Gold prices have recently surged to a new high, trading around $2,500 per troy ounce (€72 per gram), reflecting concerns about inflation and geopolitical risks. This rise, along with a bear steepening in eurozone yield curves, could spell trouble for the European economy, according to an ING think tank report on 27 August 2024. ING analysts suggest that this surge might serve as an early warning of potential future market instability. The increase in gold prices, typically seen as a hedge against inflation and geopolitical risk, contrasts sharply with the current risk-on sentiment in financial markets, raising questions about the sustainability of the present market environment.
Central bank gold reserves
The report also noted that some countries, including China and Russia, have been quietly increasing their gold reserves while reducing their dollar holdings. This shift, according to ING, reflects a strategic move to weaken the dollar’s dominance and could have significant long-term implications for the global financial system. ING pointed out that Russia notably liquidated much of its US treasury holdings before its invasion of Ukraine, underscoring a broader trend of diversifying away from dollar assets.
US treasury auction
On Tuesday, the US treasury’s 2-year note auction attracted strong interest, with nearly 70% of bids coming from indirect buyers, indicating substantial demand from central banks. The auction ended with a half-basis-point negative tail, and the yield was approximately 140 basis points below the effective US Federal funds rate. ING highlighted this strong demand as a sign of market confidence in the Federal Reserve’s expected rate cuts over the coming months, which are seen as necessary to prevent a significant rise in unemployment and broader economic stress.
Eurozone yield curves
In Europe, the rates market experienced a bear steepening, particularly in the German ‘Bund curve’, where 30-year Bund yields rose by 5 basis points. Additionally, the 10-year French OAT-German Bund spread widened by 2 basis points, while the Italian BTP spread increased by 4 basis points. ING attributed these movements largely to the heavy issuance of European government bonds, including corporate and sovereign, supranational and agency (SSA) bonds, rather than any shifts in market sentiment or economic data.
ECB rates
Despite the back-end steepening, the front end of the yield curve remained relatively stable. However, ING cautioned that the European Central Bank’s rate easing trajectory remains uncertain, with upcoming eurozone unemployment and inflation data likely to provide further direction. Core inflation is expected to decrease slightly from 2.9% to 2.8%, highlighting the slow progress in tackling inflationary pressures, particularly within the services sector. The short end of the German Bund curve has seen significant declines, influenced by similar movements in US treasuries, but ING advised caution against assuming that European markets will mirror every downturn in the US.
ING concluded that the incoming data in the next few weeks could serve as a reminder that the ECB may follow a slower path of easing compared to the US Federal Reserve, reflecting the ongoing uncertainty in the eurozone’s economic outlook. The rise in gold prices, against a backdrop of generally rising asset prices, could be a precursor to more challenging times ahead for financial markets, where asset prices might decline if central banks’ efforts fail to stabilise the economy.