"Golden Triad: 50-Year Perspective"
This year, the price of gold has continued to rise, with COMEX gold prices breaking through $2,600 per ounce. Looking at a longer period, this bull market for gold began in 2018, and what factors are driving the continuous rise in gold prices? How does this compare to historical gold bull markets in terms of similarities and differences?
1. The Triple Attributes of Gold
Before 1970, the US dollar was pegged to gold, and the price of gold fluctuated narrowly around the US government's purchase price. After the collapse of the Bretton Woods system in the 1970s, the price of gold gradually became market-oriented. Looking back at the history of gold price fluctuations since the marketization of gold prices in 1970, they have been mainly determined by commodity attributes, monetary attributes, and safe-haven attributes.
Commodity Attributes: The price of gold is highly positively correlated with the prices of commodity goods and inflation. According to data from the World Gold Council, in 2023, the demand for gold in jewelry accounted for 49%, industrial gold demand accounted for 7%, investment demand accounted for 21%, and central bank gold purchases accounted for 23%. It is evident that the commodity demand for gold (jewelry + industry) accounts for more than half, which is closely related to its bright luster and stable properties. At this time, the trend of gold prices is mainly related to the macroeconomic situation. When the macroeconomy continues to improve and industrial production grows steadily, the industrial demand for gold tends to increase. At the same time, as residents' incomes continue to grow, the demand for gold jewelry will also increase, which has a certain positive effect on gold prices. However, looking at a longer period, these two types of demands are relatively stable and have a relatively small impact on gold prices. In addition, as a physical commodity, gold, like other commodity goods, has a significant anti-inflationary attribute. When inflationary pressures rise and the prices of commodity goods increase, the price of gold will rise accordingly. Therefore, in most historical periods, the price of gold is significantly positively correlated with the CRB spot index, which reflects the prices of commodity goods, and the US 10-year breakeven inflation rate, which measures investors' expectations of future inflation. Since 1971, the correlation coefficient between the London gold price and the CRB spot index has been as high as 0.91, see Figure 2.
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Monetary Attributes: The price of gold is highly negatively correlated with the US dollar index and US real interest rates. Gold is not money by nature, but money is gold by nature. Although gold has now exited the circulation field, it remains an important reserve asset in international reserves of various countries. After the collapse of the Bretton Woods system in the 1970s, the currencies of various countries decoupled from gold, leading to the issuance of paper money losing constraints, and a global trend of significant devaluation of paper money against gold. Therefore, in the past few decades, gold has become an effective tool to resist currency devaluation and has shown a negative correlation with the US dollar index, which measures the strength of the US dollar. In addition, as a non-interest-bearing asset, US real interest rates are the opportunity cost of holding gold, so the price of gold is negatively correlated with real interest rates. We use the real yield of US 10-year Treasury bonds to represent US real interest rates and can find that the price of gold is significantly negatively correlated with the real yield of US 10-year Treasury bonds. The correlation coefficient between the London gold price and the real yield of US 10-year Treasury bonds during the period from 2003 to 2021 is as high as -0.91, see Figure 5.Risk Aversion Attribute: Geopolitical risks and financial crises, among other sudden events, prompt the rise of gold prices. As the saying goes, "buy gold in troubled times." When international geopolitical risks escalate or financial market volatility increases, investors' risk-aversion sentiment heats up, often leading to a preference for allocating gold, which in turn causes gold prices to rise rapidly in the short term. Typical representative periods include the "9/11" terrorist attack in the United States in September 2001, the global financial crisis at the end of 2008, and the Russia-Ukraine conflict in February-March 2022. On September 11, 2001, the United States was hit by a terrorist attack, impacting the risk preference of the asset market. From September to October 2001, the S&P 500 index saw its maximum drop of 16.8%, while the maximum increase in the London gold spot was 8.0%. In 2008, the U.S. subprime mortgage crisis eventually evolved into a global financial crisis. In September 2008, the bankruptcy of Lehman Brothers further impacted the global capital market. The VIX fear index quickly rose from 22.0 at the beginning of September to 80.1 at the end of October. During this period, the S&P 500 index saw its maximum drop of -35.6%, and WTI crude oil dropped by -48.3%, while the maximum increase in the London gold spot was 15.7%. In February-March 2022, the outbreak of the Russia-Ukraine conflict intensified geopolitical risks, which also caused violent fluctuations in the financial market. The global geopolitical risk index rose from 138.7 in January 2022 to 319.0 in March 2022. From February to March 2022, the S&P 500 index saw its maximum drop of -10.5%, while the maximum increase in the London gold spot was 13.8%.
