Gold and gold stocks step into 2019 with positive momentum that has been absent for much of the preceding 12 months. For Vaneck, conditions may now be right to move the gold price past the US$1,365 barrier that it has been struggling to attain for the past five years. By Joe Foster, portfolio manager and strategist.
After a difficult 2018, we believe that gold prices will resume an upwards trajectory this year with investors likely to commit strong inflows into bullion exchange-traded products. Having stabilised at around US$1,200 per ounce during the third quarter, the gold price rose alongside other commodities in early December when US President Donald Trump and China’s President Xi Jinping communicated a pause in their trade conflict. It then rose to a six-month high later in the month, following the Federal Reserve’s decision to raise US interest rates on December 19.
Since the US stock market hit a peak on September 21, gold has outperformed West Texas Intermediate (WTI) crude oil by 42% and the NYSE Arca Gold Miners Index (GDMNTR)1 has outperformed the S&P 500® Index2 by 27%. Markets are now beginning to price in an end to the post-crisis expansion and, in line with this assessment, price levels for gold, the US dollar, and US Treasuries all signal a rise in global financial risk during 2019.
A challenging 2018
It was a tough year for gold and gold stocks, with only December providing respite, reflected in a 4.9% rise in the gold price to US$1,282.45 per ounce and a 10.8% gain in the GDMNTR over the month. The strength of the US dollar, which performed better than expected against other currencies, created a headwind for gold. The US economy received a boost from the Trump tax cuts and deficit spending, which contributed to strong growth, low unemployment, and an annual gain of 4% for the US Dollar Index (DXY).3
When profiled against a booming US economy and stock market highs, gold investments did little to attract investors for a large part of the year. In August, weak fundamentals caused the gold price to slide to a yearly low of US$1,160, although investment flows recovered slightly towards the year end and the commodity finished 2018 with an annual loss of US$20, down 1.6% year-on-year.
Gold stocks found it even harder to attract investment flows and the leading indices lost ground, with the GDMNTR falling 8.5% during 2018 and the MVIS Global Junior Gold Miners Index (MVGDXJTR)4 down 11.3%. It was a particularly challenging environment for junior companies – which we define to be companies producing less than 300,000 ounces per year – and most juniors failed to outperform the GDMNTR benchmark. On a positive note, this weak stock performance often disguises strong fundamentals and a number of these companies are delivering solid performance both operationally and financially. This has resulted in valuations for these stocks that are well below the long-term average. We believe that these will be attractive to investors until this value gap closes.
Contrary to last year, 2019 is beginning with a global contraction theme
What a difference a year makes. Just as early 2018 may be remembered for a period of “synchronised global growth”, the start of 2019 is delivering a phase of “synchronised global contraction”. The Purchasing Managers’ Index (PMI)5 in China, a benchmark of manufacturing performance, slipped into contraction in December as measured both by the official Chinese National Bureau of Statistics and Caixin/Markit, a private survey. Japan and Germany both logged negative GDP growth in the third quarter. In the US, 49% of chief financial officers believe the economy will begin a recession in 2019 according to a Duke University survey6, and 82% are expecting a recession within the next two years.
For central bank policies, it is widely assumed that there is roughly a 12-month lag between their public announcement and these policies beginning to take effect. Based on this assumption, the US economy is likely to feel the full impact during 2019 of the Fed’s 2018 rate hikes and US$30 billion of monthly quantitative tightening (QT). This trend is likely to be compounded by further Fed rate rises that are expected during the year, and by the Fed decision to increase QT to US$50 billion per month.
We anticipate one of two scenarios. If the Fed stays on course during 2019, this may drive the economy into recession and may bring increased financial risks from highly indebted governments and corporates. Alternatively, the Fed may pause or reverse its tightening cycle, resulting in US dollar weakness.
Both scenarios are likely to be favourable for gold. Gold and gold stocks enter the New Year with positive momentum that was lacking for most of 2018. In our opinion, gold may again test the US$1,365 level of resistance that has been in place now for five years. If the markets are seeing enough systemic risks to move gold through this level, we believe it should be a very good year for investors in gold and gold stocks.
A bear market, not a crash, is more likely and gold investments could be less volatile
Finally, if we are correct in calling for a recession to start in the coming 12 months, would markets crash as they did in 2000 and 2008, or would it be a more orderly bear market? Barring a black swan event and aside from cryptocurrencies, there are not any obvious manias in this cycle. However, there has been asset price inflation in stocks, bonds, real estate and other asset classes. In totality, this has possibly created the largest asset bubble in history, but without mania psychology, a crash is less likely in our view. An added risk in this cycle is an explosion of sovereign debt. This may bring a policy response from central banks in a downturn that distorts and drives markets, but we believe it is unlikely to precipitate a crash, especially with a more stable post-crisis banking system. Gold investments may see less volatility in a crash-less downturn.
IMPORTANT DEFINITIONS AND DISCLOSURES: This article is for informational/advertisement purposes only. It originates from VanEck Investments Limited (“VanEck”) and does not constitute an offer to sell or solicitation to buy any security. Any investment decision must be made on the basis of the prospectus and the key investor information document (“KIID”), which is available at www.vaneck.com and VanEck Investments Limited at its registered office at 25-28 North Wall Quay, Dublin 1, Ireland. All data is sourced as at the date stated. *All company weightings, if mentioned, are as of December 31, 2018, unless otherwise noted. 1. NYSE Arca Gold Miners Index (GDMNTR) is a modified market capitalization-weighted index comprised of publicly traded companies involved primarily in the mining for gold. 2. S&P 500® Index (S&P 500) consists of 500 widely held common stocks covering industrial, utility, financial, and transportation sectors. 3. U.S. Dollar Index (DXY) indicates the general international value of the U.S. dollar. The DXY does this by averaging the exchange rates between the U.S. dollar and six major world currencies: Euro, Japanese yen, Pound sterling, Canadian dollar, Swedish kroner, and Swiss franc. 4. MVIS Global Junior Gold Miners Index (MVGDXJTR) is a rules-based, modified market capitalization-weighted, float-adjusted index comprised of a global universe of publicly traded small- and medium-capitalization companies that generate at least 50% of their revenues from gold and/or silver mining, hold real property that has the potential to produce at least 50% of the company’s revenue from gold or silver mining when developed, or primarily invest in gold or silver. 5. The Purchasing Managers’ Index (PMI) is an indicator of the economic health of the manufacturing sector. The PMI is based on five major indicators: new orders, inventory levels, production, supplier deliveries and the employment environment. 6. As reported by Gluskin Sheff Associates, a Canadian independent wealth management firm which manages investment portfolios for high net worth investors, including entrepreneurs, professionals, family trusts, private charitable foundations, and estates.
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