Gold Year End Wrap-up & Outlook 2024

Gold in 2023..

After increasing interest rates by a massive 425 basis points in CY2022, CY2023 saw only 100 basis points of hikes by the Federal Reserve. Thus, unlike the war-driven highs and hawkish Fed-driven lows of 2022, gold saw a steady rise in 2023, closing the year ~12% higher, as the US central bank’s peak aggressiveness was left behind. Not to say that there weren’t ups and downs though.

The precious metal saw a large up move at the start of the year in response to stress in the US banking system which triggered global risk aversion and expectations of a Fed pivot. But over the next few months, sticky US inflation and strong labour market data fuelled the Fed’s hawkish stance pushing gold prices lower. Fresh geo-political tensions in the Middle East, slowing inflation and concerns about a US economic slowdown in the last few months of the year brought with them renewed expectations of peak interest rates and softer monetary policy, pushing prices higher.

In its final meeting of the year, the Fed took a dovish stance maintaining the status quo on rates and signalling 75 basis points of rate cuts in 2024, up from its previous projection of 50 basis points. This triggered a substantial drop in US treasury yields and US dollar, propelling gold above the $2000 mark.

Central banks bought 800 tonnes of gold in the first three quarters of CY2023 providing a soft support to prices through the volatility of the year. While, global gold ETFs saw net outflows, domestic gold ETFs saw net inflows of Rs 2,831 crores year-to-date as of November 2023.

Price drivers in 2024..

1. US economy and Fed policy: Fixed income market’s classic recession indicator, the 10 year- 2-year Treasury yield curve has been signalling a US recession since July 2022. Cumulative effects of the Fed’s rate hiking campaign of 2022 and 2023 are expected to show up soon. Tailwinds for US economy in the form of pandemic-era savings, loan moratoriums and low-rate debt are also behind us. With US economic data incrementally showing signs of cooling off, the deterioration in US growth is expected to become apparent in the first two quarters of 2024. This is anticipated to bring with it the next phase of the Fed’s policy, which has now been indicated by the central bank itself. Both the US slowdown and the resulting Fed easing are likely to make conditions conducive for gold prices in 2024 as attractiveness of competing asset classes diminishes.

However, the severity of the slowdown and the timing and extent of Fed policy easing remain uncertain.

If the growth slowdown is mild and is not accompanied by a moderation in inflation which is in line with Fed expectations, the central bank may delay easing. This could risk an overtightening of financial conditions which could deepen the US downturn or worse lead to financial accidents similar to the March 2023 US regional bank crisis. This scenario will destabilize risk assets and increase demand for portfolio diversifiers like gold. The Fed will eventually ease, but it will likely be ‘too little too late’.

Conversely, if the Fed has a lower tolerance for growth deceleration or the growth setback is severe, it could choose to loosen up financial conditions by cutting interest rates before inflation comes down to its defined targets. This, in addition to the fiscal spending in the run up to US elections, could fuel the inflation fire again, drive up inflation expectations, and hurt the Fed’s credibility. Gold will be preferred as investors seek protection from rising prices and as opportunity costs in terms of real interest rates move lower.

Ballooning government debt levels will also weigh on the Fed’s decision to ease as elevated interest costs further add to the US fiscal debt burden. Given the unsustainable debt dynamics and reducing appetite for US government bonds from foreign central banks, US central bank may have to absorb much of the issuance going forward, marking a U turn in their policies.

While a soft-landing scenario can be troublesome for gold, we assign a lower probability for a such a delicate balance to be achieved. Thus, it is highly probable that the Fed will either over tighten or under tighten its policy, keeping gold relevant both from a risk mitigating and return enhancing perspective.

2. Geopolitics & Central Bank demand: With the ongoing geopolitical crises, risk assets will stay vulnerable to escalations. As such, we can expect a structural risk premium to get embedded in gold prices.

Adverse impact of these geopolitical developments on supply chains and commodity prices will keep inflation sticky at higher levels, probably above the comfort level of central banks. Similarly, the deglobalization trend which is underway post the pandemic is also expected to keep costs of goods and services elevated. Appeal for gold, which is considered a store of value, can be expected to increase in response.

The de-dollarisation trend to diversify away from the US dollar, fuelled further by ongoing geopolitical risks, will keep pressure on the dollar and help gold. We expect strong central bank gold demand to act as a soft support for gold prices as it did in 2023.

3. Physical demand & Indian Rupee: Physical demand from leading gold buyers India and China is expected to be healthy, keeping prices well supported. India’s economic robustness will fuel consumption demand whereas China’s economic uncertainty should drive up investment demand.

Indian Rupee isn’t expected to see any outsized movements on either side as domestic interest rates should move in line with global rates as they did in 2023, and India’s $600 bn+ forex reserves give the Indian central bank ability to manoeuvre. Crude prices too are expected to be rangebound given the global slowdown on the one hand and geopolitical flare ups and supply cuts on the other. As such impact of Indian Rupee on domestic gold price will be muted.

What should investors do..

All in all, gold can be a useful asset to hold in 2024. As interest rates peak and timing and extent of rate cuts remain uncertain, it can provide opportunity for markets to speculate, creating volatility across asset markets, including gold. Markets can oscillate between optimism and pessimism creating wild short-lived swings in gold prices on either side. Use these swings wisely to build your allocation to gold which can benefit from the eventual turn in Fed policy, that is now a given at some point next year.

Data Source: Bloomberg , RBI

Above article is authored by Quantum.

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