Gold, a traditional safe-haven asset, has long been known for its inverse relationship with US real interest rates. Typically, as real rates rise, the opportunity cost of holding non-yielding gold increases, leading to lower gold prices.
However, recent developments suggest this well-established pattern may have shifted.
In a recent report, Global X’s Billy Leung, Marc Jocum, and Justin Lin noted that gold has reached multiple all-time highs over the past two years despite rising US real rates, prompting the question – has the traditional correlation between gold and real yields dissolved?
“We don’t think so,” the analysts said.
“Though rare, gold has shown a positive correlation with US interest rates at certain points in history. A recent example is the COVID-19 pandemic when both real yields and gold prices collapsed in early 2020. For a more comparable time frame, we can look to two other periods: Fed Chair Volcker’s fight against inflation in the late 1970s to early 1980s, and the three-year lead-up to the Global Financial Crisis,” they said.
Since 2022, investors have witnessed high inflation rates, geopolitical conflicts, and economic slowdowns that mirror these historical scenarios. Despite the rising real rates, these factors have driven demand for gold, supporting its price.
“Since 2022, we’ve experienced inflation at its highest in 40 years, Russia invading Ukraine, the Chinese economic engine spluttering, and multiple escalations of the Middle Eastern conflict. All these catalysts have acted as demand drivers of gold, allowing it to perform despite the historic rate hike cycle,” Leung, Jocum and Lin said.
“However … these factors will eventually cool, and the historical negative correlation between gold and real yields could return to provide a positive tailwind over the upcoming rate-cut cycle,” they added.
A recent Global X analysis estimated that gold prices typically rise by about US$400 for every 1 per cent decrease in real yields. Based on this model, gold could reach approximately US$2,885 by December 2025, assuming current conditions remain constant.
However, major financial institutions such as JP Morgan, Morgan Stanley, Citibank, and Goldman Sachs project a more conservative target of $2,760 by the end of 2025.
“In general, this collated average appears more reasonable than the near US$2,900 figure our analysis has arrived at,” the analysts said.
“Our simulation assumes that the current environment remains unchanged and only real rates are adjusted. The current environment being that of a weakening labour market, languishing Chinese economy, rising defaults in the US, and an equities market begging for rate cuts from the Federal Reserve.
“This will likely not be the case as we head into 2025. Analysts have continually cut the odds of recession over the past few months, with the Bloomberg United States Recession Probability Forecast index now showing just a 30 per cent chance as of August 2024.”
Ultimately, the trio said the future performance of gold largely depends on the Fed’s actions and broader economic conditions.
“In the context of the two possible scenarios within which the Fed could cut rates: a soft-landing versus hard landing, our basic price target appears to account for the latter, where a US recession powers gold demand.
“In the more likely scenario of a soft landing, it is likely that gold will not perform as real rates imply, but nonetheless benefit from an overall decline in opportunity cost.”
