(Kitco News) It’s a misconception that gold offers no yield, at least as far as central banks are concerned, according to TD Securities, which sees gold deposits starting to yield robust returns.
“While most private investors generally cannot generate returns from gold holdings, central banks can actively manage their holdings to generate returns,” said Bart Melek, head of commodity strategy at TD. Securities.
Central banks can either loan out their bullion reserves to earn the gold deposit rate or swap the precious metal for US dollars at the gold forward offered rate (GOFO) or swap rate, Melek summarizes in the report.
Keep in mind that gold reserves are considered very liquid assets.
Over the past three decades, gold rental rates have fluctuated between three distinct periods.
Between 1989 and 1999, the 12-month gold lease rate averaged 140 to 200 basis points, which was very robust. Between 2000 and 2009, it averaged 54 basis points. And between 2010 and 2020, it was just 15 basis points, Melek pointed out.
Post-COVID, a big shift has occurred as global monetary policies have tightened, averaging around 50 basis points since mid-March 2022, he added.
“As the Fed continues to tighten aggressively in the face of soaring inflation, real rates will continue to rise across much of the Treasury curve, long speculative activity will decline, and central banks will be less aggressive in growing yields. gold reserves. Therefore, TD Securities expects the environment to be ripe again for an extended period of relatively high returns paid for gold on deposit with bullion banks.”
Why are central banks holding gold and why are gold yields starting to look promising?
Central banks hold gold in their reserves primarily because of its intrinsic value, its liquidity, and the fact that it is not anyone’s responsibility.
However, TD Securities noted that there has been pressure on central banks to leverage their gold reserves to generate returns above capital gains.
“This result[s] in higher rental rates, as the flood of metals from the central bank[s] spot markets which was then returned in the future by producers and other physical holders. This is a trend that has started to return recently,” Melek wrote. “According to the World Gold Council’s 2020 Central Bank Gold Reserves Survey, 47% of respondents said they were actively lending their holdings, while 53% said they are involved in exchange transactions with their gold reserves.
Market conditions are now favorable for ever-higher gold rental rates, Melek noted.
“The reversal of extremely accommodative monetary conditions, as the Fed and other monetary authorities embarked on aggressive tightening, suggests the environment is ripe for higher rental rates,” he said. “In addition to monetary policy, central bank selling and buying is also helping to boost gold leasing rates on gold, as is hedging activity.”
Additionally, higher real and nominal rates are generally good news for gold returns. “There will be continued gold selling pressure or a general lack of significant interest through 2023 as aggressive Fed Funds increases push up real rates along the curve and the cost of desirability of holding the yellow metal in vaults increases in the face of unacceptably high inflation, we also conclude that rental rates should be at consistent levels not seen in over a decade,” Melek explained.
TD Securities also expects lower gold prices going forward, which benefits gold returns as bearish gold markets stimulate hedging activity.
“A bear market in gold tends to induce miners to hedge with bullion banks, creating an environment where gold rental rates are likely to be high and volatile. The weak economy and the commodity market also means that many central banks will have to use up dollar reserves more than in boom times, suggesting that gold buying could remain sluggish. gold until 2023,” added Melek.
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