Last Week’s Markets in Review: Gold, Interest Rates and the U.S. Dollar
Stocks moved higher last week on weekly jobless claims figures which increased by 1.18 million, well below expectations for a 1.43 million increase. Earnings updates, economic stimulus news, and renewed concerns over continued geopolitical tensions influenced markets. In the U.S., the S&P 500 Index rose to a level of 3,351, representing a gain of 2.49%, while the Russell Midcap Index moved 2.05% higher last week. Meanwhile, the Russell 2000 Index, a measure of the Nation’s smallest publicly traded firms, returned 6.03%. International equities were able to gain ground as developed and emerging markets returned 1.96% and 1.00%, respectively. Finally, the yield on the 10-year U.S. Treasury moved slightly higher finishing the week at 0.57%, up 2 basis points from the week prior.
In recent months the U.S. dollar (USD) has been on the decline and gold has reached all-time highs. This week we’ll review the macroeconomic relationships between gold, the USD, and interest rates. The relationships between these prices and values usually follow a predictable path under “normal” market/economic conditions. The price of gold is typically inversely related to interest rates and the dollar, while the USD and interest rates are directly related. However, our current state is anything but normal. Here is a quick refresher on these relationships:
• Gold/U.S. Dollar – International gold is priced in USD. If the value of the USD falls vs the value of other currencies, it will increase the price of Gold.
• Gold/Interest Rates – Gold is a non-interest bearing asset. Accordingly, when interest rates are low, the attractiveness of gold increases relative to fixed-income alternatives. In addition, interest rates are typically low when the economy needs a boost, which also increases the allure of gold as a store of value and relatively safe asset and potential inflation hedge.
• U.S. Dollar/Interest Rates – Higher interest rates attract global capital, thus increasing the value of that currency and vice-versa.
During times of crisis, relationships change. Gold and the USD are widely seen as safe-haven assets and prices strengthen during adverse economic conditions. This was certainly true during the onset of the COVID-19 pandemic up until the stock market lows were reached at the end of March. Since then, the two assets have moved in different directions. Gold has reached all-time highs and the USD continues to slide. Consider the returns in July. The U.S. Dollar Spot Index (DXY) fell over 4%, its worst month since 2010, while gold soared over 10%. We’re still in economic disarray, so what’s driving this dislocation?
The tailwinds for gold are abundant. As previously discussed, it’s a perceived safe haven, interest rates are low, and the USD is weakening. Gold also provides a relative sense of stability. The price can be volatile at times; however, its value isn’t easily depreciated by outside factors or other currencies. In addition, it’s typically insulated from inflation, which can be a concern as policymakers and central banks increase the money supply and raise debt to support their respective economies.
The U.S dollar, on the other hand, has weakened since the March 2020 market lows. Some will say that it was overvalued in the first place, however, based on the levels of global interest rates, that may not be the case. Interest rates have been on the decline all year. It wasn’t until March that the USD began its decline and continued that path forward. The precipitous drop isn’t likely to simply be the restoration of the common relationship, as global interest rates have also plummeted. The initial decline also happened to coincide with the Coronavirus Aid, Relief, and Economic Security (CARES) Act which provided record levels of aid to citizens, businesses, and capital markets. The bill was signed into law by President Trump on March 27, 2020.
Gold appears to be the preferred safe haven and even potentially “Big Tech”. The NASDAQ has lead the equities rally thus far in 2020 and investors seem comfortable pilling assets into the likes of Microsoft, Amazon, Apple, etc. It will be important to keep an eye on the “greenback” (a.k.a. the U.S. dollar) and various price drivers as we move through the year. Remember, multinational companies with significant revenues coming from abroad, do benefit from declines in the value of the USD. To this end, of S&P 500 companies belonging to the Information Technology, Materials, and Consumer Staples sectors generate the most international revenue on a relative basis.
We continue to encourage investors to stay disciplined and work with experienced financial professionals to help manage their portfolios through various market cycles within an appropriately diversified framework that is consistent with their objectives, time-frame, and tolerance for risk.
We recognize that these are very troubling and uncertain times and we want you to know that we are always here for you to help in any way that we can. Please stay safe and stay well.
Sources for data in tables: Equity Market and Fixed Income returns are from JP Morgan as of 8/07/20. Rates and Economic Calendar Data from Bloomberg as of 8/07/20. International developed markets measured by the MSCI EAFE Index, emerging markets measured by the MSCI EM Index, U.S. Large Cap defined by the S&P 500. Sector performance is measured using GICS methodology.
Disclosures: Past performance does not guarantee future results. We have taken this information from sources that we believe to be reliable and accurate. Hennion and Walsh cannot guarantee the accuracy of said information and cannot be held liable. You cannot invest directly in an index.
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MSCI- EAFE: The Morgan Stanley Capital International Europe, Australasia and Far East Index, a free float-adjusted market capitalization index that is designed to measure developed-market equity performance, excluding the United States and Canada.
MSCI-Emerging Markets: The Morgan Stanley Capital International Emerging Market Index, is a free float-adjusted market capitalization index that is designed to measure the performance of global emerging markets of about 25 emerging economies.
Russell 3000: The Russell 3000 measures the performance of the 3000 largest US companies based on total market capitalization and represents about 98% of the investible US Equity market.
ML BOFA US Corp Mstr [Merill Lynch US Corporate Master]: The Merrill Lynch Corporate Master Market Index is a statistical composite tracking the performance of the entire US corporate bond market over time.
ML Muni Master [Merill Lynch US Corporate Master]: The Merrill Lynch Municipal Bond Master Index is a broad measure of the municipal fixed income market.
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LIBOR, London Interbank Offered Rate, is the rate of interest at which banks offer to lend money to one another in the wholesale money markets in London.
The Dow Jones Industrial Average is an unweighted index of 30 “blue-chip” industrial U.S. stocks.
The S&P Midcap 400 Index is a capitalization-weighted index measuring the performance of the mid-range sector of the U.S. stock market, and represents approximately 7% of the total market value of U.S. equities. Companies in the Index fall between S&P 500 Index and the S&P SmallCap 600 Index in size: between $1-4 billion.
DJ Equity REIT Index represents all publicly traded real estate investment trusts in the Dow Jones U.S. stock universe classified as Equity REITs according to the S&P Dow Jones Indices REIT Industry Classification Hierarchy. These companies are REITs that primarily own and operate income-producing real estate.