The price of gold is bouncing back after a brief bout of profit taking last week, and investors who are bullish on the yellow metal are wondering which stocks might be good picks to ride a possible surge to record highs.
Outlook
Gold trades for US$1,665 per ounce at the time of writing. The idea that gold might take a run at the 2011 high above US$1,900 by the end of 2020 would have been viewed as outrageous a year ago, but that is no longer the case. In fact, another 15% move to the upside from the current level is definitely possible in the current market conditions.
Why?
Central banks are slashing interest rates in a bid to help their economies weather the downturn caused by the spread of the coronavirus. The United States cut its target rate by 0.5%, and Canada just followed with its own cut of the same amount.
Falling interest rates are often supportive for gold demand, as they reduce the opportunity cost investors face when owning gold, which doesn’t provide any yield. Another safe-haven for cash is government debt, but bond yields are plunging or already in negative territory, making gold more attractive.
As governments look to shore up their own economies, there is a risk we could see a race to devalue currencies. In that scenario, investors who hold assets based in non-dollar currencies might boost their gold holdings to protect purchasing power. Gold trades in U.S. dollars.
Gold was already finding support before the coronavirus outbreak. The ongoing trade dispute between China and the United States had pushed demand higher. Geopolitical tensions between the United States and Iran also contributed to safe-haven demand. Those situations are no longer in the headlines, but they have not disappeared.
How high could gold go?
Talk of US$2,000 gold is now moving on toward potential targets of US$2,500 or higher. Whether or not the market will run that high is anyone’s guess.
For the moment, however, the trend appears to be to the upside. Conditions that are supportive of higher gold prices will likely remain in place over the medium term. In a panic situation, it wouldn’t be a surprise to see gold shoot through the US$2,000 barrier before the end of the year.
The initial coronavirus concerns rested primarily with how much the impact in China would be felt around the world. Now, large outbreaks in several other countries have compounded the potential risk to the global economy.
Consumers are not visiting shops, factories are closed, and the travel industry is taking a significant hit. The domino effect on businesses and services could start to result in job cuts and reduced investment by companies as they wait to see how the situation will ultimately unfold.
This paints a scary economic picture, and there is no guarantee things will unfold this way, but investors are hedging their bets.
Should you buy gold stocks?
Large producers such as Barrick Gold stand to benefit from a prolonged increase in the price of gold. The 40% dividend hike that occurred for 2020 suggest the board sees good times on the horizon. Barrick Gold is targeting average annual gold production of about five million ounces. This means every sustained US$300 increase in the price of gold adds US$1.5 billion in additional cash flow on an annualized basis.
The market might not fully appreciate the potential for Barrick Gold and its peers to become free cash flow machines in the next few years. As such, more upside could be on the way for these stocks, and investors might want to take a position while the share prices remain relatively cheap.
