Why would Gold prices go up in 2016/17? | srei

Why would Gold prices go up in 2016/17?

Gold: To trade with a bullish bias post Brexit
UK’s surprise decision to leave the European Union has sent investors flocking to the safety of assets such as gold. The bullion rose ~9% in June'16 as the outcome of the British referendum became clear. Markets expect the precious metal to continue seeing strong and sustained demand amid uncertainty surrounding the exact nature of Brexit consequences on the global economy.

Negative interest rate environment to support
In response to the outcome of the British referendum, Bank of England (BoE) Governor hinted at a possible rate cut, in order to alleviate Brexit concerns. Central Banks with negative interest rates, such as the Bank of Japan (BoJ) and the European Central Bank (ECB), may also follow suit and push interest rates further in the negative zone. In such an era of low or negative interest rates, investors are bound to go in search of risk-free and higher yielding investment.  

Gold emerges more attractive vis-à-vis other asset classes
Extreme risk aversion in markets post Brexit have pushed yields to record lows. Classic safe haven bonds such as the German Bund and the Dutch bonds saw their yields turn negative for the first time ever. FED's Treasury yields and the EM Government bond yields are gradually falling. Gold being a highly liquid and “intervention free” asset is likely to emerge as the preferred form of investment in times of economic, financial and political uncertainty.  

Hopes of future rate hikes by Fed fade
The Brexit vote has almost certainly pushed the timing of the next rate hike, if any, to the year end. The Fed has four more policy meetings this year, but Brexit concerns and the upcoming US Presidential elections in Nov'16 are likely to keep the Fed in wait and watch mode. In addition to global factors, consistently good domestic data prints would need to be awaited to signal sustainable recovery of the US economy.  

Demand and supply fundamentals aiding prices
In Q1 2016, gold demand touched 1290 tonnes, a 21% increase on a year-on-year basis. This makes it the second largest quarter on record. The rise in demand was largely driven by inflows in exchange traded funds, which accounted for 354 tonnes of the increased demand, sparked by growing global and financial market concerns. Central Banks continued to be large buyers, purchasing 109 tonnes. Supply rose by 5% YoY in the first quarter on the back of increase in mine supply in the US, Mexico and Indonesia. New mine starts in Mexico, Canada and Guyana also contributed to the supply rise.  

The Sovereign Gold Bond Scheme, 2015
The GoI in Oct'15 announced the flagship Sovereign Gold Bond Scheme to provide investors with an alternative to holding physical gold. The bonds are issued by the RBI with a tenure of eight years holding 2.75% interest rate. Till now, the Government has received subscription to the tune of INR 1322 Crore, in three tranches. A fourth tranche will be launched this month.  

Based on the above points Gold to trade with a bullish bias in 2016/17
Given the prevailing market conditions elucidated above, the outlook for gold remains favourable this year. Markets expect strong and sustained inflows in the gold market in light of such uncertain times. Consequently, the yellow metal is likely to touch USD 1400/oz. by the end of 2016 on the back of risk aversion. Similarly, in India, gold prices are likely to trade with a bullish bias supported by a depreciating Rupee and a strong correlation with international gold prices.

The blog post is authored by Mr. K.R. Muthuraman, Sr. VP – Treasury, Srei Infrastructure Finance Limited.