The Many Factors Affecting the Price of Gold

Gold Price

The prices of most commodities have fallen so far this year, but gold has been an exception. This fact might seem odd, since gold is often considered a way to protect against inflation and expectations of future inflation have fallen substantially in the last two months. But there are many factors that affect the price of gold, and the ways they interact aren’t always simple.

Some of gold’s recent surge is likely related to fears about the outlook for the global economy. Concerns about slower economic growth have led to lower expectations of both future inflation and interest rates. Though lower inflation might reduce some demand for gold as an inflation bulwark, lower interest rates can reduce the opportunity cost of holding gold (which doesn’t provide its owners with any kind of income from interest or dividends) compared to other investments such as government bonds.

Recent market turbulence probably played a part as well. Gold is generally considered a “safe haven” investment that does well when financial and geopolitical uncertainty increases.  The heightened volatility in financial markets this year and the dissemination of “political risk” around the globe therefore likely contributed to the metal’s recent rise.

Yet determining the outlook for gold isn’t as simple as just figuring out whether market turmoil is going to metastasize or subside. Since it’s priced in dollars, gold tends to move in the opposite direction as the value of the US currency. The dollar often gains value in times of financial stress (although it’s fallen slightly so far this year), partially counteracting gold’s “safe haven” effect. And other factors, such as the demand for gold in jewelry and the amount of gold being mined, also matter.

Even during the global financial crisis, the pinnacle of market turmoil, gold wasn’t an unequivocally good investment. After soaring following the collapse of Lehman Brothers in September 2008, the gold price proceeded to collapse by more than 17% the following month. For the entire year of 2008, gold rose by a modest 4%.

The upshot is that in some situations gold can play a constructive role in diversifying a portfolio, particularly if you’re worried about a rise in economic, financial, or geopolitical instability. But the gold price tends to be fickle, and trying to guess which of the many factors that affect its price will prove the most dominant in the near term is generally a fool’s errand. Owning gold as part of broad set of commodities within a portfolio diversified among a range of asset classes is the way to get the benefits of owning gold without having to win at that guessing game.

Why Investors Have Reason to Be Optimistic

Glass

While stocks began this week higher, it’s hard to maintain much optimism.

According to Bloomberg data, a broad measure of global equities (the MSCI ACWI Index) entered a bear market last week, credit markets are under the most stress since 2009 and oil continues to test levels not seen in over a decade. Fears over the banking sector and a global recession are rising.

I wouldn’t dismiss these threats. Risks of a more severe global slowdown have indeed grown lately and credit markets, including those beyond high yield, are increasingly fragile. Still, in the midst of the gloom, it’s worth stepping back and considering a few reasons for optimism.

WHY IT’S NOT ALL GLOOM AND DOOM

Leading indicators still look okay. Much of this year’s selling has been driven by recession fears. However, most leading indicators about the U.S. and global economies don’t yet confirm this view. As data via Bloomberg show, my preferred measure for the U.S. economy, the Chicago Fed National Activity Index (CFNAI), is right where it has been for most of the past five years: low but still consistent with growth. The 3-month moving average is at -0.24. By contrast, in early 2008, the 3-month average was already at -1, a much more significant deviation from the norm.

Other leading indicators paint a similar picture. With regards to the U.S., the Conference Board measure of Leading Economic Indicators is up 2.7 percent from a year ago. In early 2008, it was down more than 5 percent. Even the U.S. manufacturing sector is showing early signs of stabilization. The new orders component of the ISM survey recently bounced back into expansion territory (defined as a reading higher than 50).

Valuations are reasonable. U.S. equities, as represented by the S&P 500 Index, trade at less than 14x forward earnings. In Europe, the multiple for the MSCI EMU Index is below 11. Many emerging markets, notably China, South Korea and Brazil are trading at below 10x earnings, according to Bloomberg data for their respective MSCI indices. To be sure, if global economic growth continues to slide, these estimates are probably too high. That said, we’ve already seen a fairly significant reduction in global earnings expectations. Outside of a global recession, earnings estimates look more reasonable, and valuations less threatening.

