Thanks to irrationality; gold prices have fallen to the levels not seen since 2010. As I see it, at the current price, the precious metal is presenting a great long-term opportunity.
One of the biggest reasons investors should be paying attention to the yellow metal is the turbulence expected in the bonds market. It has the ability to send gold prices soaring very quickly.
Gold Prices to Surge When Bonds Face Headwinds
According to economics 101; when interest rates rise, bond prices decline, and yields surge.
The noise regarding the Federal Reserve raising rates this year is increasing by days. We don’t care about when it will happen. But what we do pay attention to is by how much the federal funds rate will increase by.
In June, the Federal Reserve issued its projections about the U.S. economy. The majority of the members on the Federal Open Market Committee (FOMC) anticipated that, at the end of 2015, the interest rate will be at or above 0.38% from 0.25% currently. While the move in interest rates may sound minute, percentage wise, it’s an increase of over 50%. (Source: Federal Reserve, last accessed August 11, 2015.)
By 2016, the rates are expected to rise to or above 1.375% and then by 2017 reach over two percent.
With this, it is foolish to believe that bonds will be fine. Even former Chairman of the Federal Reserve, Allen Greenspan, thinks the bond market will face scrutiny. He recently said in an interview that “We have a pending bond market bubble.” He added, “What ultimately will determine where it goes is to reach back and to ask ourselves where is the normal interest rate?” (Source: Bloomberg, August 10, 2015.)
We are seeing nervousness in the bond market already. Please look at the chart of yields on U.S. 30-year bonds. Since February, yields on the long-term U.S. bonds have increased close to 25%.
Chart Courtesy of www.StockCharts.com
Here’s something that must be understood; the bond trade is very crowded.
At the end of 2014, there were over $39.0 trillion worth of bonds outstanding. This includes treasuries, corporate bonds, municipal bonds, and others. In 2004, this amount was little over $31.0 trillion. (Source: Securities Industry and Financial Markets Association, last accessed August 11, 2015.) This represents an increase of $8.0 trillion in a matter of seven years.
When the interest rates rise, bond investors will have a very tough time. Mind you; we don’t need all the investors to run for the exit. With the size of the market, even if a small portion sells, it will create ripple effects across the board.
In this case, not knowing what to do, it will not be surprising to see investors park their money in gold as the precious metal is known to be the best hedge against uncertainty.
Why Do I Remain Optimistic?
As the negativity among investors towards gold increases, my bullishness towards the precious metal grows.
Dear reader, the bonds market is just one place that’s bound for trouble ahead and could send gold prices soaring. There are many other problems around the world that can escalate quickly, create crisis, and drive investors towards the shiny yellow metal.
At the very least, investors should be paying attention to gold prices. It is in the classic “buy when there’s blood on street,” phase.