bears are out in force again — but they’re ignoring a key driver that could renew the yellow metal’s run higher: negative real interest rates.

Negative rates are “the only fundamental that matters,” declares Jordan Roy-Byrne of The Daily Gold. Negative rates occur when the rate of inflation as measured by CPI, exceeds key interest rates. “Gold rises when real interest rates are negative or declining sharply,” he writes. “It’s simple to understand. If investors and fund managers can earn a real rate of return on a money market fund, CD, or bond, then there is no need for an alternative currency. If you can’t earn a real rate of return safely, then you’ll seek alternative currencies such as gold and silver.”

The negative-rate climate is one reason why Julian Jessop of Capital Economics remains bullish.

“The neutral level for official interest rates in the longer term has fallen, which should reduce the opportunity cost of holding gold,” writes Jessop. “Unless there is a decisive move below $1,200 per ounce, which seems unlikely given the (rising) floor set by mining costs, we are therefore retaining our end-2014 forecast of $1,450.”

And in summarizing Ned Davis Research analysts’ recent take on gold, Barron’s noted: “The remarkable piece of good news that’s getting ignored is that real interest rates have stopped increasing. Real rates, at least historically, enjoy the single strongest correlation to gold prices, and they leveled out in 2014. Lately they’ve even pulled back a bit. ‘Gold normally reacts favorably to falling real yields.’”

With bombshell news this week that the European Central Bank is imposing a negative interest rate, which could result in commercial banks charging their customers to hold their deposits, the Federal Reserve and other global central banks could feel the pressure to follow suit in a desperate bid to keep their own currencies weak for trade advantages. In other words, the current climate seems to be favoring low rates.

Additional firms also remain bullish, but for other reasons, including Asian demand.

Demand there should “pick up again in the second half of the year, which should result in a rising gold price, especially since the headwind from ETF investors is likely to further abate,” Commerzank analysts wrote. “We are confident that gold demand in India will pick up noticeably as compared with the first half year and last year once the import restrictions have been eased. China is also likely to demand more gold again in the coming months.”

Dundee Capital economist Martin Murenbeeld also remains a long-term gold bull, but he sees some potential short-term pain ahead, he told the 2014 Canadian Investor Conference in Vancouver. Why? Because of gold’s traditional seasonality. Gold is seasonally week between April and August before picking up again in the final quarter of the year.

Despite gold’s seasonal peak’s and valleys, one can’t predict the future, so bullion should be in a portfolio at all times. That’s what IVA Funds’ chief investment officer, Charles de Vaulx, recently told Barron’s: “We continue to hold a position in gold bullion ... as a hedge against extreme outcomes.”

Indeed. Despite news record stock-market highs, prudent investors should always be prepared for potential black swans and unforeseen events that can ravage a portfolio invested too heavily in any one area, such as equities. The perennial portfolio diversifier remains precious metals.


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