Gold Investments During Rate Hike Periods

 Real Interest Rate

The real rate is the return after inflation—generally regarded as the 10-year Treasury minus the CPI. Why do the real interest rates matter for gold?  Here are the reasons:^[1]

• Holding cost
• Includes storage and insurance of gold
• Opportunity cost
• Instead of holding gold, investors could be lending it (or the cash spent) out. The higher the real interest rates, the larger are the opportunity costs of investing in gold.
• And the lower real interest rates, the smaller are the opportunity costs, so people are more eager to hold more gold. 

In particular, the negative real interest rates are gold's real friends (the 1970s or the post-Lehman era are the best examples).

 

Figure 1.  Gold and real-yields (inverted) have decoupled from their historic relationship (Courtesy of stockchart.com; 02/16/2022)

Gold—a Geopolitical Hedge of Last Resort

However, historically gold tends to increase during rate hike periods when gold’s negative correlation with long term real rates also tends to break down (see Figure 1):^[2] 

This is already happening with gold displaying resilience to the most recent increase in US 10 year real rates. In our previous research, we argued that this has to do with the fact that the rate hikes themselves can lead to fears of a growth slowdown and recession and therefore boost demand for safe haven assets, such as gold. This means if inflation fails to slow down in the second half of 2022 and the Fed is forced to hike more than currently expected, gold should be resilient as this would increase fears of a potential recession. And Goldman believes believe that gold is a geopolitical hedge of last resort.

 

Warning

But, gold investment is complicated^[4] and its market could be very volatile as @SuburbanDrone had warned on 02/21/2022: 

For now I'm ignoring these futures oscillations due to various Ukraine rumors. On the topic of gold, I'm not bullish at these levels (see Figure 2), recent out-performance notwithstanding.

 

Figure 2.  Long-term Gold Price (Courtesy of stockcharts.com)

 

References

1. 3 Drivers Of Gold
2. Gold Is The Geopolitical Hedge Of First Resort, Goldman Sees $2150 Within 12 Months (posted on 02/14/2022)
3. Stocks, Bonds, & Bitcoin Dump'n'Pump As 'Meh'-Minutes Reverse Russia-Rout
4. Gold Investment— All Things Considered
5. How Debt Jubilees Work 
• Suffice to say, my main plan (i.e., Lyn Alden Schwartzer) throughout this period is to mainly hold scarce assets- things like productive cash-producing companies, commodities, real estate, and hard monies, rather than being too heavily invested in fiat currency or bonds at any given time other than for some liquidity and optionality. 
6. Flows show recession risks are rising - BofA (02/21/2022)