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Commodities
March 13, 2021

Gold - The bottom could be behind us

Reading time:5 min

In February, we saw a significant drop in gold price on the stock exchange. The most crucial factor that caused this decline was the growth of yields on the bond market. The relationship is simple, as yields on US government bonds rise, precious metals, even the stock market, tend to weaken. On the contrary, if long-term bond yields fall again, we can expect growth in precious metals. It is not the only factor, but the key one.

Gold - The bottom could be behind us

In February, we saw a significant drop in gold price on the stock exchange. The most crucial factor that caused this decline was the growth of yields on the bond market. The relationship is simple, as yields on US government bonds rise, precious metals, even the stock market, tend to weaken. On the contrary, if long-term bond yields fall again, we can expect growth in precious metals. It is not the only factor, but the key one.

US Bond Yields

US government bond yields, as we have mentioned, have grown significantly in recent weeks. The US dollar has strengthened recently, which also did not play into the carat of precious metals. In the financial market, many things affect each other, such as high yields, strengthening the US dollar, which in turn negatively affects the prices of precious metals.

Yield of 10US Government bond
Source: Tradingview

Yields on 10-year US government bonds currently have a yield of 1,612%. This is almost from pre-pandemic levels in January 2020, not forgetting that monetary policy has changed diametrically. US primary interest rates are still at or slightly above zero. Revenue is growing mainly for the following reasons: • there is a relatively rapid economic recovery, and therefore investors sell bonds and buy riskier assets, • the second possibility is that another fiscal stimulus of USD 1.9 trillion will cause significant inflationary pressures, which we see in reality, and so yields are starting to increase.

Comparison with "new" M2 money

Finally, I would like to draw attention to the amount of money issued in the US during 2020 and 2021. If we look at the price of gold that we have divided by M2, we get a coefficient that we can observe from a historical point of view.

Indicator Gold/M2
Source: Tradingview

As the number of money in the economy continues to grow and gold is a limited supply commodity. Given this, it is impressive why such a correction occurs. I will address a specific reason next time, but at current levels compared to M2, gold is "relatively cheap" in the long-term perspective.

"Managed money are selling"

From this point of view, I will quote one person on Twitter, who is explaining what is going on "Managed money" market from the Commitments of Traders (COT) report: "Highlights from this week's Commitments of Traders (COT) report for gold. 'Managed Money' traders have reduced their relative long position to nearly the bottom of their historical range. Usually, these lows mark bottoms in the gold price. "(Chris Rutherglen, check source here).

Managed Money from COT Report for Gold
Source: Chris Rutherglen's Twitter.

Average development in February and March vs. current development

This chart also shows that if we follow a short horizon or rise into position at the wrong time, investing in gold can also be risky. Below we can see the average development of gold for February and March (blue) for the last 20 years in February and March, and in contrast, we can see the current price development. The gold price has weakened by about 10% since the beginning of gold and is currently well below average.

February and March average development vs. current price of gold
Source: Author's calculation

As we mentioned, the price of gold in the current months is affected by many factors. If yields continue to rise, we can expect worse developments in the price of gold. If the situation reverses, precious metals will likely grow. From a statistical and technical point of view, gold is very oversold. Yields are increasing globally, not only in the US market. In some countries, central banks have already intervened through higher purchases of assets (bonds) to push the yield curve to lower levels and thus reduce the cost of debt and credit.

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Walfir Technologies
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WALFIR Technologies is one of the three divisions of WALFIR s.r.o., which is based in Slovakia. The primary interests of this division are analytical, quantitative, and algorithmic systems. The core of the team (Lubos Snirc and Patrik Mackovych) is involved in the Investro project. Both have experiences in global financial and investment analytics and their articles and analyzes can be found on major financial news portals.

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