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What Will Determine the Price of Gold in 2014?

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The latest recovery in the price of gold price is likely to benefit investors of gold ETFs such as SPDR Gold Trust (NYSEMKT: GLD  ) and iShares Comex Gold Trust  (NYSEMKT: IAU  ) . Leading gold ETFs have rallied in the past several weeks after they declined during most of 2013. Despite this recent rally, analysts remain skeptical about the potential recovery of the yellow metal in 2014. What are the main factors that could affect the direction of gold's price in 2014?

The weak gold market has been reflected in the decline in ETF prices: SPDR Gold lost 7% of its value during November-December; iShares Comex Gold Trust fell by 8.4%. Further, the demand for these ETFs also diminished as their gold holdings tumbled by 11.6% and 8%, respectively, in the fourth quarter of 2013. On a global scale, during the first three quarters of 2013, total ETF demand for gold fell by 696 tons. In comparison, in the similar time frame in 2012, ETF demand rose by 191 tons. Despite the recent recovery in the price of gold during January, the demand for these ETFs continued to diminish: iShares Comex Gold's holdings fell by 0.6% during the month; SPDR Gold's gold holdings decreased by 1%. Looking forward, the demand for gold as an investment could be determined by the following factors: 

  1. FOMC policy: The FOMC's decision to taper its asset-purchase program (also known as quantitative easing 3, or QE3) led to a sharp drop in the price of gold at the end of 2013. The market reaction back in December may have been too harsh considering that QE3 didn't pressure the price of gold during 2013. The FOMC decided to cut down QE3 again by another $10 billion in its first meeting of 2014. Since QE3 didn't pull up the price of gold, this could suggest that the Fed's decision to cut down on its asset-purchase program will have little adverse effect on gold in the long run. Therefore, even if the FOMC continues to cut down its asset-purchase program, this is likely to have little long-term effect on gold.

    Additionally, the recently appointed chairman of the Federal Reserve, Janet Yellen, is considered dovish, much like former FOMC chairman Ben Bernanke. Thus, Yellen might also decide to take additional expanding monetary steps to make sure the U.S economy continues to recover. If the FOMC comes up with new monetary measures such as pegging long-term interest rates or raising the inflation target, these measures could increase the demand for the yellow metal as a safe-haven investment.
  2. The progress of the U.S economy: If the U.S. economy continues to slowly recover, it could rally U.S. equities and thus steer away investors from safe-haven investments such as gold and silver.
  3. Market sentiment: Despite the good year equities had in 2013, they have started off 2014 on a negative note. Moreover, the FOMC's decision to continue tapering QE3 didn't stop U.S long-term Treasury yields from falling in recent weeks. The chart below shows the changes in 30-year Treasury yields and the price of gold.  

 Source: CME and U.S Department of Treasury 

This could suggest a shift in market sentiment toward risk aversion -- investors taking less risk and investing in assets such as U.S. long-term Treasuries and precious metals. If this sentiment continues, it could strengthen the price of gold. 

  1. The direction of the U.S. dollar: During 2013, the U.S. dollar slightly depreciated against the euro but sharply appreciated against the Aussie dollar and Japanese yen. The decisions of Bank of Japan and Reserve Bank of Australia to expand their monetary policies contributed to the weakening of their respective currencies. If the U.S. dollar continues to appreciate against leading currencies, this could result in a decline in the prices of commodities, including gold. 
  2. Demand for gold in China and India. These two countries lead the way in importing gold. In India, the government decided to raise import taxes on gold; this decision has curbed the demand for gold in India: During the third quarter, the country's demand for gold fell from 219 tons in 2012 to 148 tons in 2013. Conversely, China's demand for gold reached more than 220 tons in the third quarter of 2013, which is nearly 19% higher than last year. The increasing demand for the physical metal in China could play a secondary role in positively affecting the price of gold. 

Bottom line
The future progress of gold will rely on market sentiment, the U.S. economy's progress, the Fed's policy, and the demand for gold in Asia. These factors could play in favor of gold investors, especially if the demand for gold in China continues to rally, the U.S economic progress slows down, and market sentiment leans toward risk aversion.

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Lior Cohen

Lior has been a contributor for the Fool since 2012. His main interests are in commodities, and energy and materials companies.You can follow him on Twitter to stay up to date with his industry analysis. @tradingnrg

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