Gold finished last week with a bit of a whimper as the precious metal entered into it’s longest slump in nearly three months. The stark weekly decline in the yellow metal from its YTD high of $1,220.10 comes amid a distinct switch to a “risk-on” mode in equities.
The Dow Jones Industrial Average closed above the key level of $20,000 for the first time in history; the Nasdaq and S&P made new records as well. “With the Dow Jones touching a fresh high, there’s a new wave of interest in the market,” said Jingyi Pan, a market strategist at IG Group.
From a fundamental standpoint, the fact that equity markets continue to reach new highs is not overly surprising, especially given that only a few months ago investor cash was at its highest level in 16 years.
Copious amounts of investor cash, that’s perfectly ready to be used at a moment’s notice, directly translates into large institutional investors (who have the ability to move markets) chasing rallies and pushing markets to new highs. Simply put, nobody wants to miss out on a good stock market rally, and there’s no shortage of money to keep gobbling up stocks and trying to get in on the action.
However, sidelined cash is definitely not the only explanation of the market rally. Analysts also attribute the strong uptick in stocks to the imminent implementation of President Trump’s new business-friendly policies. Politics aside, markets evidently concur that creating tax incentives for companies to conduct business in America is likely to directly benefit the American economy.
In addition to cash levels and new political measures, solid 4th quarter earnings boosted stocks across the board; 69.2% of the companies that have reported earnings thus far have topped expectations, compared with a 63.3% average since 1994 according to data compiled by Reuters.
Essentially, earnings are growing, valuations seem reasonable, and investors are optimistic about the next four years. Unfortunately, this seems to make other investment instruments, like precious metals, take a back seat to stocks.
In spite of the current downtrend in gold and uptrend in stocks, analysts remain bullish on gold for 2017, because there are still legitimate worries over global growth and political stability.
The Economic Policy Uncertainty Index, which tracks things like media coverage of economic issues and tax code alterations, reached its highest level in over 80 years of analyzed data. With that said, researchers at Thomson Reuters GFMS are calling for gold to average around $1,259 an ounce in 2017.
In the weeks ahead, the Chinese Lunar New Year awaits, and US investors are keeping a close eye on the effect that a week-long market closure in Shanghai will have on US markets. If anything, it is a period of time that only occurs once per year where investment risk from China is greatly diminished. What this means is, because the Chinese markets will be closed for a full week, it is impossible for a sell-off in Chinese stocks to adversely affect US markets (which happed frequently in 2015), and this translates to a larger apatite for risk among US investors.
Therefore, there are fewer and fewer signs that point towards any equity risk reduction among investors, even at all-time market highs, in the near future.