Gold prices are going up even though it pays you zero interest. Investors prefer to hold gold rather than a paper even if the real interest rates are positive. Real interest rate is interest rate minus the inflation.
In the 1980s and 1990s investors preferred paper over gold as the real rates were extremely positive. In the 1970s and 2000s, gold was performing well and real interest were negative. As of today the real interest rate is negative and the short term interest rate is 0.3% and inflation stands at 1.4% hence investors are choosing gold over paper. In a world of negative interest rate, gold will outperform. In the late 2015, investors hated golf but in the early 2016, investors started getting back into gold as the interest rates were increasing and gold was considered as a safe haven asset.
Reason why gold performs well
Gold tends to perform well when people are worried about inflation and are worried about risks in the financial system. Investors are becoming more risk averse and are putting money in gold on the hope that they are getting a return on the investment. Analysts are fearing that the Fed will keep increasing rates in 2016 and there are speculations that it might have to go to negative interest rates.
More than 20% of the global GDP is operating in a negative interest rate regime and more than $7 trillion of global debt has negative yields. The negative interest rates mean that people are paying the bank to hold their money or are paying the government to invest in their bonds. If it is costing you money to keep cash in bank, it is wise to invest in gold and create an opportunity to provide return on your investment.
How much should one invest in gold?
Gold should be between 2 – 10% of your portfolio. It is an ideal stock diversifier as it negatively correlates to stock.
Why should you invest in gold?
Gold is viewed as a standard value for currencies all over the world. When the stocks are down, gold goes up. Investing in gold will help you balance your portfolio. Gold also performs better in times of economic uncertainty and it is called as a crisis commodity as it has excellent resilience. It acts as a hedge against inflation. Any decline in the value of dollar increases the gold prices.
Gold is also a discreet method of transferring wealth to the next generation. The demand from the Chinese and Indian government is helping keep the value of gold high.
Reasons why the gold prices are up
The following are the reasons for gold prices to be up:
- Gold prices rise when people are unsure about the government or financial markets.
- Gold is viewed as a safe haven at times of economic or geopolitical turmoil.
- Gold is held as a hedge against inflation and currency devaluation. Currency may fluctuate but the gold price stays stable for a long time.
- Gold is bought when investors fear that the value of the currency will decline.
- When the dollar weakens, gold strengthens.
- When the central banks are going through a deficit, investors buy tangible asset like gold to protect their wealth.
- As interest rates decrease, gold rates increase as the opportunity cost to hold gold is lower when compared to other investments.
- When there is a large money supply, that is when the central banks encourages loaning more money, the interest rates go down. This can however trigger inflation and that in turn will increase the price of gold.
- When the central banks buy gold in great quantities as reserve, the gold prices go up as the supply of currency increases and the gold availability is scarce.
- There is a huge demand for jewellery in China and India. There is also a great demand for gold from industrial applications.
- Production cost influences its cost. When the cost of production is high, miners sell gold for more money so that they can preserve their profits. This reflects when the gold is sold in the market.
- When the economic conditions make gold more attractive, the demand increases leading to the increase in its pricing.
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