2. Review of Gold Prices Over the Past 50 Years
From 1900 to 1970, under the gold standard system, gold prices fluctuated narrowly around the U.S. government's purchase price: during the period from 1900 to 1933, the U.S. government's gold purchase price remained at $20.67 per ounce; in 1931, the UK abandoned the gold standard system, triggering a gold run. After 1934, the government refixed the gold purchase price at $35 per ounce. After 1971, with gold decoupling from the U.S. dollar, gold officially entered an era where market supply and demand determined its price. Looking back at the gold price trend since the 1970s, it experienced a rapid rise in the 1970s, followed by a decline and a long-term horizontal fluctuation in the 1980s and 1990s. After 2001, gold prices once again ushered in a decade-long bull market and entered a bear market phase in 2011. Until after 2018, gold started a new round of price increases. Below, we will analyze several gold bull markets in detail.
The gold bull market from 1970 to 1980 was driven by both monetary and commodity attributes. In 1970, gold began a bull market that lasted for about 10 years, with the maximum increase reaching 2346%. The first driving force was the monetary attribute. Under the collapse of the Bretton Woods system, the monetary attribute of gold became the main driving factor for the rise in gold prices in the 1970s. In 1971, the United States announced the decoupling of the U.S. dollar from gold. Since then, the undervalued gold price began to gradually move towards marketization. The overall weakness of the U.S. dollar index and the fluctuating downward trend of real interest rates ran through this round of gold price increases, which can be divided into two stages: In the first stage, at the end of 1971, the "Smith Agreement" announced a significant devaluation of the U.S. dollar. The U.S. dollar index quickly fell from a high of 121 points in February 1971 to a stage low of 94 points in June 1975, with a cumulative drop of -22%. During this period, U.S. Treasury real interest rates fell by 8 percentage points from a high of 3.34% in April 1972 to -4.70% in December 1974. In the second stage, after the establishment of the Jamaican system at the beginning of 1976, the international status of the U.S. dollar declined, and the U.S. dollar index further fell from a stage high of 106.7 in August 1976 to 84.2 in July 1980, with a cumulative drop of -21%. During this stage, U.S. Treasury real interest rates fell by 6 percentage points from 2.25% in July 1976 to -4.21% in June 1980.The second driving force is the commodity attribute, which helped propel gold prices higher during the bull market of commodities in the 1970s. The two energy crises in the 1970s led to a supply and demand imbalance for commodities represented by oil, further driving a collective price increase for commodities including gold: After the first oil crisis erupted in October 1973, OPEC announced a price increase for oil and suspended exports to Europe, the United States, and other places. From October 1973 to March 1974, the maximum increase in international oil prices was 217%, and gold prices also saw a significant rise, with the maximum increase during the same period being 99%. The second energy crisis intensified from October 1978 to March 1981, with the maximum increase in international oil prices being 218%. During this period, gold prices followed the acceleration of other commodities like oil, with the maximum increase in London gold prices reaching 294%.
The gold bull market from 2001 to 2011 was mainly due to its commodity attribute, with currency and safe-haven attributes boosting gold prices. After 2001, gold once again welcomed a long bull market that lasted for more than a decade, with the maximum increase reaching 660%. From the perspective of commodity attributes, after China joined the WTO in December 2001, it actively integrated into the global manufacturing division of labor system. Against this backdrop, China's economy maintained rapid growth, with a nominal GDP annual compound growth rate of up to 17% from 2002 to 2007. China's high demand for global commodities also led to a global commodities bull market. From 2002 to 2007, global commodities experienced a rapid increase. After 2008, under the influence of the global financial crisis, commodity prices fell for a few months but then rose again at the end of 2008. The background for the rise in commodity prices again was that after the 2008 global crisis, various countries introduced active macro policies. For example, China launched a 4 trillion yuan fiscal stimulus plan in November 2008 to promote the repair of domestic demand. Against this backdrop, the global economy gradually emerged from the crisis, with global nominal GDP growth exceeding 10% from 2010 to 2011. Abundant global liquidity and the recovery of demand drove commodity prices to rise collectively again. Overall, from 2002 to 2011, the maximum increase in the CRB spot index was 181%, Brent crude oil was 612%, and LME copper was 659%, which was similar to gold.
From the perspective of currency attributes, after the破裂 of the dot-com bubble and the occurrence of the subprime mortgage crisis, global liquidity eased and the US dollar weakened twice, which boosted gold prices. After the collapse of the internet bubble in 2000, in order to cope with the impact and promote economic recovery, the United States started to lower interest rates in May 2000. Under this background, the actual interest rate of US Treasury bonds decreased from 3.99% in May 2000 to 1.84% in February 2005. During this period, the US dollar index fell from a high of 121 points in July 2001 to 82.6 points in January 2005, with a cumulative decline of 32%. In 2007, the subprime mortgage crisis spread and further triggered a global financial crisis. In order to save the market and maintain economic stability, governments of various countries introduced corresponding policies. The Federal Reserve lowered interest rates 10 times in a row starting in September 2007, and the United States started three rounds of quantitative easing after November 2008, further injecting liquidity into the market. The global central bank's money flooding also raised inflation expectations. The actual interest rate of US Treasury bonds fell from a phase high of 3.26% in October 2008 to 0.61% in August 2011, which played a role in boosting the rise in gold prices during this period.
