Qaurum uses hypothetical scenarios by global economic analysis provider Oxford Economics, a leader in quantitative analysis, and customizable scenarios from users to determine how those variables might impact future gold supply and demand, and to calculate implied gold returns.
“The web-based tool, available on www.goldhub.com, enables investors to analyze gold’s potential performance with a quantitative rigor consistent with how they evaluate other asset classes,” said Juan Carlos Artigas, director of investment research at World Gold Council and project lead for Qaurum. “As such, Qaurum can facilitate both strategic and tactical allocation decisions.”
Performance in the aftermath of the pandemic
The most recent quarterly update of Qaurum allows investors to gauge the impact on gold’s performance in a variety of economic scenarios over the next four years, from 2021 to 2024, as the world emerges from the global pandemic.
The latest update looks at five hypothetical scenarios: rapid upturn, gradual recovery, delayed recovery, financial crisis and global second wave of COVID-19.
The first three scenarios assume that the worst is behind us, with the recovery taking place at different speeds: “rapid,” “gradual” or “delayed.” The fourth and fifth scenarios assume continued fallout from the pandemic, in the form of a “financial crisis” or as a “second,” or renewed, wave of infections, both of which send the global economy back into recession.
In the “rapid” recovery scenario, vaccines are rolled out swiftly and successfully, helping push global economic output to levels last seen in 2019 prior to the pandemic. The rapid recovery also stokes inflation, maintaining investors’ interest in gold. It returns 12.5% in 2021, 2.5% in 2022, but falls 11.3% in 2023 and is flat in 2024.
In the “gradual recovery” scenario, GDP growth recovers well, despite only a gradual relaxation of COVID-19 restrictions. Inflation remains subdued, and monetary policy is accommodative across all regions. Gold returns 12.5% in 2021, followed by three years of small declines, 3%, 3.7% and 0.4%, in 2022, 2023 and 2024.
In the “delayed” recovery scenario, widespread lockdowns constrain the global recovery. Weak sentiment and earnings lead to a 16% decline in global equity markets in 2021. A slow recovery ensues, and 10-year government bond yields in Germany don’t turn positive until 2024. Gold returns 15.1% in 2021, falls 8.6% in 2022, climbs 1.4% in 2023 and declines 0.7% in 2024.
In the two downside scenarios — “financial crisis” and “global second wave” — the world plunges back into recession for at least two consecutive quarters in 2022. The financial crisis scenario has a more pronounced impact on asset markets. The S&P 500 falls 27% in 2021 (versus 20% during the global second wave) and the price of Brent crude oil drops 32% (versus a 0.9% rise in the global second wave). While the financial crisis scenario predicts that gold will respond with a 14.4% rise in 2021, it would fall 6.4% in 2022 before a 5% recovery in 2023, then have a flat year in 2024. In the global second-wave scenario, gold returns 17% in 2021, loses 1.9% in 2022 and then has returns of less than 1% in 2023 and 2024.
“Gold performed as expected [last] year, with both investment demand and price reaching record levels, [while] economic uncertainty [fueled by COVID-19] shook the markets and pushed real rates to lows worldwide,” Artigas said.
Qaurum’s results for 2020 provide a good illustration for institutional investors. Qaurum predicts that during economic contraction, demand for gold investment — supported by higher risk and uncertainty, and combined with lower opportunity cost — generally boosts performance and offsets the negative effect of lower consumer demand.
In subsequent years, gold’s performance could depend on the speed of the recovery and the duration of monetary and fiscal stimulus, as well as the emergence of higher inflation. This period of recovery, with stronger growth but latent risks — also known as reflation — tends to be positive for gold.
Given all the possible scenarios over the next few years, Qaurum’s analysis of potential gold returns can provide a road map in volatile time periods like the COVID-19 pandemic for institutional investors looking for an uncorrelated, diversified investment.
Understanding how Qaurum works
Gold can’t be valued by common frameworks used for stocks or bonds. There’s no coupon or dividend. Typical discounted cash flow models fail, and there aren’t any expected earnings or book-to-value ratios. Instead, gold is a hard asset, thus it carries no credit risk.
World Gold Council research shows that gold’s performance can be explained by market equilibrium — the historical performance resulting from annual demand and supply.
Qaurum’s underlying methodology for determining implied returns is the Gold Valuation Framework, which measures the interaction of supply and demand to provide an easy and accurate way to analyze gold’s value.
The implied equilibrium price of gold can be determined in three steps.
● Determine drivers of demand and supply. Strategic drivers include: economic expansion that increases the value of jewelry; technology uses of gold; and long-term savings of gold; as well as the risk and uncertainty that boosts investment in gold as a safe haven. Tactical drivers include: interest rate and currency changes that can impact the value of gold — making them a good opportunity if taken advantage of, but may add opportunity costs if not — and the momentum of capital flows that can be reflected in gold prices.
● Estimate expected demand and supply, based solely on information about relevant macroeconomic variables, assuming there is no change in the price of gold. This step uses information about the macroeconomy, but it doesn’t take into account the impact that changes in price may have on the behavior of buyers and sellers.
● Solve for an implied equilibrium price. Buyer and seller behavior is influenced by price, and estimating demand and supply solely from macroeconomic variables generally will result in a market imbalance, where demand will be greater or less than the available supply. This step calculates the implied change in price necessary to bring the market back to equilibrium.
Qaurum also will incorporate segmentation, in some cases, in order to appropriately capture the impact of diverse market participants. With gold, the behavior of consumers and investors, for example, can be driven by different factors, and drivers of mine production can differ from those of gold recycling. As a result, the Gold Valuation Framework is applied to key segments that appropriately capture gold’s dual nature as a consumer good and as an investment, as well as those segments that explain the different elements of gold supply. In particular, the World Gold Council splits demand into five sectors: jewelry, technology, identifiable investment (gold bar, gold coin and exchange-traded funds), implied investment and central banks. Supply, meanwhile, is split into three sectors: mine production, hedging and recycling.
“Because gold has a unique dual nature as both a consumer good and an investment, some view its performance as unpredictable,” Artigas said. “Qaurum helps investors intuitively understand gold’s performance and its connection between demand, supply and financial, economic and geopolitical events.”
To learn more about Qaurum go to www.goldhub.com