There are some signs of capitulation. For those waiting for the classic signs that investors have thrown in the proverbial towel—normally signifying it’s a good time to buy—last week featured a few reasons for optimism, as data accessible via Bloomberg show. The VIX Index climbed above 30, a level normally associated with real fear in the market. High yield markets are also evidencing extreme pessimism, with spreads at levels last seen in the summer of 2009, per Bloomberg data. Finally, the American Association of Individual Investors Investor Survey is confirming the bearish tone. The percentage of investors describing themselves as bullish fell below 20 percent last week, a level rarely broached since 2009.

You’ll notice that I didn’t include central bank stimulus on my list. What has become increasingly evident is that the latest round of central bank intervention is proving ineffective. Negative deposit rates are failing to stimulate economies or inflate asset prices. Instead, the fate of markets in 2016 will rest more with the direction of the real economy and valuations. So far the news isn’t all bad.

Russ Koesterich, CFA, is the Chief Investment Strategist for BlackRock. He is a regular contributor to The Blog.

 

Performance data quoted represents past performance which is no guarantee of future results.  Index performance is shown for illustrative purposes only.  You cannot invest directly in an index.

Investing involves risks, including loss of principal. Investments in emerging markets may be considered speculative and are more likely to experience hyperinflation and currency devaluations, which adversely affect returns. In addition, many emerging securities markets have lower trading volumes and less liquidity.  Investments in natural resources industries can be affected by variations in commodities markets, weather, disease, embargoes, political and economic developments, taxes and other government regulations.

This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed are as of the date indicated and may change as subsequent conditions vary. The information and opinions contained in this post are derived from proprietary and non proprietary sources deemed by BlackRock to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. As such, no warranty of accuracy or reliability is given and no responsibility arising in any other way for errors and omissions (including responsibility to any person by reason of negligence) is accepted by BlackRock, its officers, employees or agents. This post may contain “forward-looking” information that is not purely historical in nature. Such information may include, among other things, projections and forecasts. There is no guarantee that any of these views will come to pass. Reliance upon information in this post is at the sole discretion of the reader. BlackRock makes no representations or warranties regarding the advisability of investing in any product or service offered by CircleBlack. BlackRock has no obligation or liability in connection with the operation, marketing, trading or sale of any product or service offered by CircleBlack.

©2016 BlackRock, Inc. All rights reserved. iSHARES and BLACKROCK are registered trademarks of BlackRock, Inc., or its subsidiaries. All other marks are the property of their respective owners. 

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The Bright Side of Volatility

Roller Coaster

Stock markets around the world have had a bumpy ride so far in 2016. The CBOE Volatility Index (often called the “VIX”), a measure of expected stock market volatility, has doubled since early November, and US stocks have fallen more than 10% since the start of the year. These kinds of changes can be gut-wrenching and can make it difficult to maintain a long-term perspective. But for some investors who are able to do so there’s a bright side to volatility.

If you’re periodically investing money, such as putting a portion of each paycheck into a 401(k) account, volatility isn’t necessarily bad. When markets fall you’re able to acquire more shares, giving you “more bang for your buck.” This concept is similar to “dollar-cost averaging,” where the average price you pay for an investment will be less than the average of the prices at each of the times you’re investing (because you’re acquiring more shares when the price is low and fewer shares when the price is high). Compared to if markets just blandly moved in a straight line, the ups and downs allow your periodic investments on average to go farther.

Of course there are a few caveats to this volatility fairy tale. First, it assumes that the market will end up in the same place regardless of how much volatility there is. This assumption is clearly sometimes false; stock markets would almost certainly be higher right now if the beginning of this year had been a paragon of financial tranquility. But over the long term it’s approximately true. Stock prices 20 years from now are unlikely to be massively affected by how much stock market volatility there was in 2016.

