(Kitco News) – The U.S. dollar’s place as the world’s reserve currency won’t be threatened for decades, but even minor changes to central banks’ reserves have a massive impact on the gold market, according to HSBC Securities Chief Commodities Analyst James Steel.
In a recent interview with Bloomberg, Steel was asked about the issue of de-dollarization.
“That's been ascribed to some of the reasons that central banks, not just China, have been buying gold,” Steel said. “We don't believe that there's going to be any loss of sovereignty for the U.S. dollar as far as the world's reserve currency goes, for the next 10, 20 years, as far as we can see, for reasons that would take an entire program, you and I could talk about it.”
But Steel made a point of saying that even a small change in central banks’ reserve allocations would have major implications for commodities like precious metals.
“That's not to say that every single central bank in the world wants as many dollars as they do have,” he said. “They may want to reduce their reserves by, say, 65% to 62%. So what do you do with that 3%? Well, they're very limited as to what they can buy, both in fixed income and for currencies, and there may be a reason that they wouldn't want to buy the euro or the yen.”
“Gold provides a perfect sweet spot of getting out of the dollar without going into something else,” he said.
Steel was then asked what trade people most want to talk to him about these days. “Well, trying to figure out gold,” he said.
“I’ve just come back from Europe, and both in Europe and North America, the previous [gold] rallies have had a clear smoking gun,” Steel said. “This one hasn't so much. And that's what makes it so interesting.”
Steel said that the most recent rally has been driven by multiple factors. “There's geopolitics going on as well,” he said. “You can come to me and you can say, ‘Jim, what happens to gold?’ Usually when the Fed cuts by 50 basis points or when it increases, or when the dollar goes up this much or down this much…”
“But Gaza is different from Ukraine,” he said. “It's different from the South China Sea, it’s different from the Taiwan Straits. So every geopolitical event may have a different impact on gold.”
Steel was also asked about the difference in retail prices for gold jewelry in stores like Tiffany’s compared to the metal itself.
“It's very, very high, it’s hundreds of percent,” he said. “Hundreds of percent, but you're paying for the artistry and you're paying for the workmanship. It's well worth it. It hasn't dimmed the demand at the high end.”
“It's one of the reasons the [U.S. jewelry] gold price doesn't change,” he added, “whereas in Asia, you'll see that the markup is very low and the prices change rapidly in the shops.”
Back in April, Steel warned that the piling in of momentum traders into the gold market had increased the odds of sudden and sharp slides in price.
“I think you have to look at the genesis of the [rally],” Steel said at the time. “In addition to geopolitical risks, which are significant, we've also had a lot of extraneous players coming into the market in the past several months, who I think are not so much interested in the price of gold as such, but they wish to hedge their equity exposure. There's a lot of debate in the equity markets about how high equities can go, and many managers, fund managers, pension managers, et cetera, have no alternative but to be in equities.”
“But they do have a choice about if they hedge, and if they hedge that risk,” he added. “And gold is a proven safe haven in that regard.”
Steel said gold’s rapid rise has pulled in many momentum traders, which increases the likelihood of a sharper downward correction. “I think that's where we have to be somewhat concerned, that if we get some days where things are static, we could easily get a pullback in the price,” he said, adding that he’s seeing a lot of demand destruction in the physical markets. “It's getting very expensive for price-sensitive economies to keep buying the underlying physical.”
Steel said that the newly arrived momentum traders “may or may not be well versed in the fundamentals of gold,” but are instead reacting to straightforward buy and sell signals as the gold market approaches record highs in nominal terms, and cautioned that these nominal values can be misleading.
“I would point out for your viewers that gold hit $850 an ounce in January of 1980, which if converted into today's dollars is $3,000, around $3,200,” he said. “Now, I'm not saying we're going to go there by any stretch of the imagination. But I would point out that, from a real term perspective, we're not at historical highs.”
Asked whether nominal all-time high gold prices will spur central banks to become sellers, Steel said that for the most part he expected the opposite.
“Almost one out of every three ounces of gold that was mined in 2022 went into a central bank, and not much less in 2023,” he said. “Now, I think we have seen some slowness this year. They're aware of the price as well, and it is high.”
Steel pointed out some examples of sovereign selling but said that according to the latest numbers, they’re very much in the minority. “The IMF released data a couple of days ago that showed a couple of central banks were sellers in March,” he said. “But I do think, over the long haul, that central banks are on balance, on a committed buy program. But they certainly don't have to buy at the rapacious rate they did in the last two years.”
