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Commodities are one of 2022’s best-performing asset classes, repeating a feat set last year. Adding to the upside in the broader commodities complex this year are contributions from gold – something that didn’t occur in 2021.
For example, the SPDR Gold Shares (NYSEARCA:GLD), the largest physically backed gold exchange traded fund, is higher by 6.35% year-to-date. Undoubtedly, gold carrying its weight this year is enhancing the allure of commodities and prompting more client inquiries about related investments.
Making gold’s strong 2022 showing all the more impressive is that it comes against the backdrop of rising interest rates, which typically pressure the yellow metal because it doesn’t offer coupon payments or dividends.
Of course, gold also has tailwinds this year, not the least of which is inflation. February was the best month for spot gold prices since last May – not surprising when factoring Russia's invasion of Ukraine into the situation. Data confirm professional traders are bullish on bullion.
How Four Factors Could Impact Gold Prices
Advisors know this, but many clients do not: There are four factors that primarily determine gold’s price action -- jewelry, investment, technology and central bank net purchases.
Jewelry accounts for about half of gold demand and it was, not surprisingly, punished in 2020 due to the onset of the coronavirus pandemic. However, it’s rebounding and that’s good news.
“Jewelry fabrication demand rose 67% in 2021, with most of the growth occurring in emerging markets, including Thailand, Turkey, Indonesia, and Vietnam,” says State Street Chief Gold Strategist George Miling-Stanley. “But the largest year-over-year increases stemmed from China and India, up 63% and 93% respectively. The more than 60% growth in jewelry fabrication demand brought jewelry’s share of total global demand to 55%. This compares with an average share of total demand over the five years pre-COVID of 51%, suggesting that the recovery is pretty much complete.”
Gold isn’t as conductive as silver or other precious metals, so tech demand, though slightly above the five-year average, isn’t the most important of the aforementioned factors. Conversely, central bank purchases of bullion are material and something gold investors ought to stay abreast of. Fortunately, things look good on this front.
“Net purchases for official reserves by central banks have been a strong feature of the past 12 years, running at between 10% and 15% of the total,” adds Milling-Stanley. “Purchases by the sector grew 82% in 2021, returning close to the average over the five years pre-COVID. If last year’s growth momentum is sustained in 2022, that could also bode well for prices. As noted during the past 12 years of strong net purchases by the official sector institutions, the buying has been largely on behalf of countries in the emerging markets.”
Reasons for Optimism
Even if the war in Ukraine is rapidly resolved, inflation won’t disappear and the risks of a recession will linger and that’s music to the ears of gold bugs.
Bottom line: Stars are aligning for more gold upside in 2022, indicating exposure to the yellow metal could be appropriate for a broad swath of clients.
“2021 was a period of recalibration for gold — reverting toward longer-term trend levels among demand sectors, with the price seeking to consolidate at a higher base,” concludes Milling-Stanley. “Nearly three months into 2022, there are several reasons to remain optimistic about gold’s outlook. Uncertainties from monetary policy shifts, worsening geopolitical tensions following the Russian invasion of Ukraine, and heightened volatility may prove to be beneficial for gold as it looks to resume the current leg of the bull market which began at the start of the most recent Federal Reserve tightening cycle in December 2015.”