Why Gold Remains a Good Investment Despite Rising Interest Rates

Under normal circumstances, the recent Fed rate hike would have caused a significant selloff in the gold market. This is because gold is non-yielding and higher interest rates make the opportunity cost of holding gold very high. However, gold barely moved when the Fed and the Bank of Japan both raised lending rates. Why is this happening?

Merk Investments founder Axel Merk explains that investors, like himself, are looking at the tightening monetary policy and juxtaposing it against the fiscal policy of the U.S., and the answer remains favorable for gold.

He explains that the Fed is doing the right thing by tightening monetary policy in order to put a lid on stubborn inflation and bring it to the target level of 2%. The tightening cycle is also helping to restore confidence in the U.S. central bank.

Warsh replaced Jerome Powell at a time when President Trump undertook a sustained attack against Powell for not lowering lending rates fast enough. Trump chose Warsh as Fed chair when Powell’s term ended, thinking that he would be more amenable to making the monetary policy decisions that Trump wished for. Markets became jittery, fearing that politics was going to cloud the ability of the Fed to do its work independently.

Now that the Fed has hiked rates with Warsh at the helm, and the Fed chair said he would do what is required to bring inflation under control, markets breathed a sigh of relief at this assertion of independence.

Normally, a rate hike would send gold tumbling. This particular hike didn’t, and the reason is that investors are also watching the fiscal policy of the U.S.

Even as the Fed is raising rates to curb stubborn inflation, the government isn’t showing any sign of bringing its spending under control. The U.S. deficit is growing rapidly and there are concerns that it could or has already become unsustainable.

Such a huge budgetary deficit that keeps growing waters down confidence in the dollar, and investors are turning to gold as a hedge to protect their investment portfolios. This partly explains why the price of gold isn’t as sensitive to interest rate hikes as it once was.

The other structural reason for gold’s resilience amid rising interest rates is the continued accumulation of the precious metal by central banks. Estimates indicate central banks are buying at least 91 tons of bullion each month, and this is placing a firm floor underneath gold prices because there is only so much metal to go round.

As investors and central banks continue adding gold to their holdings, the long-term outlook of the market remains strongly bullish in a way that interest rate increases cannot easily reverse. In such an environment, firms like Platinum Group Metals Ltd. (NYSE American: PLG) (TSX: PTM) can expect to continue getting solid revenues from the gold they bring onto the market.

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