Not So Fast: Gold ETFs Could Surprise When Rates Rise
Conventional wisdom dictates that rising interest typically facilitate a stronger dollar and because commodities are denominated in dollars, commodities languish as interest rates rise.
That conventional wisdom has been on display this year. Over the past six months, 10-year Treasury yields have jumped 35.6 percent while the SPDR Gold Shares (NYSE: GLD) has tumbled nearly 15 percent. Adding to gold and GLD's woes, as noted earlier this week, there is little in terms of demand support to boost the yellow metal.
Data out Tuesday from industry group GFMS show second-quarter gold demand among retail buyers in China slid 25 percent while jewelry demand slumped 23 percent, Reuters reported. China is the world’s largest gold-consuming country.
India, the world’s second-largest gold-consuming country after China, is often pointed to as a potential catalyst to lift gold demand, but that probably won’t be the case this time around if demand does not pick up next month with the start of Indian wedding season.
However, history indicates gold may not be wrecked by rising interest rates. Remember that Treasury yields are the instrument traders use to anticipate changes in Fed policy and right everyone and his sister is anticipating higher rates, so Treasury yields rise and that is bad for ETFs like GLD.
The reality is gold is actually pretty solid after the Fed officially boosts borrowing costs.
“History shows that gold prices also fall leading into a rate hike and generally rise, though sometimes with a lag, after the first rate hike. This is shown in charts 3-6, for the last four Fed tightening cycles. Investors are apt to unload gold in anticipation of tightening monetary policies. This negative pressure is sustained until the Fed announces a rate hike which then eases the negative sentiment towards the yellow-metal. This explains the subsequent rallies in gold that occurred shortly after the Fed announced the first rate hike in the last four tightening cycles,” said HSBC Foreign Currency Strategist David Bloom in a note posted by Josh Brown on The Reformed Broker.
Of course, there can be no guarantees that GLD will suddenly work after rates rise and the dollar dynamic cannot be ignored. Like Treasury yields, the dollar rises in anticipation of higher rates, but sells off after higher rates become official.
The other side of that coin is that the average dollar bull market lasts eight years or longer, meaning the current dollar bull cycle is just about half over.
This year, it is see to where investors are leaning. GLD has bled nearly $914 million in assets while the PowerShares US Dollar Index Bullish ETF (NYSE: UUP) has added $216.2 million.
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