Second, the potential benefits of volatility only apply if you have a long time horizon for your investments. If instead you need the money in the near future and markets plunge, the fact that you can then get more bang for your buck won’t do much good.

Perhaps the most important caveat, however, is that you need to be able to stick to your strategy of periodically putting more money into the market. When the kind of turbulence that’s characterized stock markets this year arrives, it can be tough to invest money knowing that one wild day of market moodiness might eliminate a chunk of it. But those who are able to continue making periodic investments can benefit in the long run.

How to Ballast a Portfolio with Bonds

See Saw

If January and early February performance is any guide, there’s a new normal in financial markets today: Heightened volatility.

Earlier last month, stocks fell faster than any deterioration in fundamentals would seem to warrant. Then, as January drew to a close, equities rallied, spurred on not by improving fundamentals, but rather by shifting sentiment after the Bank of Japan (BOJ) announced more aggressive stimulus.

The road has been bumpy for bonds as well, especially those in credit sectors, whose performance tends to be highly correlated with stocks. For instance, the U.S. high yield market, as measured by the Barclays U.S. Corporate High Yield 2% Issuer Capped index, experienced its worst start to a year ever, going back to 1994, Bloomberg data show.

Looking forward, these sorts of abrupt swings in financial markets are likely to continue, amid sluggish economic growth, rising interest rates, high valuations and geopolitical uncertainties.

It’s not surprising, then, that many investors are questioning where to find safety in the markets, beyond just staying in cash. In an earlier post, “Where to Ride Out the Volatility,” I covered three investing strategies to consider today for the equity side of portfolios, opting for defensive sectors not included. But it’s possible to ballast a portfolio using fixed income as well, and not just through Treasuries.

To put the recent volatility in context, it’s worth taking a look back. After the bull market kicked off six years ago, as investors searched for yield amid low interest rates, they increasingly turned toward fixed income credit sectors, such as high yield, investment grade and emerging market debt. These moves were justified given persistent low yields and the fact that these sectors tend to perform well amid economic improvement. However, these trends also created several imbalances. First, it drove up the valuations on many traditional equity dividend plays. Second, increasing credit exposure increases the risk of an entire portfolio due to the greater correlations between equity and credit.

Taking on such risk may be understandable when markets are only moving up, but in a volatile environment like the one we’re in today, having a portfolio of assets that tend to move together can leave investments especially vulnerable. In today’s volatile environment, it’s a good idea to consider building hedges to existing stock and credit allocations with the help of “safe-haven” bonds that are more sensitive to interest rates. In other words, when markets are volatile and there are worries about a recession, interest rate exposure can help offset credit risk in a fixed income portfolio.

The traditional way to do this would be to add exposure to nominal U.S. Treasuries, perhaps the safest of the “safe-haven” bonds, as they’re backed by full faith and credit of the U.S. government. Yet Treasury yields are still testing all-time low levels, and the Federal Reserve (Fed)’s rate normalization cycle is likely to continue, albeit very slowly. In short, these bonds remain both expensive (remember that bond prices and yields move in opposite directions) and vulnerable.

As such, I advocate shying away from nominal (unadjusted for inflation) Treasuries. Instead, I believe it’s prudent to extend allocations in other bond sectors and exposures that offer similar interest-rate sensitivity to Treasuries, but with more compelling investment cases.

U.S. Municipals: This has been the best performing bond sector over the last year, according to Bloomberg data for the Barclay’s Municipal index. Going forward, the sector should be supported by improving fundamentals and lower bond issues. In addition, yields look attractive on a relative basis with long-dated municipals yielding above comparable Treasuries.

U.S. Treasury Inflation Protected Securities (TIPS): I prefer getting duration exposure from TIPS over Treasuries, given the still very low inflation expectations priced into the market. While I don’t see runaway inflation on the horizon, there are some signs of higher prices ahead. For instance, the tightening labor market may be starting to show long-awaited wage gains. Lastly, TIPS, like U.S. Treasuries, are U.S. government securities.

