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What Could Help Gold Make a Comeback in 2017

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Part 3
What Could Help Gold Make a Comeback in 2017 PART 3 OF 12

What Does Inflation’s Retreat Mean for Gold?

Inflation hedge

Investors tend to hold gold in their portfolios as insurance against inflation. When inflation is high, the value of paper currency, in terms of the goods and services it can buy, falls. As investors want something that doesn’t lose its value, gold usually has a direct relationship with inflation. Demand for gold increases as inflation increases, and vice versa.

What Does Inflation&#8217;s Retreat Mean for Gold?

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US inflation measures

There are two common measures of inflation in the United States (TIP). One is the CPI (consumer price index) released by the U.S. Bureau of Labor Statistics. The other is the PCE (personal consumption expenditure) index issued by the U.S. Bureau of Economic Analysis. The Fed’s objectives are based on the PCE index.

Accelerating inflation

In April 2017, the CPI had risen 2.2% in 12 months, compared with 2.4% in March 2017. As reported by Barron’s, Pimco’s US chief economist lowered her forecast for US inflation from 2.3% to 2.0% in 2017. She added, “Unlike in March – when weakness was primarily attributable to the largest-ever monthly decline in wireless services – April’s weakness was broad-based, reflecting softness in a range of core goods and services… Negative residual seasonality, which tends to be a drag in the latter half of the year, may be a headwind to our forecast and could further moderate the rate for fourth-quarter 2017 relative to the same quarter last year.”

In March 2017, PCE inflation also fell, by 0.2%—its first decline in more than a year. In the 12 months ended March 2017, inflation stood at 1.8%, lower than the 2.1% reported a month before. The core PCE index, excluding food and energy, fell 0.1%. This decline was the largest since 2001. Although inflation metrics showed a deceleration, they may not be sufficient to deter the Fed from raising rates if other data supports the hikes. Higher interest rates are detrimental to the outlook for gold since it doesn’t generate any income apart from capital gains.

Gold prices affect companies such as Goldcorp (GG), Barrick Gold (ABX), Agnico Eagle Mines (AEM), and Kinross Gold (KGC). Gold prices also affect gold-backed funds such as the SPDR Gold Shares ETF (GLD) and the VanEck Vectors Gold Miners ETF (GDX). Both funds invest in all of the stocks we’ve mentioned.

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