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How to cast gold? Describe the driving force behind the rise in gold prices
Gold has played an important role in the international monetary system, and at different periods in history, countries around the world have minted gold coins. Did you know that the world's first gold coin was minted around 560 BC. The direct impetus for the early colonial activity in Portugal and Spain in the 15th century was the “gold grab”. The discovery of gold mines in California in the 19th century sparked the largest immigration in American history... Today's macro foundations are here to talk about the charms of gold.
The history of the development of gold in the past
Gold Supply Analysis: Key Drivers of Gold Prices
Why invest in gold?
How is gold priced?
What are the relevant investment types in gold?
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For a long time, gold has been circulating as a currency in many countries — the currencies of many countries around the world are pegged to gold at a fixed price, a ratio of the supply of currency to the quantity of gold, and the exchange rate between countries is also fixed, we also call this system gold capital.
In the 19th century, as Britain dominated the economy and politics, and Britain was the first to adopt the gold capital, other countries followed suit. But with the outbreak of World War I, the international monetary order fell into disarray, and gold capital became unusable. The Great Depression after the war caused people to lose confidence in banks and banknotes, and gold hoarding became widespread. At this time, the countries urgently needed a new international system to replace the gold-based system, and the Brighton Forest System was born in 1944.
Under the Brighton Forest system, the exchange rate of the dollar and gold is fixed at $35 per ounce, while the exchange rate for all other currencies against the dollar is adjustable. However, in 1971, in response to US inflation, President Nixon began to lower the value of the dollar against gold, but instead stimulated people to hoard more gold. Finally, Nixon completely disconnected the value of the dollar from gold, declaring the end of the Brighton forest system.
Despite the announcement of the official status of gold in the international monetary system, gold remains an ideal investment in people's hearts due to its scarcity and hedging properties, etc.
First, we introduce the fundamentals of gold starting from the most basic supply and demand framework.
Production: According to data from the World Gold Association (WGC), the total amount of gold mined to date is equivalent to a cube of 22 meters. Since the California Gold Rush of 1848, more than 90% of the world's gold has been mined. According to Statista, in 2022, the three largest gold producing countries are China, Australia and Russia.
Consumption: India and China were the largest gold consumers in 2010, and both maintained this position in 2022. In addition, the United States, Saudi Arabia, Germany and Turkey are also gold consumers.
Inventory: Gold is measured by weight. The United States has the largest gold reserves in the world, weighing more than 8,000 tons, accounting for 4% of the 187,200 tons of gold mined to date.
We all know that gold is not a metal that can be mined indefinitely, precisely because of the relatively limited supply of gold, gold prices are highly sensitive to changes in demand.
According to data from the World Gold Association, due to massive purchases by central banks, strong purchases by retail investors and a slowdown in ETF outflows, pushed annual demand to an 11-year high, and international gold demand reached an astonishing 3,303 tonnes, the strongest year for gold demand in more than a decade, according to data from the World Gold Association.
From a gold price perspective, despite significant resistance from the strengthening of the US dollar and rising global interest rates, gold prices continued to rise in 2022, with LBMA gold at an average annual price of $1,800/ounce, hitting an all-time high.
For some investors, investing in gold may be more than just looking at the “beauty” of gold, but also the ability of gold itself to resist inflation and risk — especially in times of economic volatility. Specifically, gold has the following advantages:
1. WEAR/COLLECTION: PEOPLE'S PREFERENCE FOR GOLD IS BASED ON THE METAL'S RESISTANCE TO DISCOLORATION, SCALABILITY, AND SCARCITY OF “EMBLEMATIC WEALTH.” According to data from the World Gold Association, nearly half of all gold mined today is made into jewelry, which is still the largest single use of gold.
2. Wealth Protection: Over time, inflation reduces the “real” value of the currency. For example, a cup of coffee that $4 can buy today might only buy a bottle of mineral water decades from now. Compared to currencies, gold can maintain its value, so investing in gold can protect investors' wealth from the effects of inflation.
3. Haven: The value of currencies is influenced by national interest rates and monetary supply policies. In times of economic and geopolitical volatility, the value of currencies fluctuates more and gold does not, so gold has hedging properties. Influenced by geopolitics, global gold demand rose by 34% in the first quarter of 2022, according to data from the World Gold Association.
4. Diversified Portfolio: Gold is often less correlated to traditional financial assets such as stocks and bonds, and sometimes stock markets fall due to high inflation and economic uncertainty, but holding gold may still yield investment returns. Therefore, incorporating gold into a portfolio reduces the overall risk exposure.
