War - trigger of gold boom Review by Caliber.Az

The unprecedented attack on Israeli territory by militants of the Palestinian group Hamas that began on October 7, according to analysts, has significantly increased geopolitical risks in the vast region of the Middle East. The threat of expanding war is driving the purchase of gold, a traditional safe-haven asset, as well as dollars and US Treasuries.

At the same time, the demand for gold in order to hedge risks is supported by pressure on world reserve currencies due to inflation and recession in the EU and US economies, crisis processes in the banking sector and “bubbles” in the stock markets of a number of Asian countries. It is possible that global demand for precious metals will remain for a relatively long time: this promises stable income growth for producers of precious metals, including Azerbaijan.

Monitoring the situation on the precious metals market in recent years, it should be noted that in the post-pandemic period - in 2021, gold did not significantly increase in value, since against the backdrop of economic recovery, investors found more profitable instruments as protection against rising prices - investments in real estate, shares, raw materials, cryptocurrency.

However, due to the military conflict between Russia and Ukraine, already in the first third of 2022, a series of crises began - energy, raw materials, food, which turned into high inflation, and the types of assets listed above stopped growing, so the interests of investors again shifted to the “eternal” metal.

Gold has historically performed well in hyperinflationary environments. Moreover, even during periods when inflation was little more than 3 per cent, the price of gold increased by an average of 14 per cent. Well, last year the consequences of the imbalance of traditional monetary mechanisms began to be felt more strongly, and this resulted in an unprecedented increase in prices in the US, EU, and other developed countries of the world, reaching double-digit figures in some cases.

The trend of rising prices in the leading economies of the world through the mechanisms of imported inflation affected the entire world periphery, however, tough monetary countermeasures of the leading Central Banks of the world made it possible to avoid a catastrophe on the scale of 1973, when the Bretton Woods system with its fixed peg of the dollar to gold collapsed during the global energy crisis which led to a multiple increase in prices for the yellow metal.

The price of gold and other precious metals grew both in 2022 and in the first third of this year: the historical maximum was recorded in May 2023 at $2,073 per troy ounce. However, from June to early October of this year, there was a decline in gold prices due to the expectation of further increases in interest rates by the world's leading central banks, as well as a slowdown in inflation and a strengthening of the dollar exchange rate and the yield on US government debt, etc. Thus, by October 6 prices dropped to $1,810.5 per troy ounce.

However, an attack by Hamas militants on Israel could act as a trigger, increasing demand for defensive assets such as gold. In particular, according to Reuters experts, geopolitical risks that have increased against the backdrop of the war in the Middle East may increase the purchase of assets such as gold and the dollar, as well as provide demand for US Treasury bonds, which have been actively sold off recently.

“Gold is an ideal hedge against international instability, while the dollar will also benefit. US stock futures fell while crude oil, gold and Treasuries rose: This example shows why holding gold in investment portfolios is an ideal hedge against international turmoil,” said Peter Cardillo, chief market economist at Spartan Capital Securities.

By October 9, gold prices had rebounded from a seven-month low, and although an increase of only one per cent was recorded to $1,850 per troy ounce, the main thing was to reverse the downward pressure on the yellow metal exerted in the last period by the Fed’s efforts to strengthen the monetary policy.

Some experts believe that investors will not invest heavily in gold when US Treasury yields are rising. Gold is optimal as reserves for Central Banks and other government funds, but is a low-yielding asset, but investor demand for the precious metal increases sharply in times of uncertainty.

“The key question is how long these capital inflows into the defensive asset last, which depends on whether the violence in the Middle East represents a tectonic shift in geopolitics or not. Oil rose as the conflict threatened to increase tensions in the region where nearly a third of the world's supply originates. The yen and dollar, both safe-haven currencies, also strengthened,” said expert Norbert Rucker from Julius Baer.

For his part, David Lennox, an analyst at research firm Fat Prophets, believes that the military conflict in Israel has only added a small premium to gold, with larger gains only occurring in the event of a much more significant escalation across the region.

Such a confluence of circumstances is quite possible, given the severity of the current Arab-Israeli war, and the threat of expansion of this conflict to involve other regional players. The Russian-Ukrainian conflict, which is growing with renewed vigour, is creating no less tension. In turn, the ongoing recession and economic slowdown in the leading countries of the world will eventually force Central Banks to lower interest rates, which will again spin the inflation flywheel, expanding the area of financial risks, pushing investors, individuals and Central Banks to increase the share of gold in their reserves.

Therefore, today a considerable part of analysts are predicting an increase in gold prices: the precious metal is expected to update its historical maximum - at the beginning of 2024 the rate may exceed $2,300. In 2025 - 2030, the price of the precious metal will continue to rise; according to optimistic forecasts, the rate will exceed $3,000.

These circumstances also force our country to diversify its gold and foreign exchange reserves. In particular, taking into account the high risks for the investment portfolio due to negative processes in the global economy and financial markets, the State Oil Fund (SOFAZ) increased the share of gold from last year’s 13.1 per cent to 13.9 per cent of total assets. As a result, by the beginning of this year, about 101.8 tons of gold were reserved in SOFAZ.

On the other hand, in the domestic market of Azerbaijan, income from the sale of gold and silver (mainly provided by CJSC through AzerGold) in January-September of this year amounted to 15.825 million manats ($9.3 million), which is 88 per cent more compared to the same period last year.

At the same time, the prospects for further growth in prices for precious metals promise a steady increase in export revenues for Azerbaijan, which is expanding the exploration and development of new deposits. Companies operating in the mining segment of the Azerbaijani economy - Anglo Asian Mining (AAM) and the state-owned AzerGold CJSC - intend to adapt to the upward market trend, planning to expand exploration, increase the production of gold ore in new deposits and its processing using modern technologies.

According to forecasts for 2023, the state company AzerGold planned to ensure the production of the “yellow” metal within 62,500 ounces of gold. Despite the fact that lower-grade ore is currently being mined at the Chovdar deposit developed by the state company, it is planned to meet the established annual production and export targets by the end of the year.

In turn, the British gold mining company AAM plans to begin production at the large Gilar gold and copper deposit in western Azerbaijan in the first quarter of 2024.

Accelerating and deepening work at the deposits is an extremely important point, since over the seven months of this year, exports of Azerbaijani gold to world markets decreased by 27 per cent, amounting to just over 1,550 tonnes. Thus, taking into account forecasts of rising gold prices in the future and subsequent years, domestic gold mining companies will be able to catch up with production by the time of peak prices for precious metals.