The gold price has been rising, fuelled by a weaker Dollar and rising geopolitical tensions. Olivia Markham, manager on the BlackRock World Mining trust, explores the recent gold price trends and what it means for gold mining companies.
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The gold price tipped over $2000 an ounce on 4 April 2023, matching its highest level ever.1 Gold has only reached these levels a handful of times, often when the global economy has appeared on the verge of collapse. This time, the world does not appear as fragile, so what explains the recent run for the gold price? And can it be sustained?
Until October of last year, the strong US Dollar had acted as a brake on gold prices. The Federal Reserve was the first of the developed markets to raise rates, which supported the US currency. It also saw some tailwinds from investors’ search for safe haven assets as recession loomed. However, as other central banks caught up and a hard landing appeared less likely, the Dollar started to show weakness.2
The gold price is always influenced by a range of inter-connecting factors, but for the past six months, the weakness of the Dollar has pushed the price higher. Historically, gold has tended to be strong when the Dollar is lower. One key reason is that gold is priced in U.S. dollars in international markets. When the value of the dollar weakens, it takes more dollars to buy the same amount of gold, so the price of gold in dollars tends to rise, though the relationship is imperfect. In particular, weaker inflation data meant investors started to assume that a Federal Reserve pivot - where the US central bank starts to cut rates - may be closer than initially expected. Gold doesn’t pay an income, so the opportunity cost of holding it rises at times when interest rates are higher. The gold price is also benefiting from its safe haven status. The market has been concerned about the US government debt ceiling. While the Democrats and Republicans have come to an agreement, the increasing polarisation in US politics is a cause for concern.
Geopolitical tensions also appear to be having an impact. Central banks around the world have stepped up their purchases of gold, with significant demand from countries such as China, Singapore and Turkey in 2023 for the year to date and in 2022.3 Central banks may be seeking to diversify their holdings of US Dollars and US government bonds as geopolitical tensions rise.
Looking forward
Many of the factors that have driven the gold price in 2023 remain in place. Inflation has remained relatively high, meaning interest rates adjusted for inflation (real interest rate) have remained lower.4 This is because, when real interest rates are low, investments in bonds and fixed-income securities become less appealing, increasing demand for gold. This has helped support the gold price in spite of rising US rates. This provides us with comfort that even with potential further interest rises on the horizon in the near term, gold could fare reasonably well.
Equally, the US dollar has continued to show a very tight correlation with the gold price and its weakness appears to have momentum. Any pivot from the Federal Reserve is likely to extend the Dollar’s fall and could be good for the gold price.
Demand for gold has five main parts – investment, industrial, central banks, technology and jewellery.5 The World Gold Council shows aggregate gold demand was up 18% in 2022, the highest level since 2011.6 Of these, investment demand continued to be strong, providing resilience.7 Central banks are continuing to buy gold as a store of value and to diversify their foreign exchange reserves.8 Meanwhile, we may also see a further a boost in jewellery and technology demand from China’s reopening.
Gold equities and the gold price
Investing in gold mining companies can be a ‘leveraged’ way to play the gold price: they tend to rise more than the gold price when it is rising, and fall more when it is dropping. We still believe these companies stand up on their own merits, striving to raise returns on their mining projects.
The biggest risk to gold equity performance is persistent cost inflation which may pressure profit margins and squeeze companies’ ability to generate free cashflow. The main measure of mining costs is the American Institute of Steel Construction index. This showed record high costs for the gold mining industry in 2022, but showed some respite for miners in the fourth quarter as costs started falling.9
Nevertheless, stockpicking is essential. Across our portfolio, we aim to keep a balance of different sized companies, with different business models. We maintain a quality bias at all times, holding positions in companies that have strong business and asset fundamentals so they can weather this current elevated inflationary environment.
Ultimately, gold miners are an often overlooked part of the BlackRock World Mining portfolio, but provide an important ballast, and a source of diversification.
Sources:
1 BullionByPost, June 2023 - https://www.bullionbypost.co.uk/gold-price/40-year-gold-price-history-dollars-ounce/
2 World Gold Council, Gold demand trends Q1, 5 May 2023 - https://www.gold.org/goldhub/research/gold-demand-trends/gold-demand-trends-q1-2023/Central-banks
3 World Gold Council, Gold demand trends, May 2023 - https://www.gold.org/goldhub/research/gold-demand-trends
4 Investopedia, 23 June 2023 - https://www.investopedia.com/terms/r/realinterestrate.asp
5 World Gold Council, 23 June 2023 - https://www.gold.org/goldhub/data/gold-demand-by-country
6 World Gold Council, 20 June 2023 - https://www.gold.org/goldhub/data#central-banks
7 GoldHub, 31 January 2023 - https://www.gold.org/goldhub/research/gold-demand-trends/gold-demand-trends-full-year-2022
8 GoldHub, 5 May 2023 - https://www.gold.org/goldhub/research/gold-demand-trends/gold-demand-trends-q1-2023/Central-banks
9 GoldHub, 13 April 2023 - https://www.gold.org/goldhub/gold-focus/2023/04/gold-miners-costs-reached-record-high-2022-dropped-final-quarter-year
Risk warnings
Past performance is not a reliable indicator of current or future results and should not be the sole factor of consideration when selecting a product or strategy.
BlackRock World Mining Trust specific risks
Counterparty Risk: The insolvency of any institutions providing services such as safekeeping of assets or acting as counterparty to derivatives or other instruments, may expose the Fund to financial loss.
Currency Risk: The Fund invests in other currencies. Changes in exchange rates will therefore affect the value of the investment.
Emerging Markets: Emerging markets are generally more sensitive to economic and political conditions than developed markets. Other factors include greater 'Liquidity Risk', restrictions on investment or transfer of assets and failed/delayed delivery of securities or payments to the Fund.
Gearing Risk: Investment strategies, such as borrowing, used by the Trust can result in even larger losses suffered when the value of the underlying investments fall.
Gold / Mining Funds: Mining shares typically experience above average volatility when compared to other investments. Trends which occur within the general equity market may not be mirrored within mining securities.