From the perspective of safe-haven attributes, the occurrence of crisis events also boosted gold prices in the short term. For example, the "9/11" terrorist attack in 2001 triggered global panic, and the VIX index more than doubled from around 20 in early September 2001, which also stimulated a significant rise in gold in the short term, with the price of London gold rising by 8% within a week. In September 2008, Lehman Brothers announced bankruptcy, which raised panic, and the VIX panic index quickly rose from 22 in early September to 80 at the end of October. During this period, the maximum increase in London gold spot was 15.7%.3. The Logic Behind and Outlook for the New Highs in Gold Prices
Gold prices have been setting new records this year, gradually increasing investors' attention to gold assets. Looking at a longer timeframe, the lowest point before this round of gold price increases occurred at the end of 2015. However, from December 2015 to July 2018, gold prices generally fluctuated sideways, and the trend of gold prices moving upwards began in August 2018. The first half of this gold bull market (August 2018 - September 2020) was mainly driven by safe-haven and monetary attributes; the second half (from 2022 to the present) has seen gold prices diverge from highly correlated indicators such as U.S. real interest rates and the U.S. Dollar Index. This divergence is due to the decline in the credit of the U.S. dollar, with central banks significantly purchasing gold to optimize the structure of official reserve assets, presenting new characteristics in the monetary attribute.
From August 2018 to September 2020, safe-haven and monetary attributes successively led the rise in gold prices. During this period, factors such as the deterioration of the global trade environment and the significant easing of global central bank liquidity after the pandemic dominated the trend of gold prices. The monetary attribute and the safe-haven attribute took turns pushing up gold prices, with the maximum increase in London gold spot prices reaching 79%. The safe-haven attribute driving the rise in gold prices was mainly reflected from August 2018 to February 2020. During this period, the U.S. Dollar Index did not significantly decline, and the CRB spot index of commodities showed a downward trend, with safe-haven factors dominating the rise in gold prices, with the maximum increase in London gold spot prices reaching 42%. From 2018 to 2019, the U.S. continuously advanced trade sanctions against our country, with the EU, Japan, Australia, and other countries or regions following suit. As the global trade environment significantly deteriorated, the risk aversion in the capital market increased, driving up the price of gold. At the beginning of 2020, the spread of the COVID-19 pandemic globally also highlighted the safe-haven attribute of gold. From March 2020 to September 2020, the significant easing of global central bank liquidity after the pandemic drove the rise in gold prices. After the COVID-19 pandemic impacted the global economy in March 2020, central banks implemented large-scale easing policies to combat economic recession. U.S. real interest rates fell rapidly, and the U.S. Dollar Index also weakened significantly. Under the drive of monetary easing, gold prices rose and broke through $2,000 per ounce, with the maximum increase reaching 37.4%.Since October 22, central bank gold purchases have driven gold prices higher, representing a new manifestation of gold's monetary attributes. Due to rising inflation in the United States, the Federal Reserve began raising interest rates in March of year 22, accumulating a total of 11 rate hikes by July of year 23, with a cumulative increase of 525 basis points. Against the backdrop of the Federal Reserve's rapid and substantial rate hikes, both the U.S. real interest rates and the U.S. Dollar Index have noticeably increased, which should theoretically put pressure on gold prices. Indeed, we have observed a continuous decline in gold ETF holdings, which are highly correlated with gold prices, reflecting that some investors are not optimistic about the future of gold. Taking the two largest global gold ETFs (SPDR and iShare) as an example, their combined holdings have dropped from a peak of 1,626 tons in April of year 22 to 1,230 tons in September of year 24.
However, gold prices have continued to soar, with the maximum increase in London gold spot prices reaching 64%, setting a historical record. There has been a significant divergence between gold prices and the U.S. Dollar Index, U.S. real interest rates, and gold ETF holdings.
