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How Gold ETFs Would React if the U.S. Falls Over the Fiscal Cliff


If a deal can’t be reached on the U.S. fiscal cliff and automatic spending cuts and higher taxes are triggered, investors could see gold and the dollar rise together in a repeat of late 2008, says a strategist at a precious metals ETF provider.

Nicholas Brooks, head of research and investment strategy at ETF Securities, said the knee-jerk reaction to going over the fiscal cliff would likely be a stronger dollar and U.S. Treasuries, and wholesale dumping of riskier assets like stocks.

“There would be confusion at first and very volatile trading if we go over the fiscal cliff,” he said in a recent telephone interview.

However, longer-term, he thinks this scenario would be bullish for gold. “If we do go over, investors will ultimately focus on the negative aspects of raising taxes and spending cuts. The negative impact on economic growth could have a worse impact on the U.S. fiscal situation than spending cuts and higher taxes, because government revenues will fall,” Brooks said. [How to Use Gold ETFs]

He pointed to Greece and Spain as examples of what can happen after austerity measures. [Temporary Identity Crisis for Gold ETFs]

“If the fiscal cliff triggers a recession, risk assets will get hit badly. Investors will immediately look for safe havens. We could see a situation where gold prices rise sharply even as the dollar strengthens like the end of 2008 when they rose together,” Brooks added. “If we go over the fiscal cliff, it would lead to a strong rally in gold prices – maybe not right away, but after all the information is digested.”

There are two main factors that drive gold prices, the strategist said.

In the short-term, gold has an inverse relationship with the U.S. dollar and is driven by noncommercial and speculative trading in the futures market. The second driver is deeper and structural as investors view gold as an alternative currency and insurance against debasement of the purchasing power of the dollar and euro in particular.

“Many institutional investors are buying gold as insurance against worst-case global scenarios,” Brooks said. “They’re concerned about the U.S. debt problem and extremely accommodative monetary policies by the Federal Reserve and other central banks. They view gold as one of the few ways to hedge the risk of currency debasement and inflation.”

ETFS Physical Swiss Gold Shares (SGOL)


The opinions and forecasts expressed herein are solely those of John Spence, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.