Will the hedging-driven rebound in gold prices continue?

From mid-August to early September, global gold prices rebounded significantly, and the global financial market panic on September 20 triggered a hedging rise in gold and U.S. debt. However, we believe that although short-term risk aversion drives the rebound of gold, the Fed’s Taper is the general trend during the year. As the core factor affecting gold pricing, the real interest rate of the US dollar has a greater upward possibility, thereby inhibiting gold investment demand. In the short term, the global dollar system will not collapse, and the logic of gold and dollar interest rate pricing will not be destroyed. Under inflationary pressures, consumption in the United States has been significantly suppressed, and the prices of consumer optional goods such as gold will fluctuate in accordance with the fluctuations in opportunity costs.

U.S. inflationary pressures are difficult to subside

From the perspective of traditional logic, gold has always been regarded as one of the effective investment products to hedge against inflation. However, from the historical trend of gold, the impact of inflation on the price of gold is mainly realized through the real interest rate of the US dollar. Therefore, high inflation does not necessarily lead to a rise in the price of gold, and it is necessary to observe changes in the nominal interest rate of the dollar.

From the perspective of inflation data, inflationary pressures eased in August. However, the Manheim Index, which is used to measure the trend of used car prices, shows that in the first half of September, the US Used Car Value Index rose 3.6% from August, which is the first month-on-month increase since May this year. Compared with the same period last year, the index rose by 24.9%, continuing the upward trend since June 2020, indicating that used car prices will rise further, and the upward trend of inflation in the United States in September may come back.

On the whole, the inflationary pressure in the United States has not subsided, mainly because a large part of the current upward inflationary pressure comes from supply. Data show that inflation has soared significantly in the first half of the year. The global manufacturing input price index and the G7 CPI reached levels similar to the peaks of the 2008 financial crisis and the recovery after the 2011 crisis. The current supply constraints have not been lifted.

Fed Taper Approaching

Although the US non-agricultural employment data in August was weaker than expected, the Fed is facing high inflationary pressures and an increasingly fragile financial system under excessive speculation. The Fed is expected to announce the Taper roadmap at the September interest rate meeting. The latest survey shows that in September, Michigan consumer confidence in the United States hovers around the lowest point in the last 10 years, but inflation expectations are still high. Consumers expect an inflation rate of 4.7% in the coming year, higher than the 4.6% in the previous survey. Consumers expect an inflation rate of 2.9% in the next five to ten years, which is the same as the previous survey.

In theory, rising inflation expectations usually make risk-free assets less attractive, causing them to be sold sharply, increasing their yields, and leading to higher real interest rates. The major central banks describe the current inflation crisis as temporary, but this is just a rhetoric for avoiding premature tightening and taking responsibility. They are currently more inclined to adapt rather than take measures to respond to supply shocks. Based on this, the measures of major central banks have not made substantial progress, and the current inflation is not demand-driven.

When forced to tighten passively, the U.S. Treasury yield reflects this expectation: economic growth prospects are poor, and the long-term yield increase is temporarily not obvious, but the short-term yield steadily rises. Data show that on September 20, the 10-year U.S. Treasury yield fell to 1.31%; on September 14, it fell to 1.28%. On the whole, despite the hedging drive market’s increased buying of U.S. Treasury bonds, high inflation prevented U.S. Treasury yields from falling to their lows in mid-August. The yield of short-end U.S. Treasuries, which reflects the direction of monetary policy, has risen significantly. On September 20, the yield of 2-year U.S. Treasuries, which is sensitive to the federal funds rate, rose to 0.23%, higher than the level from April last year to May this year. , Reflecting the market’s expectations of the Fed’s Taper.

Risk aversion may boost the rebound of gold prices

Regarding the US debt ceiling, the market’s worries have risen significantly, which once triggered panic in the market. On September 20, U.S. Treasury Secretary Yellen warned that if the debt ceiling is not raised, the federal government will run out of funds sometime in October and cannot pay the bills. If the U.S. government uses its traditional measures to avoid defaults caused by debt limits, Yellen’s team does not approve the option of paying creditors first, triggering more U.S. debt selling.

On September 20, the 1-year U.S. sovereign credit default swaps rose linearly, and the CBOE S&P 500 Volatility Index (VIX), which reflects market panic, rose to 25.1 points, the highest record since May 13. Driven by safe-haven buying, the international gold price recovered its previous decline and closed up slightly.

On the other hand, the rebound in the real interest rate of the U.S. dollar restrained the demand for gold investment. Since the U.S. dollar has been used as an international gold pricing benchmark, the real interest rate of the U.S. dollar has been the core factor affecting the mid- and long-term price of gold, because the real interest rate of the U.S. dollar can be regarded as the opportunity cost of holding gold. However, the physical consumption of gold is more elastic and has minimal impact on the price of gold.

In the context of continued high inflation in the United States and expectations of the Fed’s Taper, although U.S. Treasury bonds will rise due to safe-haven buying in the short-term, U.S. Treasury yields have only declined moderately, and the real interest rate of the U.S. dollar rebounded again in September, weakening investment demand for gold. The strength of the rebound. The data shows that as of September 20, the 10-year TIPS yield, which measures the real interest rate of the dollar, rebounded to -0.98%, and fell to -1.19% on August 3. At the same time, the world’s largest gold ETF-SPDR holds only 1001.66 tons of gold, which is much lower than the 1,278.82 tons in the same period last year.

In short, risk aversion will only bring about a short-term rebound in the price of gold. The medium-term trend of gold depends on the real interest rate of the US dollar, and the inflation function of gold also needs to be realized through the real interest rate of the US dollar. Under the pressure of high inflation in the United States and even the world, major central banks, including the Federal Reserve, are more likely to tighten their currencies in the future than to continue to loose. The real interest rate of the US dollar is unlikely to continue to be negative, and the downside risk of gold prices is greater than the upside risk. Investors can consider using CME Group’s Shanghai Gold (USD) Futures (Contract Code: SGU) and Shanghai Gold (Offshore RMB) Futures (Contract Code: SGC) to hedge the downside risks of overseas and domestic gold prices. The advantages of trading Shanghai gold futures contracts include the provision of hedging tools for physical gold positions related to the Chinese market. Gold and foreign exchange can construct multiple arbitrage combinations, that is, the SGU/SGC combination corresponds to the USD/RMB combination.