Price of Gold in 2016: Will It Break Out or Melt Down?

Image source: Wikimedia Commons.

Gold suffered another bad year in 2015, falling another 12% to close the year at about $1,060 per ounce. That put the price of the yellow metal at its worst year-end level since 2008 and extended a three-year streak of falling prices for gold. Looking forward, investors want to know if tough times will continue for gold or whether it will finally post a substantial rebound. Let's look at some of the things the gold market has gone through lately and what impact it will have on prices in 2016 and beyond.

Where will the price of gold go in 2016?
There's a lot of pessimism about the likely direction of gold prices in 2016. Last year, gold failed to respond in a number of situations that typically produced price rises in the past, including numerous adverse geopolitical events and substantial financial uncertainty in many global financial markets. Rather than playing its traditional role as a safe haven, gold suffered the same fate as most other commodities, and that's what led to its poor performance in 2015.

Going forward, many gold-market analysts see the same conditions holding the yellow metal's price down. Indeed, the lack of a big jump in gold prices as the stock market has plunged to open 2016 is itself another negative sign for the metal's outlook.

2016 price projections on gold (per ounce)

Data source: Analyst projections via Kitco.

A couple of major concerns have hit the gold market over the past couple of years and will continue to play a role in 2016. First, the strong U.S. dollar has put pressure on gold prices. A lot of demand for gold comes from foreign markets, and as many of their currencies have weakened, the price of gold in their local-currency terms hasn't fallen nearly as much as it has in dollar terms. Indeed, in some countries where the dollar has been particularly strong, gold prices actually rose in local-currency terms in 2015. Those countries include Canada and Australia, whose currencies trade closely with the direction of major commodity prices like gold and oil.

Second, the threat of tighter monetary policy from the Federal Reserve finally translated into action in 2015 after the first increase in the Fed Funds rate in more than a decade occurred in December. Given the economic difficulties the rest of the world has faced recently, some are hopeful that the Fed will be slow in boosting interest rates. Yet even small increases can have dramatic impacts on the gold market because of the leverage that many market participants use and the higher financing costs that accompany rising interest rates.

Streaming and the mining industry
Low gold prices have put many gold mining companies in financial peril. One major question the market faces is whether gold-streaming deals can provide miners with the financing they need to endure tough times and keep producing. 2015 saw a substantial increase in streaming transactions, and streaming specialist Royal Gold (RGLD 2.48%) scored three major deals during the summer, including a $610 million transaction with mining giant Barrick Gold (B 1.50%). Under the deal, Royal Gold will pay Barrick 30% of prevailing market price for a fixed amount of gold and silver production from Barrick's Pueblo Viejo mine, with additional production getting 60% of market prices.

Stream-based financing could have mixed results. On one hand, they keep mining companies afloat, preventing mine closures and allowing supply to come onto the market that pushes prices downward. However, the upside that miners are building into streaming deals gives them an economic incentive to consider the long-term impact of their production decisions. Some miners will likely restrict their output in order to help the market recover, hoping to get higher prices in the future.

All that glitters is not gold
Since its highs early in the decade, gold has lost more than 40% of its value, and that has some bargain-hunters hoping to pick the bottom in the market. What investors need to remember is that gold prices soared for 12 years before reversing course, and so expecting a quick turnaround could be overly optimistic. The plunge in oil prices serves as a reminder that gold could fall far lower than anyone expects if fundamental factors go against the gold market in 2016.