Friday, August 7, 2020

Gold bulls push on, but how long can this uptrend last?

  • Gold
  • Stocks
  • XAU


Analysts’ Pick: Gold bulls push on, but how long can this uptrend last?

  • Gold’s medium-to-long-term outlook remains unchanged, as it has yet to rise to trade in overvalued regions against riskier assets.
  • A downside correction may be due, but it looks more likely to be limited in the short-term as a regression towards the mean instead of an extended downturn.
  • Analysis of sector returns suggests that financial markets are only cautiously optimistic of an economic recovery, signalling that risk aversion remains a key area of focus for investors.

Since gold broke its last record high in 2012 at around 1,900, the precious metal hasn't shown any sign of stopping and is not trading at levels above 2,000. But with fiscal stimulus from the US government upcoming, does it mean that gold has some room to fall along with reduced risk aversion? The case for gold as a hedge against the dollar in the longer can be found in our recent report for gold here. In summary, the outlook for gold remains skewed towards the upside with a strong case as a hedge against the dollar in the current economic environment.

The velocity of the rally in gold prices suggests that a sharp downward correction may be due soon


In the short-to-medium-term gold still looks undervalued in comparison to the major indices in the US. Gold-to-Nasdaq 100 continues to trade at the lower end of its two-year range, while gold-to-S&P500 has yet to reach the highs seen in late March and is trading closer to levels in April, where major indices outperformed the precious metal. This suggests that while gold has seen a rise of about 8.8% over the past two weeks, it is still not over valued when measured against riskier assets, signalling that odds are still in favour for a rise in gold prices, or a dip in stock valuations, which would still be beneficial to an investor that uses the precious metal as a hedge.

Gold in relation to riskier assets continues to suggest that the precious metal has not reached the top end of its valuation


Bloomberg's composite gold inflation adjust spot price suggests that we may start to see an easing in gold's rally soon, but it also reinforces that the overall outlook for gold remains strong. Inflation adjusted gold prices also show that gold has yet to reach fresh records when adjusted for inflation. The last peak in inflation adjust gold prices was towards the end of 2011, which was post-Global Financial Crisis, when QE2 was just announced. Inflation adjusted gold prices then started to trade within the 660 to 790 range up until 2012, which was when 10-year real yields started to pick back up, before falling into an overall downtrend up until 2020. As a result, gold looks more likely to break the peak inflation adjusted peak of 841's level despite a possible downward correction (back towards the 50-day and 200-day moving averages) since real yields continue likely to remain low in the short-to-medium term with the Fed already signalling low interest rates are here to stay until at least 2022.

Inflation adjusted gold prices suggests that there is still room for gold to gain with real yields expected to stay low in the next couple of years


Vix continues to trade above the 1000-day average price as well, signalling that financial market participants are only cautiously optimistic despite major US indices (S&P500 and Nasdaq) rising back to trade positive year-to-date. Most of the year-to-date in the S&P500 were due to the technology and consumer discretionary (driven mainly by Amazon) sectors. This implies that while the overall stock market has seen a sharp recovery, the sectors that are driving gains continue to be those that are perceived to be more defensive in the current environment, which has slightly distorted market performance. This would consequently signal that risk aversion continues to remain on investors' mind in the short-term, which would also suggest that gold prices still have room to advance despite the general market rising in tandem as well.

Year-to-date gains in the stock market were driven by only a couple of sectors skewering the perception of optimism in the market


The equal weighted S&P500 continues to trade below the S&P500 highlighting the imbalance of expected recovery in different industries


Hence, our outlook for gold remains mostly the same. The single-day correction following the publishing our report was likely not representative of a deeper correction needed for the precious metal. But we still expect gold to continue to rise in the longer-term as the precious metal still looks to be undervalued in relation to other assets, namely riskier assets. Gold, as a result looks likely to be able to break the 2075.29 resistance level and climb towards 2100.00's level. A downside correction looks probably as well, but may not be able to drop further than 1,977.97's level, which would represent a potential maximum downside of 4.19%

Technical Analysis:

XAU/USD (Gold)

Gold bulls continue to dominate the commodity, likely helped by high levels of speculation. While a long-term bullish case can be made in favour of gold by fundamental analysis, technical indicators signals that it may be time for a downward correction for the precious metal. MACD looks to be close to suffering a trend reversal in the short term, but a full-on downtrend looks unlikely at this point. Hence, it is more likely that a downside correction will be limited close to the 50-day moving average level, before continue on its upward trend. This would mean a potential downside correction of about 4% towards 1,977.97’s level before continuing to rise and retest the 2,075.29 resistance, which we expect it to break.

Support: 2053.42 / 2032.33 / 1977.97

Resistance:  2075.292 / 2100.00 / 2150.00

XAU/USD Chart (H4)