What is happening in the gold market? Ever one of the more curious backwaters of global capital markets, the “barbarous relic” – as Keynes was fond of calling the metal – can nevertheless serve as a warning light of underlying dynamics in the global economy and a harbinger of things to come. 

Since the pandemic, gold has traded in a band between $1,600 and $2,000. It hit an all-time high on Monday at $2,111, up almost 14% in just two months. 

What is this telling us? 

Traditionally, analysts understand gold price dynamics through two variables; real US bond yields (nominal yields minus inflation) and the US dollar.

Real yields are critical because they serve as the effective “opportunity cost” of holding zero-yielding gold. 

Assuming both a US 10-year treasury bond and an ounce of gold are “risk-free”, insofar as the US government will not default and neither will the ounce of metal turn out to be anything other than what it purports to be, investors should only be willing to buy gold when the real yield on US bonds is close to zero.

However, this explanation for current gold strength turns out to be less than satisfactory. 

Real US yields were negative as recently as early 2022, which should have made the zero-yielding ounce of gold comparatively irresistible. And yet, lured away by the relative temptations of Bored Ape NFTs, dogecoin, SPACs of various degrees of absurdity, negative cashflow tech start-ups and, indeed, the lofty promises of Nasdaq CEOs, investors shunned gold and it remained wistfully unloved.

Perhaps gold is receiving more attention now because real yields are lower than their recent high, set at the end of October. 

A proxy of real yields, the US inflation-protected 10-year bond, is down around 50bps from those levels. Markets move not where indicators are, but where they are expected to go. 

In that case, “gold bugs” may be betting on a collapse of real yields, either due to inflation roaring back (unlikely) or yields going suddenly lower (due to central banks aggressively cutting rates, potentially because of worsening economic conditions). 

Ever a morose lot, perhaps gold investors are just a bit more bearish on the outlook of the global economy for 2024 than the rest of the market. Quite possibly for good reason.

The second key variable for the gold market is the US dollar, which is down 3.5% in November against a weighted basket of currencies, according to Bloomberg. 

As gold is priced in dollars, greenback weakness makes the metal that much more attractive for big non-USD buyers; for example, families in South Asia and central banks in China and the Middle East. 

A derivative of this argument is the well-worn “end of US dollar hegemony” refrain which tends to be wheeled out every time the dollar weakens or some alternative to the global reserve currency looks to be gaining traction. 

Another regularly cited USD reserve alternative – Bitcoin – also happens to be enjoying a purple patch, with the best-known cryptocurrency up an impressive 144% in the last twelve months, at the highest level since – once again – early 2022. 

Whether or not this is down to any broad geopolitical shift in demand for reserve assets or just pre-empting lower US yields is something of a moot point.

Even if one is sceptical of the “end days of the dollar” argument, it is clear that even small shifts in the appetite of central banks away from the US dollar and towards gold could have significant implications on the gold price.

Finally, there is geopolitics. 

Gold is usually regarded as a hedge in times of systemic uncertainty, and the two Cold War proxy conflicts currently raging will be front and centre of investors’ concerns. 

First, the outcome of the war in Ukraine is looking increasingly uncertain. 

Budgetary support from the US and the EU is seemingly harder to come by for the government in Kyiv, making this a perilous winter for those fighting Russian intruders. 

Second, Israel is expanding military operations into southern Gaza. 

Hundreds of thousands of Palestinians who have already escaped the north are now at risk. US officials are growing increasingly uneasy with the war’s almost unimaginable toll on civilians, with Defence Secretary Lloyd Austin even warning Israel it faces a “strategic defeat” if it does not do more to protect civilians. 

Unless Israel starts acting within the bounds of humanitarian law, it is clear that the risks of the conflict spreading to other parts of the Middle East – and beyond – will only get higher. 

News that US and Israeli ships were targeted over the weekend by Houthi rebels in Yemen, allies of Hamas, compounded concerns that the conflict might indeed be past the point of no return.

With real yields falling ahead of a possible recession, central banks diversifying away from the dollar, and geopolitical risks reaching levels not seen for at least four decades, gold is telling the world to prepare for uncertain times in 2024. 

While conditions are perhaps not in place for a sustained bull market, there is enough uncertainty to make holding a few bars under the bed seem an eminently sensible idea. DM