Behind this divergence is the continuous gold purchases by central banks driving the gold prices upward, essentially reflecting the monetary nature of gold. Looking at the gold demand in the past two years, global central bank purchases have been the main source of demand. The average annual gold purchases by global central banks in 2022-23 increased by 707 tons compared to 2020-21, accounting for the largest increase in demand. The gold demand from global gold jewelry only increased by 405 tons, while the demand for gold in the technology sector actually decreased by 13 tons, and the demand for gold bars, coins, and gold ETFs decreased by 364 tons. The divergence in the global monetary system may be an important driving force behind the central banks' gold purchases. Amid the evolution of a century of global changes, central banks have increasingly valued the autonomy and controllability of currency and finance. When allocating foreign exchange reserves, central banks not only consider the return on foreign currency assets, especially U.S. dollar assets, but also the safety of these assets. The safety of foreign currency assets is increasingly correlated with international relations and geopolitical risks, especially after the Russia-Ukraine conflict in 2022, when some of Russia's foreign exchange reserves and assets were frozen by Western economies, increasing the urgency for diversified foreign exchange reserves. Therefore, global central banks continue to increase their gold reserves, driving gold prices to rise continuously.
The continuous rise in gold prices since 2018 has lasted for 6 years, with the maximum increase in London gold spot prices reaching 126%. However, compared to the two previous gold bull markets of the 1970s (lasting 10 years with a maximum increase of 2346%) and the 2000s (lasting 11 years with a maximum increase of 640%), the current gold bull market still has a significant gap in terms of time and space. However, this comparison is only from the perspective of historical data, and the future performance of gold prices still needs to be further judged in combination with the monetary, safe-haven, and commodity attributes that affect gold prices.
Outlook: The monetary attribute is still favorable for gold, and the safe-haven attribute may also support gold prices. In terms of monetary attributes, the Federal Reserve has already begun to cut interest rates in September, and the short-term decline in real interest rates is favorable for gold, with the medium term depending on the trend of the U.S. economy. The Federal Reserve's interest rate meeting in September announced a rate cut of 50 basis points. The Federal Reserve's economic projection summary shows that the U.S. economic outlook is expected to weaken, the unemployment rate is expected to rise, and the inflation rate is expected to fall, and we believe that subsequent rate cuts may continue. According to CME observations, as of September 19, the market expected a high probability of a 25 basis point rate cut by the Federal Reserve in November and a high probability of a 50 basis point rate cut in December. With the Federal Reserve starting to cut interest rates, in the short term, U.S. Treasury real interest rates and the U.S. Dollar Index may gradually fall, which will drive gold prices higher. In addition, the continuous gold purchases by central banks will also be favorable for gold prices in the monetary dimension. In recent years, emerging market countries such as BRICS have been the main force in increasing gold reserves, driving gold prices to rise continuously since 2022. Currently, high-income countries in Europe and America have a high proportion of gold reserves in total reserves, such as 72.4% in the United States, 71.5% in Germany, and 70% in France; while the proportion of gold reserves in total reserves in emerging market countries in Asia and other regions is still relatively low, such as 4.9% in China and 9.6% in India, and there may be a larger room for improvement in the future. According to a survey by the World Gold Council, 81% of central banks in 2024 expect that global central banks' gold reserves will increase in the next 12 months, a proportion higher than 71% in 2023 and 61% in 2022.In terms of its safe-haven attributes, geopolitical uncertainties are likely to persist in the short term, which will also support gold prices. Geopolitical conflicts such as those between Russia and Ukraine, and between Israel and Lebanon, have shown that the global geopolitical landscape still faces significant uncertainties, with the global geopolitical risk index having noticeably increased since 2022. Additionally, current average polling for the US election shows Harris leading Trump by less than 2 percentage points, indicating that the election outcome remains highly uncertain. The Republican presidential candidate, Trump, has indicated that if elected, he would reinitiate tariff measures, which could cause a new round of impact on the global trade environment, and the advantages of gold as a safe-haven asset may continue to be highlighted.
In terms of its commodity attributes, the global economic outlook remains weak, having a limited impact on gold prices. According to the IMF, the future global economic outlook is relatively weak, mainly due to signs of cooling in the US economy, an upward trend in unemployment rates, and a weakening growth momentum in Asian emerging economies. In the first part of this article, we proposed that gold's commodity attributes are closely related to macroeconomic conditions and inflation. In the medium term, the global economic outlook remains weak, and inflation is trending downward, so the support from the commodity attributes for gold prices may be relatively limited.
Overall, the Federal Reserve's subsequent interest rate cuts are expected to continue, with the short-term US dollar index and real interest rates potentially declining, which would be favorable for gold prices to rise. However, the trend of the US economy and interest rates still needs to be monitored. At the same time, as gold's "super-sovereign" currency attributes continue to be highlighted, global central bank demand for gold may remain strong, so the monetary attribute aspect is more bullish for gold prices. Additionally, under the backdrop of a century of changes, geopolitical uncertainties are likely to persist in the short term, and the safe-haven attributes will also support gold prices. However, the future global economic outlook remains weak, and the support from the commodity attributes for gold prices is limited.