After a tumultuous 2020, maybe the gold market can be forgiven for starting 2021 at a more leisurely pace. After all, in the prior year, the yellow metal hit an all-time high of above $2,000 per troy ounce. The narrative around gold was that fiscal and monetary stimulus would inevitably push the metal to further highs in the new year. In fact, the metal had lost value since the record highs recorded in August. However, since touching a low point of $1,700 in late March 2021, it has now recovered some ground and sits just $100 below the $2,000 mark. As we near the second of half of 2021, we look at the main market drivers for gold this year to date, how investors are positioning themselves, and how trading liquidity has evolved on the Exchange.
The price of gold usually moves in the opposite direction from treasury markets – higher market rates available to investors reduce the relative attractiveness of gold, which is a non-yielding asset, and vice-versa. As the world economy faced an unprecedented crisis in 2020, governments across the globe provided emergency fiscal stimulus, and central banks supplied liquidity to the markets. This also meant that, for a large part of 2020, market yields were only moving one way – and that was down to record low levels. With that backdrop, gold was pushing higher and higher and recorded its strongest ever price in August 2020.
In late 2020 and early 2021, the narrative began to shift. During that time, it was becoming clear that the COVID-19 pandemic was progressively getting under control. Massive vaccination campaigns in the Western world showed that a return to some semblance of normalcy was in the cards. At the same time, politicians and central bankers did not walk back from stimulus pledges and promised to continue their strong market support. Market yields started to rise as some market participants now feared a hot-running economy, which would force the Fed to raise rates. Gold sold off in response. By May, however, the gold price found new support when the latest inflation numbers indicated a 4.2% annual increase (albeit from a low base). Higher inflation brings real yields down (since real yields are nominal market rates minus inflation). The latest employment numbers were also below market expectations. This showed that the recovery that many analysts expected may not be as straightforward as hoped for, leaving rates lower for longer.
Most of the gold price action can be explained by looking at how markets reacted to fiscal and monetary developments as well as the anticipated economic recovery. At the same time, it is also true that gold markets in 2020 were very much at the center of investors’ attention. In the first half of 2021, that may have been less the case. Within metal markets, industrial metals such as HRC steel or copper hogged the limelight. Other commodities, most notably lumber and corn also saw impressive price rallies. And of course, crypto assets were in high demand, leading to an impressive “melt up” in prices followed by a drastic correction in May 2021.
The CFTC Commitment of Trader report for COMEX Gold shows that investors have started to build up long positions in Gold futures (GC). Net long positions from managed money accounts have increased threefold from early March. On March 9, net long positions were 29,000 contracts versus 92,000 contracts on May 18. This is a meaningful increase, but it also leaves further room to grow. In the second half of 2019 and early 2020, net long positions from managed money accounts were around 200,000 futures contracts. Open interest, meanwhile, has also increased from lows of around 460,000 contracts in early April to 530,000 contracts as of late May (+15%).
Investors that are now finding renewed interest in COMEX GC may also benefit from improved screen liquidity. Comparing to a highly challenging first quarter of 2020, the average cost to trade is trending lower and towards the liquidity levels that were available in 2019 and earlier. The average top of book quantity has been progressively increasing since April 2020. For traders and investors, this means more volume available to trade at a lower spread.
In early 2021, treasury bonds sold off in expectation of a strong economic recovery, while the Fed and other central banks maintained their accommodative posture and characterized inflation pressure as temporary. The gold market is now finely balanced between different forces. On the one hand, a quick economic recovery could lower the allure of gold as a safe haven asset. On the other hand, if inflation proves more than temporary, the metal may be sought after as a store of value. By market positioning, it seems that investors are now turning their attention (back) to the yellow metal. This shows in higher managed money net long positioning and an increase in open interest. At the same time, liquidity in COMEX GC has been improving in comparison to last year, with the average cost to trade decreasing and the average order book quantity growing.
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