Gold, TIPS, and Linkers
Trades in the Soda and Whisky Portfolios;
BOLD is not yet listed in London. I’ll update you when the date becomes known.
Since 2022, the price of gold has soared, and thankfully, we have held it. Prior to that, gold had sat comfortably in a regime whereby the price mirrored real interest rates. That is, gold would rise when rates fell below the expected future rate of inflation and fall when rates rose above inflation. The gold price moved inversely to real yields. I modelled this with a synthetic US Treasury Inflation Protected Security (TIPS).
Gold and the TIPS Model
Then, in 2022, the central banks accelerated their gold purchases, most likely due to the war in Ukraine and more importantly the confiscation of Russian reserves. The TIPS model never followed because real interest rates rose and then remained high, at least until recently. The model broke as gold faced a regime change.
In late 2022, I flirted with TIPS, and the UK equivalent index-linked gilts (linkers), but it was too early. Bond yields are finally starting to fall, while inflation remains sticky. As illustrated in the chart below, the 2-year (blue), 10-year (green), and 30-year (red) bond yields in the US have been following interest rates (black) lower. The dotted black line shows where interest rates are expected to be this time next year. Just 2.9%, when the old tried and tested Taylor Rule, an old-school guide for policymakers, would suggest rates should be 6%.
US Bond Yields and Interest Rate Expectations
To cut interest rates while inflation is 2.9%, and therefore still above the 2% target, suggests that the US Federal Reserve is prioritising cheap borrowing over controlling inflation. Say one thing, price stability, do another, cheap money please. This means we are undergoing a regime change from high rates and low inflation to low rates and sticky inflation. ByteTree’s Money Map therefore shifts from the right to the left. The price of gold has seen this coming.
The ByteTree Money Map
But gold has done so well, and at the very least, we must assume it won’t repeat the post-2022 performance, unless the financial system gets into real trouble. We aren’t there yet, and so it's time to consider TIPS again.
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