Barclays Aggregate (Agg): Since 2013, many investors have shunned this bond index, believing the Agg’s higher duration or interest rate risk left portfolios exposed to large losses if interest rates shot up. But historically, BlackRock analysis shows, including some Agg-like products can create a more optimal risk-return portfolio. In addition, while the Barclays Aggregate Index is dominated by Treasuries, it also includes agency mortgage securities as well as investment grade debt. In short, it provides a broad, diversified exposure to help balance out equity risk.

Russ Koesterich, CFA, is the Chief Investment Strategist for BlackRock. He is a regular contributor to The Blog.

Terry Simpson, CFA, contributed to this post. He is a Global Investment Strategist for BlackRock.

 

Investing involves risks, including possible loss of principal.  Bond values fluctuate, so the value of your investment can go up or down depending on market conditions.  Fixed income risks include interest-rate and credit risk. Typically, when interest rates rise, there is a corresponding decline in bond values. Credit risk refers to the possibility that the bond issuer will not be able to make principal and interest payments.

This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed are as of February 2016 and may change as subsequent conditions vary. The information and opinions contained in this post are derived from proprietary and nonproprietary sources deemed by BlackRock to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. As such, no warranty of accuracy or reliability is given and no responsibility arising in any other way for errors and omissions (including responsibility to any person by reason of negligence) is accepted by BlackRock, its officers, employees or agents. This post may contain “forward-looking” information that is not purely historical in nature. Such information may include, among other things, projections and forecasts. There is no guarantee that any forecasts made will come to pass. Reliance upon information in this post is at the sole discretion of the reader. BlackRock makes no representations or warranties regarding the advisability of investing in any product or service offered by CircleBlack. BlackRock has no obligation or liability in connection with the operation, marketing, trading or sale of any product or service offered by CircleBlack.

©2016 BlackRock, Inc. All rights reserved. iSHARES and BLACKROCK are registered trademarks of BlackRock, Inc., or its subsidiaries. All other marks are the property of their respective owners.

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Will Brazil’s Stock Market Ever Bounce Back?

Brazil Underperformance 2

Brazil had the world’s worst-performing stock market last year, and it didn’t start off 2016 much better. But the country’s stock market troubles go back even further. Since the start of 2011 Brazilian stocks have lost 70% of their value, compared to a 27% loss for emerging markets overall and a gain of more than 25% for stocks globally. Will Brazil bounce back any time soon?

The country’s financial struggles are due to a combination of long-term problems and recent developments. High inflation and low worker productivity have been persistent headaches for the Brazilian economy. Over the past five years it’s been further hurt by the decline in commodity prices, which has accelerated since the middle of 2014. And Brazil has struggled with pervasive corruption, which last year enveloped Petrobras, its most prominent company.

Politics haven’t helped as the government has been riven by debates about whether President Dilma Rousseff should be impeached. And the agglomeration of man-made woes was supplemented by a natural one when the country become the epicenter of an outbreak of the mosquito-borne Zika virus.

Given all these misfortunes, why would anyone invest in Brazil? It’s certainly possible that its stock market could continue to fall, especially if China’s economy slows more than expected. But with so many factors having seemingly conspired to hurt the country it wouldn’t take much to improve the situation.

Until a bounce this past week Brazilian stocks were more than 10% below their financial crisis nadir, suggesting that stock prices already incorporate a fairly dire outlook for the future. A rebound in commodity prices, better economic policies, or even a successful impeachment of President Rousseff could all potentially trigger a turnaround. And if none of those come to pass, there’s still a chance that the attention lavished on the country during the upcoming Olympic Games in Rio de Janeiro could do the trick.

3 Small Steps to Maximize Your Investing Goals this Year

Darts

It happens all the time. We begin the New Year with ambitious resolutions: I’m going to lose weight and start exercising, volunteer my time, save more. Yet so often we get overwhelmed and sputter out.

