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With expectations of a recession for developed economies more aggressive among analysts, price performance data and fundamental data strengthen the case for gold to increasingly outperform US public equities this year.
Whilst the US economy was in a technical recession in 2022 ( two consecutive quarters of negative economic - GDP growth) it hasn't entered a full recession as per the definition of the NBER, which is “a significant decline in economic activity that is spread across the economy and that lasts more than a few months.”
Considering higher interest rates and other variables that threaten the economy, there is a growing expectation for the US economy and other developed economies to enter a recession as defined by the NBER, which from a financial market’s perspective brings in an interesting dynamic, especially when looking to harvest returns.
While Gold returned 0% in 2022 and US equities (proxied by the S&P 500) on negative return territory on last day of trading for 2022, with a few variances in some equity sectors, heading into a NBER defined recession, gold promises to be strongly negatively correlated to the S&P 500 and shoot to the upside while stocks remain underwater.
See the chart below. Through the past three recessions ,as highlighted in gray, Gold made positive returns whilst the S&P 500 declined further.
Fundamental drivers for a golden renaissance.
The chart below shows gold and silver miners’ capital expenditure (capex) as a percentage of cash flows from 2009 to date: Visualizing a clear downtrend. Simply put, this means companies are deleveraging and are contracting operation, incrementally producing less and less gold over time (hence building up more cash reserves)
This coupled with other data coming in that reserve banks are buying record high quantities of gold, ultimately means we're in a cycle of decreasing gold supply matched with an imbalanced demand hike, and evident from the graph below; fluctuations in gold supply whether up or down, have an impact on price. Increases in supply coupled with other fundamentals of that period have an effect of decreasing price, and the opposite holds, decreased supply in conjunction with periodic fundamentals increases gold prices, perfectly maintaining a negatively correlated relationship.
Should expectations on better investing conditions (lower inflation and interest rates, no recession or a milder recession) not prevail, history and current cycle fundamentals pose a possibility for US equities to increasingly underperform gold.
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