Rate Hikes Historically No Threat to Gold

Rate Hikes Historically No Threat to Gold

We wrote yesterday about the 30% market segment that is currently betting on a rate rise this month and it’s easy to appreciate how anticipation over the Fed’s first rate-hike cycle in 9 years has contributed to the gold price slide in recent times. While precious metals offer attributes well suited to safety and diversity in a portfolio, they do not generate an income stream. Gold’s sterile nature fuels a common belief that demand for it falls as rates rise due to the increased yields on offer and mainstream exergasia (many readers will recall the “pet rock” comment) has helped to support this notion in recent years.

Superficially this bearish hypothesis seems sound but reality tells us a different story. Investors all over the world have utilised gold effectively throughout history as an investment with full knowledge that it lacks yield and Adam Hamilton’s recent study that compares federal funds rate-hike cycles to gold over nearly half a century illustrates this well.



In the attached graph, the red plot shows the free-market FFR (as opposed to the target rate which the FOMC sets – this accounts for the noise in the data) and the blue plot is the gold price in US dollars. The study defines a hike cycle as 3 or more consecutive increases and identifies 11 such cycles since 1971. The data shows that gold appreciated by 638% in the decade ending August 2011 which far surpasses the return offered by the dividend-rich S&P 500 (which depreciated by 1.9% over the same interval). Looking at the 1970s we see a 2332% appreciation in gold at a time when the federal funds rate was upward trending and bond yields were high. In all, gold actually rallied an average of 61% through 6 of the 11 US rate-hike cycles. The losses over the remaining 5 cycles averaged only 13.9% showing that gold is historically very resilient. Indeed 2 of gold’s 5 negative hike cycle periods followed times of strong gold performance so a price adjustment during these stages is somewhat expected.

The study offers a simple explanation for why gold investment demand is positive in rising-rate climates, stating that Fed rate-hikes have detrimental impacts on stock and bond markets; which is a scenario that we’ve previously written about. Certainly the notion that something other than yield is the dominant pricing force in these circumstances makes sense and is supported by the fact that commentary never focuses on increased rates having the consequence of devastating non-dividend stocks. Applying that same argument to gold then seems unfounded.

The lessons from history tell us that gold investors should not fear the prospect of entering a tightening cycle should the Fed decide to depart from ZIRP this month and indeed a diversification into gold could be a good investment in such a scenario.

 

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I would postulate sir rate hikes in absence of any other economic news would have a negative effect on pricing. However, nothing is ever in isolation. Rate hikes should decrease interest in all non-interest bearing investments. However, many times in history rates are being hiked due to external shocks to the system, putting extreme inflation pressure to bear. I would postulate its really THOSE actions that countered the inherent negative price pressure on gold in a raising interest rate environment, enabling it to overcome what should normally be downward price pressure.

If that makes sense, what investors need to ask themselves is; "Do I believe there will be external shocks in the future to enable gold to increase in a rising interest rate environment?". I cannot answer that, just ask the question.

For disclosure, I have investments in stocks, farmland, housing and pm. I honestly don't know which any of them will go, so hedge my bets.

 

Hmm... good write-up, Medora.

FWIW, OP's choice of a chart that starts in 1970 is highly deceptive.

If you looked at a chart shifted back by even ... say five years ... you get a completely different picture (chart from http://www.q1publishing.com/blog/viewblog/contentId/672):



History teaches us (or should) that money goes where people perceive the largest SAFE returns can be gained. In environments of low interest rates or quickly rising rates, people may be afraid to put their money into long-term bonds. However, in high interest or quickly falling rate environments, people flock to long-term bonds.

This is why we study the yield curve.

 

History with Charts for Gold and Silver teach us that the lowest or very close to the lowest Trade Price is where PM's go after a Top Peak which happen in 2011 all PM's will go right back to 2001 Trade Levels every thing between now and then matters not, thank you very much.

I Buy both Gold Coins and Silver Coins, Rounds and Bars stack-em right up.

Warning, do not stock up to much unless you have the extra cash, cash to back the PM buys. We/PM's reach new lows each year from 2011 to now. Dealers do not run out of PM's.

In fact I can easily buy Silver 1oz Rounds or Bars, one at a time, with free shipping right to my door for $16.60 or less for the last few weeks and today was as low as $16.25 this is a online dealer and not EBAY these are Silvertowne Rounds or Bars.

Silvertowne is not where I am buying my Silver from for this deal. It only gets better at 10oz-100oz.

People are jumping the gun on the problems right now in the world along with PM's just going up to a High Peak again so soon, its just not in the Chart History books for PM's to Trade up like that again anytime soon.

In Fact it will take years to get to a High Peak again, then after if you see about 4-6 months PM's going down it has then hit its top 4-6 months ago and is going to fall right back where it started or about started from to the last Flat Line Trade Price. Some may call a down trend faster then 4-6 months after a Peak but its not safe call really. 4-6 of lows and chart history tells us the Peaking is done.

Anything other then that is a story not wrote/never happened and is not a bet I would take to buy Silver for, give it a few more Decades then we will see Gold and Silver Rocket to the Moon as of now PM's are in a down trend for both Gold and Silver and Platinum is heading the way back down to 2001 Trade Levels the fastest these are the Facts.