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Despite bond rally, real rates are still negative and that is good for gold - WGC's Perlaky

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(Kitco News) - The growing reflation trade has spooked gold investors as economic growth expectations pushed bond yields up nearly 200% from their lows just seven months ago.

However, in a telephone interview with Kitco News, Adam Perlaky, senior research analyst at the World Gold Council, said that it is not surprising that gold has struggled so far this year as the rate of change in the bond market has been impressive. At the same time, he added that even with the rise, real rates are still in negative territory, which is positive for the gold market.

"Yes, the 10-year yield has moved back to 1.5%, but in real terms, as an investor, you are still not making any money. Real yields are still in a hole," he said. "We are still far away from real rates impacting gold's opportunity costs."

His comments come as gold prices briefly dropped below $1,700 an ounce for the first time since June. April gold futures last traded at $1,717.90 an ounce, down nearly 1% on the day.

From a technical perspective, Perlaky said that even with the selloff in the bond market weighing on gold, the market appears a little oversold and could be seen as is attractively priced.

While nominal bond yields still have room to move higher, Perlaky said inflation expectations are also picking up. While gold prices have suffered since the start of the year, other commodities like oil, copper, and lumber have pushed significantly higher. Perlaky said that this is a strong indication that inflation is rising.

"You can see that investors are positioning for higher inflation," he said. "They are starting to wake up to this idea of a new reflation situation."

Not only could rising inflation put renewed pressure on real bond yields, but Perlaky also noted that there are growing concerns about the recovery as nominal rates move higher, putting pressure on equity market valuations.

Although the Federal Reserve has been extremely hesitant to talk about potentially implementing a yield curve control program, Perlaky said that other nations and central banks had been more vocal on the subject.

"If rates move much higher, it becomes exponentially more expensive for a lot of these countries to be able to handle their balance sheets," he said. "So, it's not just the U.S.; it's a lot of major countries that are effectively saying that if yields get too far out of control, they're going to do something to intervene. Ultimately that becomes a positive for gold."

Perlaky also said that he is not convinced that the improving investment optimism in the marketplace is as reliable as it initially appears. As investors continue to pile into overvalued equity markets, gold's role as a portfolio diversifier grows more important by the day.

It's not just gold that is impacted by rising bond yields. Perlaky pointed out that the higher bond yields go, the more they affect equity valuations.

"There is still a lot of uncertainty out there," he said. "The Argument for having gold in your portfolio hasn't changed. It still acts as a diversifier. It still has long-term returns. If you're concerned with inflation now, it's the perfect investment tool."

Although gold is suffering, Perlaky said that they don't expect to see last year's unprecedented buying to be a new tidal wave of selling as optimism continues to grow in the marketplace. He added that while investor demand for gold-backed exchange-traded funds has slowed in recent months, physical demand is picking up and providing a new pillar of support.

At the same time, the ETF market is a lot more diverse, which makes it less susceptible to panic selling.

Disclaimer: The views expressed in this article are those of the author and may not reflect those of Kitco Metals Inc. The author has made every effort to ensure accuracy of information provided; however, neither Kitco Metals Inc. nor the author can guarantee such accuracy. This article is strictly for informational purposes only. It is not a solicitation to make any exchange in commodities, securities or other financial instruments. Kitco Metals Inc. and the author of this article do not accept culpability for losses and/ or damages arising from the use of this publication.