While the overall risk is lower, investors should be aware that gold investments can also carry a risk of loss of wealth. Because gold, like any asset class, its price fluctuates. Factors such as economic data, geopolitical events and changes in investor sentiment can cause the value of gold to fluctuate rapidly. In addition, unlike many stocks or bonds, investing in physical gold does not generate fixed income or dividends.
There are several different ways to invest in gold, depending on whether the investor wants to invest directly or indirectly.
1. Real Gold
The first thing people might think of is real gold, jewelry, gold bars, and so on, yes, this is also one of the easiest ways to invest in gold. Over the past decade, small bars and gold coins accounted for more than half of the world's annual gold demand. But it is worth noting that physical gold may lack liquidity and investors need secure storage.
2. Gold Futures
Gold futures give investors the right to buy or sell gold in the future on specific terms, such as prices, and are standardized contracts traded on regulated exchanges. Since there are many professional investors involved, the gold futures market is often highly liquid and efficient, and investors can flexibly do more or empty gold by buying gold futures, so gold futures are also often used by corporate clients for risk management purposes.
3. Gold ETF
Some investors prefer to hold shares in companies that specialize in gold mining and extraction, and these gold mining stocks can also be purchased through investment exchange-traded funds (ETFs) and public funds. According to statistics, exchange-traded investment vehicles such as ETFs account for about a third of gold investment demand. Gold ETFs typically track the performance of the underlying spot price of gold and can be traded on exchanges, just like a company's stock. Since the minimum investment is only the price of one share of the ETF, this method is easier for small investors than owning gold bars directly. The average annual expense ratio for these funds is typically around 0.61%, far below the fees and expenses of most public funds and other investments.
In fact, there are many investors who have always wondered what the so-called “gold price” actually means, spot or futures prices? The gold market is full of prices, which is the most important?
The answer is not difficult, let's do a simple classification of gold prices first!
The price of gold is set in three ways:
Spot price: Generally, the price of gold bars is agreed on the spot price of the gold commodity, in other words, the price is determined by the market at the time of purchase, so it varies according to supply and demand.
Fixed price: A fixed price is an average price of gold obtained through multiple adjustments and tests to spot prices, and is thus able to offset price fluctuations per minute. Fixed prices are set by institutions such as LBMA or Comex, pricing twice a day, which we will talk about in detail later.
Futures contract prices: Gold futures contracts are futures contracts for gold-backed assets whose price is the agreed price for investors and suppliers to buy and sell gold on a specific date. THE GOLD DERIVATIVES MARKET IS SEPARATE FROM THE ACTUAL GOLD COMMODITY MARKET, SO FUTURES PRICES DO NOT FOLLOW COMMODITY MOVEMENTS COMPLETELY.
Simply put, gold prices are determined by panel members such as banks and regulatory committees, who calculate average spot prices and fixed prices based on demand in the gold futures market.
Gold is traded around the globe 24 hours a day, usually denominated in USD. According to data from the World Gold Association, around 90% of global gold transactions occur on the London OTC or exchanges such as New York's COMEX or the Shanghai Gold Exchange, with the largest volume of transactions in the global OTC market. Therefore, the OTC market plays an important role in setting gold prices.
From this, investors can pay attention to three indicators of gold prices:
Spot Price: The spot price of gold is the most commonly used standard for measuring gold's current exchange rate, calculated in ounces of gold and varies every few seconds during market trading hours. Gold spot prices are the basis on which most gold bar traders determine charges.
LBMA Gold Price: The London market accounts for approximately 70% of the world's nominal trading volume, and the London Gold and Silver Market Association (LBMA) is a globally recognized silver market, and the LBMA gold price set is the reference benchmark for the gold market. LBMA gold prices are priced in USD and run by the ICE Benchmark Authority (IBA) twice daily in the morning and afternoon.
COMEX Gold Prices: London dominates the physical market, but from the perspective of futures contracts, the world's largest real-time derivatives markets are the Chicago Mercantile Exchange (CME or Comex) and the New York Mercantile Exchange.
What affects the price of gold?
Factors affecting gold price movements are in fact inseparable from the above mentioned investment gold and we classify them as the following six factors.
Based on several factors mentioned in the table, we look specifically at two examples that affect gold prices:
Inflation and currency depreciation have sparked people's enthusiasm for gold as a means of safekeeping, and emerging market central banks are buying gold in a bid to reduce their reliance on the dollar, according to a news report in the Financial Times. Among them, the Bank of China's purchases of gold hit an all-time high globally, followed closely by Poland and Turkey.
In addition, BNN Bloomberg reports that gold prices rose by around 15% from July 2022 to July 2023, supported by signs of the near end of the US rate hike cycle, purchases by various central banks and a range of hedging needs.
If you feel like you learned how to analyze gold from this course, check out our Macro Interpretation's “Advanced” column for the latest market data!
