The when, why and how regarding gold’s “perfect storm,” or the appreciation of an asset that many consider to be severely undervalued, is a matter of frequent debate. Mining.com’s Richard Mills believes the forecast is clear, the clouds are building, and lightning is striking closer than ever. Rising gold price will be driven by protectionist policies spearheaded by China, the likelihood of a major inflationary bout, low rates, negative yields, supply gluts and tensions.

The multiple fronts of the perfect storm

That’s quite a basket of factors, and China’s movements as of late have perhaps been of the biggest interest to some. In short order, the Asian nation has brought 150 tons of gold bullion into its country and launched a digital yuan that some believe could at some point be tethered to gold. While it might not be in China’s interest to dump the U.S. dollar as it holds over $3 trillion in its reserves, it might very well look to take the greenback’s spot as the world’s reserve given the opportunity of a banking meltdown or a currency crisis.

Having a gold-backed digital yuan would ideally position it for such a role at a time when the amount of money pumped into the U.S. economy almost echoes hyperinflation. How and when this pent-up cash will be unleashed hasn’t yet been laid out, but consumer prices are already spiking across the board, and a nearly 30% expansion in M2 year-to-date hardly means good news for the free-floating dollar.

Central banks stockpiling gold

It should come as no surprise, then, that countries around the world are stockpiling gold with various stated goals that can best be summed up as a need for solid backing. The 650 tons of gold bullion bought by central banks in 2018, and a repeat in 2019, was then seen by many as de-dollarization, but there appear to be plenty more layers to this story as the official sector returns to net buying. The supply, on the other hand, is lacking.

World’s gold production falling

A World Gold Council report showed that last year’s gold supply fell by 4% compared to 2019, with production likewise dropping by 4%. While the production losses were attributed to the crisis, Mills points out that data released by top miners shows that gold output between 2019 and 2021 could be marked with a further 9.5% decline.

Speaking of declining…

Declining and subzero bond yields make gold a preferred safe haven

The piling into gold as a safe-haven asset by investors and central banks alike has also been bolstered by the fall of the bond market. For all the criticism that the U.S. Treasury gets for having a 1.5% 10-year yield, 2.26% 30-year yield and a negative 1.1% real yield, it stands as one of the few sovereign bonds that actually offer a yield at all. For comparison, on the date of publication, here are the 10-year bond yields among several of the world’s other leading reserve currencies:

• France: 0.084%
• Germany: -0.25% (French and German yields quoted as proxies for Euro zone)
• Japan: 0.077%
• U.K.: 0.759%
• Switzerland: -0.259%

The bond market’s sharp decline began in 2019, and many analysts believe that portfolio managers will grow to adopt gold in a reassessment of what offers a safe return of capital rather than a return on capital.

While there are various geopolitical tensions that could bolster gold’s appeal, the trade war between the U.S. and China will likely prove to be by far the biggest red flag, as the latter appears bent on diminishing the dollar on the global stage and placing itself as a reserve alternative. And, by printing trillions of dollars out of thin air with only hope backing them, the Federal Reserve will likely end up as an accomplice in any such bid.

These are all the factors of gold’s perfect storm Mills sees on the horizon. Only time will determine if this ominous forecast portends a brief squall or a hundred-year flood.

The flow of institutional gold in November may have caused some market watchers to reminisce of gold’s run between 2008 and 2013, one that saw the yellow metal reach a new all-time high in 2011 before a fairly sharp decline. After a lengthy absence, institutions jumped into the gold market with record purchases this year due to unprecedented uncertainty, only to reduce their holdings by a substantial margin on what looks to be improved sentiment (the release of a COVID-19 vaccine and an anticipated surge in customer spending).

Yet little has changed in terms of gold’s fundamentals and, as Friday’s trading session showed, in terms of gold’s price movement. Despite the large institutional outflows, gold hit a high of $1,890 on Friday, not too far off from the $2,070 peak set in August. According to State Street Global Advisors’ George Milling-Stanley, there aren’t too many reasons to compare gold’s current run to that of a decade prior, aside from the bullish prospects themselves.

Why is gold’s bull run different this time?

In a web seminar hosted by the firm, the chief gold strategist elaborated upon the differences between the two bull runs and why gold investors have more cause for optimism than concern heading into 2021. Milling-Stanley described gold’s last run as frothy in regards to investors chasing gains, though he nonetheless noted that it helped establish a new price range for gold, moving the metal from around $250 to $1,000.

Adam Perlaky, manager of investment research at the World Gold Council who also participated in the seminar, outlined a key point to look out for when anticipating gold’s movement over the coming years. Previously, portfolio managers have held steadfastly to the 60/40 stock/bond allocation while paying minimal attention to gold.

The safety that bonds once offered, however, is now highly questionable at best if not gone altogether. Sovereign bonds around the world are now yielding zero to negative interest, and with increasingly loose monetary policies accompanied by debasement of fiat currencies and mounting debt, the bond market is only expected to worsen. We simply can’t expect government bonds to keep pace with inflation in this interest rate environment.

Gold shines brightest at 10% allocation

This ties into Milling-Stanley’s separation of gold’s current bull run to that of 2011, as gold began truly gaining traction last year long before the pandemic was even mentioned, being given a massive push by worldwide slicing of interest rates and a subsequent dearth of safe-haven assets.

Whereas most institutions previously held a 1%-2% gold portfolio allocation at most, analysts are now expecting fund managers to increase this allocation to 4%-5%. Milling-Stanley believes institutions could look to increase their portfolio allocation to gold to as high as 10% in what will turn out to be a broad reassessment of hedging. According to State Street’s research, a 10% allocation to gold offers the optimum advantage against inflation risk and market volatility while still showing the greatest returns.

Needless to say, even the more conservative prediction of a +2%-3% increase in institutional gold holdings bodes extremely well for gold prices considering the trillions of dollars of investment capital involved.

While both experts note that vaccine developments have given way to some risk-on sentiment, the latter is expected to remain subdued considering the broader economic picture. Perlaky notes that the global economy has never encountered anything resembling this year’s pandemic, the full effects of which are still to be revealed.

To Milling-Stanley, gold’s pullback from August’s levels represents a healthy correction from what were at the time perhaps overbought levels. This should help the metal better prepare for the next leg of a lengthy bull run that could see it push to $2,300 sometime next year.