This article first appeared in Capital, The Edge Malaysia Weekly on July 13, 2020 - July 19, 2020

THE gold bulls are out batting, and they are hitting the ball out of the park.

Last Wednesday, spot gold prices breached US$1,800 per ounce for the first time this year, marking their highest level since 2011.

The obvious reason for the uptrend is the coronavirus pandemic, which has driven risk-averse investors to safe-haven assets such as gold. Those with a slightly larger risk appetite are buying up healthcare-related equities.

Analysts expect the yellow metal to continue to shine in the second half.

“It now appears a matter of when, and not if, gold may set a new record high,” OCBC Bank economist Howie Lee wrote in a report last Thursday after the metal surged to US$1,800 per ounce.

He says the previous record close of U$1,900 is now in sight, and that prices may even attempt to touch the US$2,000 level before the end of the year, if the number of Covid-19 cases in the US does not abate.

“Gold notably endured a heavy sell-off in March as financial markets faced an acute shortage of dollars during the initial coronavirus storm in the first quarter. Since then, the huge injection of liquidity into the financial system by both the Fed and Treasury has engineered the exact opposite of what we saw in March.

“Cash from both fiscal and monetary stimulus appears to have found its way into financial markets, dragging US equity markets and the dollar-denominated gold market higher,” says Lee.

ANZ Commodities strategist Soni Kumari also sees gold prices hitting US$1,900 per ounce towards the end of the year.

“In our upside-risk scenario, prices will breach the US$2,000 per ounce level. Negative real interest rates, ample liquidity, weaker-than-expected economic growth recovery, rising geopolitical tensions and elevated systemic financial risk will be key driving factors [influencing gold prices] over the next six months.

“Furthermore, unprecedented fiscal stimulus will keep the backdrop challenging for the US dollar to recover, which will be another tailwind for the yellow metal,” she says.

Gold has an inverse relationship with the US dollar. Year to date, gold prices have gained 19.2%, while the dollar’s performance has been relatively flat with the US dollar index appreciating just 0.04%.

“Traditionally, they are inversely correlated. A weaker US dollar is supportive of gold prices and vice-versa. We can also infer that the factors of the currency movement — a lower interest rate and flattening yield curve — mean a weaker US dollar. Higher inflation also means a weaker dollar, which is supportive of gold too. That said, there have been instances when both rallied together; this happens when safe-haven demand drives both gold and the US dollar higher.

“At present, their inverse correlation is holding up well. We are seeing a weakening US dollar versus stronger gold prices. We see little room for the US dollar to recover in the near term, and this will continue to lend support for gold prices,” says Soni.

Gold’s role as a hedge against inflation may not be so prominent now, given the disinflationary pattern seen worldwide as central banks embark on a round of monetary easing to buffer the effects of the Covid-19 pandemic.

However, FXTM market analyst Han Tan says a higher inflation rate could be a returning theme for gold prices.

“Despite the disinflationary near-term effects of the pandemic, investors are looking further out and betting that the unprecedented stimulus measures around the world would eventually lead to the risk of higher inflation in the coming years,” Tan tells The Edge.

ANZ’s Soni says the real interest rate, which is the interest rate adjusted to remove the effects of inflation, will remain the primary driver for the direction of gold prices.

“In a low-interest-rate environment, even marginal inflation can be supportive [of gold prices]. Increased money supply across the countries will stoke inflation sometime next year, pushing the negative real interest rate lower. This will, in turn, be supportive of gold prices,” she adds.

Tan, who sees gold ending the year at US$1,830 per ounce, says it could set a new record high this year if if the markets are jolted by another round of risk aversion.

“Should the green shoots of the global economic recovery be snuffed out by another round of lockdowns across major economies, or if severe doubts are cast on global policymakers’ ability to support their respective economies, such risk-off events could send gold prices surging to new record highs. The threat of spiking geopolitical tensions is also lurking in the background, and if it materialises, could serve as another major tailwind for bullion,” he says.

Some quarters believe rising gold prices could lead to a “gold price bubble”, CGS-CIMB Futures Sdn Bhd head of futures broking David Tan points out.

“If gold prices were to hit record highs, we think the main trigger point would be a [continued] low-interest-rate environment, as the threat of a second wave of Covid-19 still lingers as countries gradually reopen their economies. However, there is a possibility of a gold bubble should prices go too high.”

Tan suggests potential gold investors consider using the average true range (ATR) approach to gold investing.

“Investors may consider using this approach from their entry level to decide when to cut their losses or take profit. For example, if the ATR of spot or futures gold is US$21.50 and you enter to buy the market at US$1,800, your stop loss [point] can be one or two ATRs from the entry level.

“Similarly, the profit-taking level could be one or two ATR[s] from US$1,800 (US$1,821.50 or US$,1843). Thus, from the ATR, investors already know what the likely damage is,” he says.

On what factors could dampen the gold rally, Saxo Bank head of commodity strategy Ole Hansen says a vaccine for Covid-19 could be one of the biggest challenges for gold prices.

“A vaccine would see central banks take their foot off the accelerator and begin to reduce some of the strong support for global markets,” he explains.

Hansen says other elements that will be in focus during the next six months include the US presidential election in November and its risks to the dollar, and the potential introduction of a yield-curve control by the US Federal Reserve.

Whether the US and the rest of the world see another four years of President Donald Trump and his policies, or new leadership under the Democratic Party’s Joe Biden, will certainly play a pivotal role in the direction of gold prices.

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