Will Gold Rise As The Fed Expands QE3?

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Since the launch of QE3 by the FOMC back in September, the price of gold declined. Many had expected this program, much like previous programs, will increase prices of precious metals, because it may weaken the US dollar, and raise the inflationary pressures. Will the recent decision of the FOMC to expand QE3 pull up the prices of precious metals in the months to follow? Let’s examine this issue.

Since September 14, when the FOMC decided to launch QE3, the price of gold has declined by 3.63%; SPDR Gold Shares (NYSEMKT: GLD) also has decreased by 3.6%. Moreover, shares of major gold companies haven’t perform well during these months: shares Barrick Gold (NYSE: ABX) have declined by 19.3%; shares of Royal Gold (NASDAQ: RGLD) have decreased by 15.7%. The stock of Goldcorp (NYSE: GG) has also declined by nearly 19.8%.

At least, holders of gold stocks, as opposed to just holders of gold, received dividends during the year: as of the recent quarter, Barrick paid a quarterly dividend of $0.2 which is nearly 2.27% annual yield; Royal Gold offered a quarterly dividend of $0.2 which is nearly 0.95% annual yield; Goldcorp paid a quarterly dividend of $0.05 which is a 1.41% annual yield.

Will the recent decision of the FOMC to expand QE3 help pull up gold price and shares of major gold related companies?  

The Fed Decided to Expand QE3

In the last FOMC meeting of 2012 the FOMC decided to expand its stimulus, which was consisted of purchasing mortgage-backed securities at a pace of $40 billion per month; the new program will include acquiring long term treasuries securities at a pace of $45 billion per month. This program will substitute the Fed’s operation twist which will conclude by the end of year. The FOMC made this decision in order to help jump-start the U.S economy. Further, the Fed also linked its current low cash rate with the unemployment rate so that the cash rate will remain low until the unemployment rate will fall below the 6.5% mark. I’m skeptic about the effect of this extended QE3 on the U.S economy. It seems that QE2 had a weaker effect than QE1 had on the U.S economy (GDP, employment etc.); this could imply QE3, even though is bigger (in terms of USD) and without a time limit, might have an even weaker effect on the U.S economy; in any case without a fiscal policy to accompany this stimulus package, QE3 might not strengthen the US economy.

The recent expansion of the stimulus package is also an attempt to counter the potential adverse ramifications of the so called “fiscal cliff” that include tax hikes and spending cuts; these austerity measures will come into play at the beginning of the year, unless Congress will be able to reach an agreement with President Obama on a different plan to cut the national deficit.

Let’s move to the potential effect of QE3 on the price of gold.

In the past it appears QE1 and QE2 had positively affected the U.S money base and consequently raised the concerns of many investors from a devaluation of the US dollar, which, in turn, pressured up the price of gold.  The chart below presents the developments of the U.S money base and gold price (average monthly price) between the years 2007 and 2012. As seen, soon after the launch of QE1 and QE2 both the U.S money base and gold price hiked. Alas, following the launch of QE3, back in September, the average monthly price of gold didn’t increase much and the U.S money base remained flat.

<img src="/media/images/user_12845/gold-and-money-base-dec-2012_large.jpg" />

The extended QE3 might have a stronger effect on the U.S money base than the initial QE3 had, because the extended QE3 program will include treasuries securities and not just mortgage-backed securities. Furthermore, the price of gold might start to pick up in the near future. But as long as the U.S inflation remains stable around 2% and the U.S dollar doesn’t substantially depreciates against major currencies, the price of gold isn’t likely to move much higher than its current price range.   

For further reading:

How Will the Fiscal Cliff Affect Gold and Silver?

Gold and Silver Outlook for December


Disclaimer: The author holds no positions in stocks mentioned and does not plan to initiate positions within 120 hours of the posting of this article. This article is to be used for educational, research and informational purposes only and does not constitute investment advice. There are no guarantees, expressed or implied, of future positive returns in regards to the subject matter contained herein. Understand the risks inherent in investing before making the decision to invest or consult an investment professional for more information. Reasonable due diligence has been performed in regards to the information in this article. However, the author expressly disclaims any liability for accidental omissions of information or errors in fact.

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