The gold price dropped below US$1,760 this week as bond yields surged.
This inverse relationship is often seen in markets, but what causes it?
First, it’s useful to look at the wider context.
Bonds and gold both perform a similar function when it comes to constructing investment portfolios: they provide a safe store of value.
The bond, though, as part of its structure as a tailored financial product, provides a yield.
Gold, for its part, is simply a metal with a value that can sit in a vault. The only return available on gold is at the point of sale.
This dynamic means that if bond yields are low, gold tends to look more attractive.
The complicating factor is the US dollar, which when weak, tends to push the gold price up, since that is the currency in which gold is denominated. However, if the value of dollar-denominated debt also weakens, then yields in turn also rise.
At that point, it becomes a tussle in the minds of investors between using gold or bonds to hedge against dollar weakness.
Currently the dollar is at a five-year low, but the US economy looks like it’s gaining traction. In that environment, with economic risk apparently removed from the equation, holding an asset with a yield looks like a better way of securing value over the longer-term.
Expect gold to bounce sharply if any economic headwinds become apparent.
Story by ProactiveInvestors
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