Gold outlook: a nuanced picture

Deep Dive | Global Macro | Gold

It is accepted wisdom that gold is an inflation hedge that will perform well during inflationary periods. There is some truth to this, however reflationary periods can be problematic in the short run.

Glenn Coxon, Founder

At Harver Capital we view gold as a unique asset; a long dated zero coupon store of real value which can act as a meaningful diversifier to equity and bond positions in certain environments. All Harver mandates can have up to a 25% long position in gold ensuring that, when the evidence is supportive, our clients have a meaningful exposure.

Since Mid 2019 and through late 2020 our gold holdings added substantial value to portfolios, however late last year we steadily reduced exposure as the evidence supporting the precious metal began to weaken:

 • Commercial operators were positioned cautiously in futures markets. We respect commercial interests as market insiders

 • Momentum in real yields was not supportive. The rate of change in real yields (10 yr bond yields less inflation expectations) has flat lined since the peak in gold early August 2020. Falling real yields from government bonds are a massive support to gold 

 • Inflation had not yet ‘broken out’ versus its long-term trend, although this is possible in coming quarters due to base effects and general reflation and the continued recovery in global growth

Most recently we have also seen:

 • Gold trends have continued to deteriorate – gold is now below both the 200 and 50 day moving average. Trends in gold tend to persist (see below chart) and this is a substantial element of our indicators. We may be at the foothills of this rise in gold prices however the technical picture is currently not supportive

 • Seasonality has turned negative and the next few months are a seasonally weak period for the precious metal

The chart below overlays the price of gold when our Indicators are positive (green) or negative (red). Our indicators have a strong track record in capturing the upside in gold and keeping us on the side-lines when the evidence is more challenging. When our Indicators are bullish gold has returned an average +14.4% per annum and only +0.8% annualised when our indicators are in their current bearish state.

It is accepted wisdom that gold is an inflation hedge that will perform well during inflationary periods. There is some truth to this however reflationary periods can be problematic in the short run. A meaningful increase in reported inflation is part of the evidence we monitor when deciding our positioning, but the improving economic outlook and related rising real yields are a more dominant headwind to gold performance in the near term.

There is a clear consensus building regarding inflation rising in coming months and quarters. This seems probable however a key discipline to our investment decision making is that it is based on observable data and evidence based. We therefore operate on the ‘show me’ principle, never forecasting or anticipating an increase in inflation or any other indicator. This ensures we are true to the observable evidence and not imposing our own biases or cognitive errors on strategy. Sometimes waiting for the event, such as an inflation breakout or trend repair, takes a number of weeks to develop but it ensures we have a robust process that can stand the test of time and minimise excessive trading. There is no doubt that the discipline of seeing the actual data shift, especially on a reasonably sensitive rate of change basis, is more than sufficient to deliver excellent returns and avoid often destructive biases and trading costs.

Despite a strong performance contribution from gold in 2020 we will need to observe a combination of real yields falling, gold trend improving and inflation breaking out before we re-allocate client capital meaningfully.