Gold high remains in reach

Gold overwhelmed by May’s market optimism

Gold showed strength to start the month, climbing to a new yearly high of US$2,063 per ounce on May 4, a day after the US Federal Reserve (Fed) took rates another 0.25% higher. Expectations that this past rate hike may be the last one in this tightening cycle supported gold in early May. However, through most of the month, the US dollar gained and gold fell as the narrative shifted to a more hawkish view and the probability of further rate hikes in 2023 increased. Gold breached the important US$2,000 per ounce level on May 16. An upwardly-revised, first-quarter US GDP growth figure, an above-expected May US flash PMI composite figure, along with optimism surrounding artificial intelligence in US equity markets put further downward pressure on gold. Market uncertainty brought about by the US debt ceiling debacle, mentions of a potential technical default as soon as June 1 and even a warning of a potential US credit rating downgrade by Fitch failed to become a true catalyst for gold prices from these levels. Gold dropped US$27 per ounce (-1.4%) during the month, closing at US$1,962.73 on May 31.

The NYSE Arca Gold Miners Index significantly underperformed gold, down 6.64%, during the month of May. This is because gold equities are leveraged to gold—they tend to outperform gold bullion when the gold price rises, and underperform if the gold price falls. Hence, we are not surprised to see gold equities underperform gold in what was a weak month for the metal. However, in our view, the magnitude of the underperformance was surprising. We have seen in the past when the effect of a lower gold price gets compounded with poor news for the sector, such as with disappointing earnings results, negative company updates on capital projects, etc. For example, in 2022, we saw gold stocks being oversold due to unanticipated, elevated cost inflation across the sector. May was a good month for gold equities on the news front, with companies reporting first quarter results that were better than expected. Thus, we view this reaction as overdone and further contributing to the current valuation gap between gold and gold equities.

Gold’s high still seems well within reach

Gold seems to be forming a new base around the US$1,900 level, averaging US$1,933 per ounce year to date. It has traded consistently above US$1,900 for longer than ever before. Gold is showing resilience despite a strong stock market and recent US dollar strength. Gold bullion exchanged traded products outflows have subsided this year, with net inflows, albeit small, resulting in a 0.38% increase in holdings year to date.

Total ETF holdings of gold vs. gold price

Source: Bloomberg. Data as of 31 May, 2023.

Additionally, gold bullion ETF holdings are 8% lower than they were in March 2022, and 13% lower than in August 2020, when gold reached its all-time high. The US$2,075 per ounce all-time high seems well within reach, in our view.  We see a macro backdrop that continues to be supportive of gold in the longer term.

Still waiting on that re-rating

Gold producers as a sector continue to demonstrate their commitment to disciplined capital allocation, by focusing on value accretive growth, enhancing shareholder returns, profitability and maintaining healthy balance sheets. They are also responsible operators, running sustainable businesses aiming to deliver benefits to all stakeholders, while managing the impact on the environment. In our view, a re-rating of the gold mining equities from historically low valuations at present, is well supported by the industry’s strong fundamentals.