My advice for tackling these great goals — especially the savings one: Take smaller, manageable steps that can in fact quickly have a real impact.

One important step you can take toward your savings and investing goals is to rely more on tools already available to you at your workplace and take them to the max.

One of the most efficient resources you can tap are your tax-advantaged accounts. Many of them let you invest with pre-tax dollars, and your money can grow tax-free. Depending on your tax bracket, that can result in savings of 30 percent or more. Think of it as paying for your future at a discount, with little extra effort on your part.

Here are the three big ones:

1. HEALTH CARE

In addition to the health insurance you may be getting at your job, your employer may offer access to tax-advantaged health care savings accounts that lets you use pre-tax dollars to pay for expenses your insurance doesn’t cover — co-pays, prescriptions or even that pair of retro eyeglasses you’ve been thinking about. I already regret missing our open enrollment period as both my daughters head into two years of expensive braces. So make a note of your company’s open enrollment so you can take advantage of these opportunities when they’re offered.

There are two types of accounts commonly offered — health savings accounts (HSAs) and flexible spending accounts (FSAs). And while the rules and contribution limits around them differ, both are smart options to help you save money on taking care of yourself and your family. If your employer doesn’t offer either of these, you can start saving for your health on your own by finding a qualified HSA trustee.

2. RETIREMENT

 You may already be contributing to your company’s 401(k), but if you’re only investing enough to be eligible for your employer’s match instead of the maximum that your company will match or more, you’ll be giving up a trifecta advantage: more pre-tax savings; free money from your employer; and a larger pool of dollars to compound over time. And here’s the bonus: The personal contribution limit for 2016 is $18,000 (and an additional $6,000 for catch-up contributions for those 50 years and older).

You should also consider opening or adding to a traditional Individual Retirement Account. The investments are tax-deferred, and contributions may be tax-deductible, up to allowable limits. Another option is a Roth IRA. Contributions to a Roth IRA are not tax deductible. But you can make tax-free withdrawals for qualified distributions. Additionally, for either type of IRA, you can avoid early withdrawal penalties on distributions if they’re used for higher education or first home purchase.

3. COLLEGE EXPENSES

The average four-year cost of sending a child to a private college in 2014-2015 is approximately $170,000. That cost is likely to more than double for a baby born today. A 529 college savings plan can help you catch up by letting your money grow tax-deferred — so over time, more of your contributions go to your child’s education. Other potential benefits include higher contribution limits (depending on the state), no age limit to use the funds and a better chance to qualify for financial aid (as compared to some other college savings plans). No wonder 529 plans are growing in popularity as a college savings tool.

These are just a few easy ways to help take the first steps to success this New Year. What resolutions for your financial future do you plan to take to the max?

Heather Pelant is Personal Investor Strategist for BlackRock. She is a regular contributor to The Blog.

 

This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed are as of the date indicated and may change as subsequent conditions vary. The information and opinions contained in this post are derived from proprietary and nonproprietary sources deemed by BlackRock to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. As such, no warranty of accuracy or reliability is given and no responsibility arising in any other way for errors and omissions (including responsibility to any person by reason of negligence) is accepted by BlackRock, its officers, employees or agents. This post may contain “forward-looking” information that is not purely historical in nature. Such information may include, among other things, projections and forecasts. There is no guarantee that any forecasts made will come to pass. Reliance upon information in this post is at the sole discretion of the reader. BlackRock makes no representations or warranties regarding the advisability of investing in any product or service offered by CircleBlack. BlackRock has no obligation or liability in connection with the operation, marketing, trading or sale of any product or service offered by CircleBlack.

This material does not constitute any specific legal, tax or accounting advice. Please consult with qualified professionals for this type of advice.

©2016 BlackRock, Inc. All rights reserved. iSHARES and BLACKROCK are registered trademarks of BlackRock, Inc., or its subsidiaries. All other marks are the property of their respective owners.

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