Gold has started with 2022 on a cautious note. After closing 2021 with a six-week high just above $1,830, gold has retreated below $1,800 as we write. Expectations of faster interest rate hikes in the US and their impact on nominal yields have remained the principal headwind to gold prices. Minutes from the Fed’s December meeting have indicated that it might raise interest rates sooner than expected and also reduce its asset holdings to tame high inflation. Against this backdrop, the market is now pricing in a 71% probability of a rate hike in March, compared to 33% one month ago. US 10Y Treasury yields have also climbed to 1.74%, just shy of the post-pandemic high of 1.77% seen last March. In the near term, even though studies show that Omicron is less likely to cause severe illness than other variants, record infection rates have already caused disruptions to many industries. In our view, there is also a risk that sooner than expected rate hikes could derail economic momentum, particularly when supply side driven inflationary pressures and elevated energy costs have already affected consumer sentiment. This suggests that the pace of policy rate hikes may not be as swift as consensus expectations are currently pricing in. Any sign of change in this could stimulate investor demand for gold, especially given that speculative longs positioning in the metal is relatively low at the moment.
That said, without any dramatic worsening of economic conditions, price gains in early 2022 should be modest, with gold being capped below its 2021 high. As we progress into the second half of 2022, the investment case for gold will start to turn bearish. Assuming that the global economic recovery gains a stronger foothold during 2022, this should lead to greater confidence in the solidity of current high equity valuations. Supply chain disruptions are also expected to dissipate later this year, which will in turn alleviate inflationary pressures. This, coupled with rising interest rates, should lead to firmer real yields, which will lift the opportunity cost of holding zero-yielding assets such as gold. Growing liquidations from institutional investors are therefore are expected to weigh on the gold price from late-2022 onwards.
Source: Metals Focus 06-01-2022
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