How much further has gold got left to run? Bloomberg’s John Authers touched on this subject last week in his Points of Returns column concluding :

“The risks would come in a change of central-bank behavior — just as the last gold peak turned into a bear market once the Fed started to try to move away from its unlimited asset purchases. Such a change looks less likely this time. Gold does look expensive then, but there is little reason to expect it to fall much anytime soon.”

Despite being fairly bearish myself about gold over the last few years, I tend to support that cautious optimism. It’s certainly explains why I have been topping up small holdings of low cost gold producers. My hunch is that gold may run to $2500 before taking a big breather.

Researchers at Cross Border Capital also seem to agree in a note out today. They have been targeting gold at $2500 for a while now and they still seem fairly confident of hitting that target. They reckon that a 2% inflation trend and a further fall in real interest rates is still needed to justify current gold price under the alternative CPI/ real interest rate model. But that assumes that the real interest rate model is the best available?

“Not only does the statistical evidence point to liquidity rather than real interest rates as the causal factor, but, with nominal policy rates already effectively at the zero-lower bound, much higher inflation is anyway needed to justify even today’s gold price. Instead we focus on the effect of a liquidity trend on gold, with cyclical swings explained by investors’ risk appetite, Fed QE policy, and accelerations and decelerations in the rate of inflation.”

Cross Borders’ analysis is based on an internal model which looks at liquidity as a driver for the gold price rather than traditional measures focused on real interest rates (where they argue that the causation appears to run in reverse with gold the driver).

This internal model also boasts some overlays, notably inflation and policy choices. In terms of inflation, “each 1%-point rise in the future inflation trend over the coming year adds 2% to the level of gold. Thus, a permanent rise in the US inflation rate from 2% to 3% would add around US$50 to the current price of gold. Although this may not sound much of an impact, it does come on top of the impact from faster liquidity growth”.  In policy terms the key factors are the US Federal Reserve and (Emerging Market and Chinese flight capital. “Again, using our normalised indexes (range 0-100) of the size of the Fed balance sheet and the outflow of EM and specific Chinese capital, each 10 index point increase, respectively, adds 3% and 8% to the level of gold prices.”

Using this model, they project that gold is currently ‘fair-value’ at US$2,100/oz. and could even test US$3,000/oz. by late-2021.

European equities

It is also worth briefly updating on where we are in the European earnings cycle, courtesy of the equities team at Morgan Stanley. Overall, the message is still positive…just.

“2Q results remain better than expected…52% of companies have beaten EPS estimates by 5% or more, while 30% have missed, giving a strong ‘net beat’ of 22% of companies. This large breadth of beats highlights that consensus expectations for the quarter were too low coming into reporting season. The breadth of beats has however moderated from extremely high levels at the start of reporting season, which largely reflected the slew of positive pre-releases that came through. IT and Consumer Staples stocks have posted the strongest breadth of beats vs consensus so far.

…despite the worst quarter for European profits on record. As widely expected, the unfavourable business conditions brought about by Covid-19- related lockdowns are clearly more acute for corporate profits in 2Q than 1Q. Despite the broad beat vs consensus seen so far, EPS for the median stock is currently tracking down 28% YoY for 2Q. Commodities, Cyclicals and Financials are trending down the most in YoY terms, with Communication Services and Health Care names proving the most resilient.”

Interesting Ruffer take on rebound stocks

Fund analysts at Numis highlight a note from managers at Ruffer today. It comes form the managers investment company note from Friday.  This asked whether the best equity strategy is to stick with lock down beneficiaries, which imply no return to perceived normality.

“If the market and the economy are going to come roaring back to normal in a ‘v’ recovery, it’s unlikely to be Clorox (who make sanitiser) or Zoom who benefit most. We think if you want to play economic recovery, these are precisely the wrong sort of stocks to be in. These companies have become the new defensive assets – where investors go to feel safe. They have been highly correlated with bonds and gold. So for our equities, we are focusing more on recovery – we want to be in Walt Disney, who can re-open their theme parks, or Vinci, who operate French toll roads. Remember that, if GDP growth picks up, the valuation premium granted to secure growth stocks becomes unwarranted. If GDP growth does not pick up, then the economy is stuck in an extended slump and equities are probably the wrong asset class entirely. The latter scenario is where our portfolio protections would come into play – and we are beginning to dial these back up”.