Assets that experience rapid growth above their long-term trajectory often face a subsequent decline. This was the case for gold after reaching its peak in late 1979, resulting in a price drop of almost two-thirds over the following five years. In the current year, gold has surged over 60 percent in dollar value, marking its strongest performance in 46 years. Adjusted for inflation, gold is currently at its highest historical cost, raising questions of whether this surge indicates another bubble or signals a significant shift in the market.
Historically known as a valuable asset preserving its purchasing power through centuries, gold’s market value tends to mirror different monetary environments. Following the credit crisis of the 1920s, gold prices escalated, and during the “Great Inflation” of the late 1970s, the metal saw a substantial jump. Subsequently, in the following two decades, gold remained subdued as inflation slowed and real interest rates stayed high. The early 2000s saw a bullish phase for gold after the Federal Reserve, under Alan Greenspan, reduced interest rates. The period from 2008 to 2022, characterized by zero interest rates and quantitative easing, witnessed gold’s price volatility alongside a consistent upward trajectory.
There was a general belief at the beginning of this decade that gold prices moved inversely with long-term real interest rates. Therefore, the decline in gold’s value in 2022, coinciding with central banks raising borrowing costs and bond yields climbing, was not unexpected. However, a surprising turn of events occurred as gold prices started soaring even with a downturn in inflation and a rise in inflation-adjusted bond yields.
According to Daniel Oliver of Myrmikan Capital, the shift in this trend was triggered by the actions of then US President Joe Biden, who decided to seize Russian foreign reserves after the Ukraine invasion by Vladimir Putin in February 2022. This move disrupted the global monetary system, where the US dollar had long been a key element. Subsequently, several central bank reserve managers began seeking an asset immune to seizure and not tied to any sovereign liability, leading to a resurgence in gold as the original reserve asset of choice.
In the last three years, central banks worldwide have been consistently purchasing significant amounts of gold bullion, a trend expected to persist into the upcoming year according to Goldman Sachs. Some emerging market central banks still hold relatively small gold reserves. For example, despite China reporting gold holdings representing only 6.5 percent of its total foreign reserves earlier this year, some analysts believe the actual size of Beijing’s gold reserves is substantially underestimated.
While the recent gold price trend over the past three years may resemble a typical investment bubble pattern, the exuberance usually associated with a speculative frenzy is notably absent. Speculators are currently more focused on cryptocurrencies and artificial intelligence-related assets, paying less attention to gold. The number of ounces of gold held in exchange-traded funds remains below the peak recorded in October 2020 by more than 10 percent, as noted by Caesar Bryan, portfolio manager of the Gabelli Gold Fund. Additionally, the outstanding shares in the VanEck Gold Miners ETF, which invests in publicly traded companies engaged in gold and silver mining, have dropped by approximately a third from their 2020 peak.
Bryan points out a lack of enthusiasm among Wall Street regarding gold’s future prospects. Investment analysts’ consensus gold price projection for 2028 is notably lower than the current spot price. The gold bull market of the 1970s was marked by high volatility and substantial drawdowns. While gold investors anticipate a correction, every minor setback thus far has swiftly reversed. Bryan, with four decades of experience in the gold industry, acknowledges the unique nature of the current market sentiment.
The monetary and fiscal landscapes between the 1979 bubble and the present day exhibit stark differences. In the late 1970s, the US held a significant international creditor position, contrasting with its current status as the world’s largest debtor. The level of US government debt has surged to nearly four times the percentage of GDP compared to that period. The US fiscal deficit has remained around 6 percent of GDP for the past three years, significantly higher than the 1979 budget shortfall.
While the Fed Funds Rate exceeded 14 percent and was climbing by the end of 1979, the current policy rate is below 4 percent and on a downward trajectory. Former Fed Chair Paul Volcker was known for his anti-inflation stance, whereas President Donald Trump has expressed different preferences for the future Fed leadership. Given the high leverage in the US financial system and elevated asset valuations, replicating Volcker’s tight-money approach could pose substantial risks.
Comparing the Federal Reserve’s balance sheet between 1979 and the present, Myrmikan’s Oliver highlights notable distinctions