Is gold gaining ground and what is your strategy?

“Oil and other commodities were the stars of 2022. Gold, already off to a strong start, could take that mantle in 2023.

Last year was a disappointment for those who expected gold to perform well amid an inflation spike. It rose only 0.4% to $1,814 an ounce, though it rallied more than 10% in the year’s final two months. But its performance was lackluster compared with the Energy Select Sector SPDR exchange-traded fund (ticker: XLE), which tracks oil stocks and was up 64% in 2022, and United States Oil (USO), which invests in oil futures and gained 29%. Worse still were gold-miner stocks—the VanEck Gold Miners ETF (GDX) was down 9%.

Inflation usually helps gold, but a strong U.S. dollar and rising interest rates can hurt it—both of which occurred last year. That’s because investors perceive gold as a currency substitute, particularly for the U.S. dollar. As interest rates in the U.S. rose, global investors turned to dollar-based Treasury bills and money-market funds, which, after years of yielding almost nothing, are now paying in excess of 4%. Gold always yields nothing.

In the face of rising interest rates, the dollar went up to 20-year highs, notes George Milling-Stanley, chief gold strategist at State Street Global Advisors, or SSGA, which manages the $57 billion SPDR Gold Shares (GLD), the largest bullion ETF.

Most analysts think rates are close to peaking at an expected 5%—they’re currently 4.25%—making the case stronger for gold. It’s now trading at $1,927, up 5.7% so far this year.

An SSGA outlook paper co-written by Milling-Stanley lays out three possible scenarios for gold, anticipating headwinds in the first half of 2023 as interest rates peak and tailwinds for the second half as rates stabilize or decline: If we enter a mild recession induced by higher borrowing costs, gold benefits slightly while stocks decline. If we enter a severe recession, gold does very well as rates fall and investors panic. If we have the proverbial soft landing, where the Fed succeeds in moderating inflation without causing a recession, it’s bad for gold.

The prospects for commodities such as oil as consumption declines may not be as good. “If we go into a serious recession, which is what the [International Monetary Fund] seems to be suggesting is likely for the world, not just the U.S., that will definitely hurt the whole commodity complex,” Milling-Stanley says.

Some experts think the attractiveness of gold versus commodities depends on the recession’s severity. “If you are expecting a really severe recession in the next year, you don’t want cyclically exposed commodities,” says Bob Minter, director of investment strategy at Abrdn, which manages the Abrdn Physical Gold Shares (SGOL) and Abrdn Bloomberg All Commodity Strategy K-1 Free (BCI) ETFs. “But if you’re expecting a mild recession, then who cares? [Commodity] supply constraints are going to trump whatever downturn we have.” Inventories of many commodities, including oil, remain low.

Neither Milling-Stanley nor Minter recommend gold-mining stocks, as they think many miners are poorly run. Yet manager Thomas Kertsos of the First Eagle Gold fund (SGGDX), which can buy stocks and physical bullion, sees the appeal of owning high-quality miners today. Over the past 20 years, his fund has had an average 21.3% gold bullion allocation, but Kertsos has only a 13.7% one currently because he’s finding better relative value in miners.

He owns only established miners with strong balance sheets. Wheaton Precious Metals (WPM), Newmont (NEM) and Barrick Gold (ABX) are top positions. “About half of gold-mining stocks, we will never invest in,” he says, because of poor management. But the best ones deliver returns typically two to three times that of gold bullion on the upside, which is where gold has been heading so far this year.”