“May you live in interesting times” is an old Chinese proverb. While it may sound like a blessing, the saying is actually a subtle curse, something you might wish upon an adversary. The implication is that “interesting times” are chaotic and painful.
2017 is shaping up to be very interesting. Since the victory of Donald Trump in the U.S. presidential elections in November, global stock markets have surged higher, with the S&P 500 up about 8 percent since the U.S. election and 2.6 percent year-to-date. Meanwhile, the MSCI Asia ex-Japan index, after dropping in the wake of Trump’s victory, has reversed course and is up 6.7 percent in 2017 so far.
However, as I’ve written before, I think that the so-called Trump rally is due to reverse soon, as mean reversion comes into play. And with high levels of uncertainty in markets, now is also a good time to buy one of the assets that performs best during times of uncertainty – gold.
As the graph below shows, gold prices are up nearly 6 percent so far in 2017. Precious metals had a bout of weakness after Trump’s surprise victory. Global investors bought U.S financial and manufacturing stocks and sold “defensive” assets like gold.
From the election to mid-December, gold dropped about 13 percent. However, since then, it’s rallied to about US$1220, a gain of 9 percent. Gold remains nearly 8 percent below its highs from June of last year – a level it’s likely to revisit before long. It’s not going to happen immediately, but I don’t think it’s a stretch for gold’s 2011 highs – of US$1,837/oz, or about 50 percent above current levels – to be in sight.
Three reasons why 2017 could be a big year for gold
The U.S. dollar is likely to weaken
Trump recently said the U.S. dollar is “too strong.” He has accused China of manipulating the yuan lower relative to the dollar to benefit China’s exports. The dollar is up 2 percent since the election, but for Trump to bring manufacturing jobs back to America, he will need it to weaken. As gold and the dollar usually trade in opposite directions, a softening dollar will be positive for gold.
The “Trump Rally” will eventually succumb to mean reversion
As I mentioned, global stocks have been strong since the election. Investors have been anticipating Trump’s anti-regulation, pro-growth plans will stimulate global corporate profits. But these policies face political obstacles and will take time – if they are ever enacted. It’s only a matter of time until the current “risk-on” environment turns to “risk-off.” Gold—the fear asset – will benefit.
Odds of a “Black Swan” event that will ignite gold prices are increasing
Black swan events are unexpected events that have outsized and serious ramifications – such as the global economic crisis of 2008, for example. The unpredictability of some of President Trump’s early actions in office, and the poorly thought-out implementation of some of the new government’s policies, suggest that a black swan (which by definition is almost impossible to predict) may emerge from the depths. (Last week we talked about another possible black swan, here.)
I believe it’s crucial as an analyst and investor to be objective. Letting your political views cloud investment decisions is a good way to go broke. It makes a lot more sense to position your portfolio to profit from what may happen (see here for one idea that’s working out) – and protect it at the same time.
Fresh demand from Islamic Investors is hitting the gold market
As we discussed here and here, Islamic investors in modern times have shied away from gold-related financial products. This is because the legality of gold investments has long been unclear under Islamic Finance law.
However, as anticipated, a Sharia Gold Standard was approved on December 5. The Accounting and Auditing Organization for Islamic Financial Institutions and the World Gold Council teamed up to clarify the rules for Islamic gold investing under Sharia Law.
The Standard allows gold-based Sharia-compliant products, like ETFs, to be offered throughout the Muslim world. Indications are that the SPDR Gold Trust – the largest gold ETF in the world – qualifies under the guidelines.
The Sharia Gold Standard will stimulate gold demand across Muslim markets like Malaysia, the UAE and Saudi Arabia, where Islamic Finance is well established. Indonesia and Pakistan are pushing for Islamic Finance to play a greater role in their economic infrastructure.
Islamic savers and investors currently hold almost US$2 trillion in assets, an amount that is expected to grow to US$6.5 trillion by 2020, according to the Islamic Finance Stability Board.
President Trump’s ban of immigrants from seven predominantly Muslim countries, and the ensuing backlash, underscores the uncertainty many Muslims face around the globe. The world’s 1.6 billion Muslims may increasingly be able to invest in gold as a hedge.
Just a 1 percent allocation to gold among Islamic investors would equate to nearly US$65 billion, or 1,700 tonnes, in new demand. That’s almost double China’s estimated total 2015 demand for gold.
So as the Trump rally loses steam, and investors get a reality check from political and geopolitical risks, expect risk-on to become risk-off. Meanwhile, the chances of a black swan of some sort are rising. Finally, a major new source of gold demand is arriving via Islamic Finance.
One easy way to own gold is through the SPDR Gold Shares Trust ETF (code O87 in Singapore; ticker GLD on the New York Stock Exchange) or the Value Gold ETF on the Hong Kong exchange (code: 3081).