The Covid-19 outbreak, which began in December, has gradually aggravated from an epidemic and taken shape of a pandemic. Having earned the repute of a Black Swan event, the novel Coronavirus, also known as Covid-19, has brought the global economy to its knees.
Uncertainty around the short- and long-term economic impacts of Covid-19 continue to drive sharp volatility across many assets, leaving global equities in the bear market territory, while encouraging inflows into safe-havens like treasuries and gold.
According to the World Gold Council’s (WGC) quarterly report on gold-backed exchange-traded funds (ETFs), global gold ETFs have added 298 tonnes in the first quarter (January-March) of 2020, which is the highest tonnage addition since 2016. And in value terms, the addition was $23 billion, the highest quarterly amount ever in absolute dollar terms. And, during the past year, gold ETFs added 659 tonnes, the highest on a rolling annual basis since the global financial crisis of 2008, with assets under management (AUM) growing 57% over the same period.
During March, when Covid-19-related uncertainties shook global economies and markets, gold ETFs saw an addition of 151 tonnes, a 5% higher net monthly inflow of $8.1 billion, thus boosting holdings to a new all-time high of 3,185 tonnes. “Trading volumes and AUM reached record highs as gold volatility increased to levels last seen during the [2008] financial crisis, yet gold price-performance was mostly flat in dollars [terms] for the month,” the report said.
While gold prices are denominated in many other currencies, the price in U.S. dollars remained 15% below its 2011 high. “This highlights a continued trend of growth in gold ETFs outside of the U.S. over the past few years,” the report added. “A trend underscored by European funds seeing the largest absolute inflows and Asia and other regions registering the largest percentage growth during the month.”
During March, European funds led regional inflows with a growth of 84 tonnes ($4.4 billion) which accounted for 5.8% of the AUM, while North American funds added 57 tonnes ($3.2 billion) and 4% of AUM. Asian funds, primarily from China, also registered strong inflows in March, adding 4.9 tonnes ($309 million), and funds in other regions grew 9.4%, adding 4.7 tonnes, valued at $249 million.
On the gold prices, the London-headquartered WGC report highlighted that despite finishing the month almost unchanged at $1,609 per ounce, the yellow metal was incredibly volatile during March. “This realised volatility of gold across tenors rivalled levels last seen during the European credit crisis in 2011,” the report added. And the implied volatility, which means how much investors expected gold would move across tenors, reached levels last seen during the 2008 global financial crisis.
In its report, the WGC noted that when risky assets like stocks sold off sharply, investors needed to meet capital requirements. And one way they were able to do this was to sell a liquid and outperforming asset like gold. “At its trough, gold sold off 7% during the month, effectively giving up its yearly gains,” says the WGC. “The U.S. treasuries were also weaker intra-month, indicating that gold was not the only safe-haven asset to show weakness,” the report said.
However, similar to the 2008 financial crisis, the major tail risk-hedge that worked well—and worked immediately—was the VIX (volatility) index, and this, in the WGC’s view, could potentially give some foresight into upcoming gold price moves. “When stocks sold off sharply in 2008, gold experienced a few pullbacks, falling more than 30% from its peak to trough but rallied back to close 4% higher on the year,” the WGC explained.
The report further highlighted that what followed then was the initial quantitative easing (QE) in the U.S., along with similar monetary policy interventions worldwide, which propelled gold over 600% higher to its peak in September 2011. Other drivers included higher risk, particularly in the European region; gold’s store of value quality coming to the fore; and an improved opportunity cost in the face of lower rates.
“In the three months leading up to the September 2008 Lehman Brothers bankruptcy, gold-backed ETF flows were relatively unchanged,” says the WGC. Following the QE announcement, gold ETFs added 146 tonnes, or 15%, to their holdings over the next two weeks and a total of 235 tonnes, or 24%, to their holdings through the end of 2008, with an additional 1,296 tonnes, or 107%, in the following three years.
On the heels of the most recent sharp selloff, in light of the Covid-19 pandemic, the U.S. Federal Reserve, along with other central banks, instituted new QE programmes, labelled by many as ‘QE Infinity’ as most countries have not placed a limit on the amount they are willing to purchase to help the markets. “This pushed gold off its lows to close the month flat,” says the WGC.
The report also highlighted that gold ETFs added roughly 109 tonnes, or 3.7%, to assets in 2020, leading up to the February 19 peak in the S&P 500. They have since added 189 tonnes, or an additional 6.3%, to assets in six weeks. “If the trend mirrors the financial crisis, we could see significant inflows into gold ETFs over the coming months, which has been the case to begin the month of April,” the WGC added.
The WGC also pointed out that until April 8 gold has outperformed most major asset classes this year, up by more than 7%. “Gold’s performance again distinguished itself from broader commodities, as the broader commodity indices fell over 13% during the month and WTI (West Texas Intermediate) oil fell by a further 25%.
And gold’s global trading volumes averaged $236 billion a day in March, an annual increase of 61%, while futures open interest decreased last month from $122 billion to $106 billion as major futures expiration occurred in the second half of the month, the WGC explained.
Going forward, gold’s recent drivers of investment demand are expected to continue: namely, widespread market uncertainty and the improved opportunity cost of holding gold, as yields move lower. Lower rates have a positive impact on gold prices and offer the opportunity for additional gold exposure (potentially replacing bonds) in a low-rate environment. “With the U.S. Federal Reserve taking interest rates to zero for the foreseeable future, gold could do well as it tends to outperform during easing cycles,” said the WGC. “Additionally, multi-trillion-dollar fiscal stimulus policies to combat the economic impact of Covid-19 could prove inflationary, a development that could support gold prices in the long run.”
However, given the current uncertainty and its economic impact, the WGC sees a negative impact on demand for gold jewellery and bar and coin. “Despite this, we believe investment demand could more than offset a reduction in consumer demand, as was the case with global gold demand in 2019.”
The Reserve Bank of India (RBI), in its recent monetary policy report, has tried to articulate the factors driving gold prices. “As a financial asset, gold’s appeal typically rises in times of financial turmoil,” the RBI said. The central acknowledged that recently, growing concerns about a deep global slowdown due to Covid-19 boosted gold’s safe-haven demand.
The RBI highlighted that so far this year (till March 9), gold prices shot up by 11%; in 2019, they grew 18%. “Through 2019, risk-off sentiments kept the overall appetite for gold strong as also evident in high ETF inflows, large purchases by central banks, and increased COMEX (commodity exchange) net long positions,” the RBI added.
This upside to gold prices extended into 2020 up to mid-March as extreme risk aversion caused by Covid-19 sparked off sustained gold sales as it too lost allure amid heightened volatility, and gave way to an overriding preference to hold cash. “This pulled down gold prices by 12% between March 9 and 19,” the RBI pointed. However, with subsequent recovery towards the end of March, gold prices increased by 3.9% on a year-to-date basis, up to March 31.
Further, the RBI also highlighted that their findings suggest that a rise in crude oil prices and a depreciation of the U.S. dollar in the short-run lead to an increase in gold prices. “On the other hand, gold prices fall with a rise in equity prices,” the RBI added. “Gold prices also move in tandem with heightened economic policy uncertainty, thereby indicating the safe-haven feature of the asset.”
Needless to say that the gold’s safe-haven appeal will shine as much as the yellow metal itself, especially in times of crisis like the one we are living in.
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