Forming the Base of a Long-Term Gold Bull Market
Through most of 2016 we had been very bullish on gold, believing it had embarked on a new bull market. This belief was based on fundamentals, which included unprecedented levels of peacetime sovereign debt and monetary policies, such as quantitative easing7 and negative rates, which distort markets and pose systemic risks. While we were premature in forecasting a new gold bull market, we continue to believe these risks will ultimately drive gold to new highs. However, the turn the markets took following the U.S. presidential election took us entirely by surprise. The positive sentiment towards gold proved to be fickle and it appears the market will need more substantial evidence that the risks we see coming are in fact imminent.
We now characterize 2016 and 2017 as a base-forming phase for gold, probably a precursor to a bull market. The bear market trend from 2011 to 2015 has clearly been broken and 2016 showed us that investors are becoming quite skittish of systemic financial risks.
Gold is consolidating before starting its next upward journey
Last year was a volatile year for the gold market. Softer demand from China and India, coupled with Trump’s victory, had immensely affected the precious metal. Strong US economic indicators and the post-election scenario prematurely halted gold’s rally, which was expected to persist throughout 2016. Since reaching its peak of $1,889 per ounce in August 2011, gold (GDX) (GDXJ) had been in a bear market until December 2015, when it reached a five-year low of $1,050 per ounce. The rally in 2016 and the late fall indicate that gold is in consolidation mode before starting its next upward march.
Gold (GLD) is falling due to heightened economic optimism post–Trump victory. However, the domestic and global headwinds to financial markets can’t be ignored with the onset of a new US government. The newfound optimism in the United States is based on the notion that economy will edge higher under Trump. However, the market is ignoring the potential flaws while executing stimulus policies. If Trump fails to boost the US economy, gold will see renewed interest from investors.
The other factor that could drive gold higher is rising demand from traditional markets like China and India (SCIF). Though demand from India and China declined in 2016 due to their respective domestic issues, gold could see more robust demand with the pick-up in economic activities in these countries. Moreover, with the introduction of Shari’ah compliant gold standards, substantial demand could arise from the Islamic world. In the United States, American Gold Eagle sales were at 984,500 ounces in 2016, the best since 2011. The sale is likely to stay robust in 2017 as well.
Upside in the store?
Considering the risk factors to the US economy, gold is likely to edge higher in a few years. Though predictions vary, many analysts see gold bouncing back in 2017 and beyond. Scotiabank forecast gold (SGOL) prices to average $1,300 per ounce in 2017, while Societé Générale also has the same target for 2017. CPM Group is more optimistic on gold, forecasting prices to average $1,325 per ounce in 2017. On the other hand, Citi Research has a lower target of $1,180 per ounce by the end of 2017.
7Quantitative easing (QE) is an unconventional monetary policy used by a central bank to stimulate an economy when standard monetary policy has become ineffective.