For the past several years, gold has been seen by market participants as a good, safe investment. It has been sought after in times of trouble. For instance, demand for the commodity skyrocketed when the financial system of the West crashed in 2007.
But, alas! The tides have changed.
Just when it looked like it was poised to make a run for $1,600.00, gold started to drop. In a span of five days, the asset has lost about 15% of its value as it now trades at around $1,350.00 per ounce. What the heck is going on?
Reason 1: Forced Selling of Gold Reserves
Since the very disappointing U.S. employment report for March, it seems that bad news have been hitting the wires one after another. Yesterday, there was the Chinese GDP report that showed that the economy grew at a much slower pace in Q1 2013. There was also the news about Cyprus’ immediate need for 6 billion EUR.
Consequently, all these bad vibes have sparked speculations that governments may soon need to liquidate their gold reserves. As the U.S. and China deal with slower growth and the euro zone deals with providing liquidity to some of its cash-strapped members, their respective governments may need to sell their gold reserves in order to raise money to pay for their debts.
The prospect of this has rattled a lot of market participants since the biggest gold-holders, the U.S., Japan, and Italy, are all highly-indebted.
Reason 2: Quantitative Easing Isn’t Leading to Hyperinflation
One of the main reasons gold has been heavily bought up in the last couple of years is due to the fear of hyperinflation. For investors, gold had high intrinsic worth, which meant that even though the purchasing power of each unit of currency depreciates, it won’t lose its value.
But contrary to the market participants’ initial fears, quantitative easing didn’t result in a surge in consumer goods and prices. In fact, inflation has been pretty weak, which can be seen in recent reports.
In the U.S., the headline consumer price index has average at 0.14% for the last twelve months. In Japan, the central bank’s decision to engage in extremely an aggressive monetary policy to bring inflation up to 2% has been met with a huge amount of skepticism. Gold’s reputation as a hedge against inflation seems to have declined greatly.
The usual perception that gold is a safe haven isn’t holding true anymore. Economists, investors, and analysts alike are looking at the global economy and they’re shocked to see that inflation is nowhere to be found. This has led the market to reassess the value of gold, and ask why the bright yellow metal was even bought up in the first place.