Gold and its relationship with inflation

The mantra that ‘gold is a hedge against inflation’ needs some explanation. We need to remember that if gold really was was such a great hedge against inflation then its price should hardly ever fall. However, taking a look at the long term chart of gold we can see that gold rises and falls considerably within its rise higher.

Inflationary fears

However, gold is certainly a good hedge against the ‘fear of inflation’. Chris Dillow from the FT reports that the fear on inflation can be measured by the gap between 5 year bond yields and their index linked counterparts. In the last 10 biggest annual rises in this index gold rose in 9 put of 10 of these. So, gold does offer some protection against the ‘fear of inflation’.

The bad inflation?

Inflation that is caused by an upturn in the world economy can be bad for gold. The general rule is that when global growth is stronger investors can look to sell gold in order to buy riskier assets. Remember gold gives no interest for holding it, so in a risk positive environment that is one less reason to hold the precious metal. This is why gold did poorly during the last cyclical upturn post the Global Financial Crisis in 2010-2015.

Should I close long term gold positions

As long as interest rates remain low, then gold prices should be supported. However, investors dump gold on recovery signs. Pfizer vaccine and US 10 year yields surging both resulted in gold selling in recent trade, so let interest rate rises guide you here. Rising US interest rates = less attractive to hold gold.

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