Confluence Investment Management offers various asset allocation products which are managed using top down or macro analysis. We post thoughts on asset allocation on a weekly basis in this report, updating the report every Friday, with an accompanying podcast.
Gold rose steadily from late summer 2018 through August 2020. Prices at the time
declined to 1700 and has since drawn a trading range between 1700 and 1900. In
this report we will update our take on metal.
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We have held gold in our asset allocation portfolios since 2018, although we have diversified our commodity holdings by adding a larger commodities ETF alongside our gold position.
The long-term outlook for gold remains positive. Our basic gold model, which uses the Federal Reserve and European Central Bank balance sheets, the EUR / USD exchange rate, real yields on two-year Treasuries, as well as the US budget deficit by relative to GDP, suggests that prices remain undervalued.
Gold prices started to deviate from the pattern around July 2020. When a pattern starts to ‘go wrong’ it makes sense to see if anything has changed.
We noted earlier this year that in August 2020, the correlation between bitcoin and gold “went” from positive to negative.
Cryptocurrencies share a similar characteristic with gold; they both provide a store of value. They have been somewhat positively correlated since 2015 (+ 66%) but from August 2020 (indicated in light green on the graph), gold and bitcoin are inversely correlated at 83.7%. This change in sign suggests that the two are now considered competing products. Through a few data tweaks, we’ve added bitcoin to the base model for gold. The results still suggest that gold is undervalued, but less so compared to the base model.
The sign of the coefficient of bitcoin is negative, which suggests that the decline in the price of bitcoin would be bullish for the price of gold. The other takeaway from the model is that even with the addition of bitcoin, gold is attractive at current levels. Given the risk of a regulatory crackdown on bitcoin, there is a risk that bitcoin prices will fall, which should support gold.
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Past performance is no guarantee of future results. The information provided in this report is for educational and illustrative purposes only and should not be construed as individualized investment advice or a recommendation. The investment or strategy discussed may not be suitable for all investors. Investors must make their own decisions based on their specific investment objectives and financial situation. The opinions expressed are current as of the date indicated and are subject to change.
This report was prepared by Confluence Investment Management LLC and reflects the current opinion of the authors. It is based on sources and data believed to be accurate and reliable. The opinions and forward-looking statements expressed are subject to change. This is not a solicitation or an offer to buy or sell securities.