Gold Price Rally: Implications
Gold has rallied strongly in recent trading, and a decisive push above USD1,320/oz would have significant implications.
First, it would suggest that prices will rally further in the coming weeks, with USD1,350-1,400/oz the first upside target. The key short-term driver will be events in Iraq, as the rapid advances of the Islamist militant group ISIS are raising geopolitical risks to the global economy by forcing oil prices higher. Although we do not expect Iraqi oil exports to be disrupted, demand for gold will be buoyed if the perceived threat to Iraqi oil supply grows.
Second, a break higher by gold would force us to examine two of our key global assumptions: 1) The gradual normalisation of US monetary policy leading to higher real rates in the US and a stronger dollar; and 2) Continued outperformance of equities versus fixed income and commodities. For example, an additional rally by gold prices would likely result in a break lower in the Dow/Gold ratio. The ratio has trended steadily higher since the second half of 2011 as gold prices struggled while equities headed higher. More recently, this trend has consolidated in 2014 and break lower would be a red flag that a reversal of equities' outperformance could be on the cards – at least temporarily.