Does Gold Go Up When Interest Rates Rise?
Gold is always seen as a perfect hedge against rising interest rates. Why is that? It is because gold investments help investors balance their investment portfolios in rough times. When other asset classes like cryptocurrencies and stocks come crashing down in the presence of rising interests, gold performs very well. Many people argue that gold prices go up in the case of rising interest rates as suggested by some previous records. But is it true? Does gold really go up when interest rates rise? Let’s first understand what is meant by interest rates, why do they change and how do they affect the prices of gold.
What are Interest Rates?
Interest rates are basically security money that money borrowers pay to the lender for holding the risks of lending money and providing services to the borrower. These rates are responsible for keeping the economy moving by letting people borrow the money, lend it, and keep the flow of cash going in the market.
However, the interest rates never remain the same, causing varying degrees of effects on different asset classes like precious metals. In addition to this, interest rates are different for each type of loan and it depends upon the amount of risk, the time of repayments, taxes, and convertibility of the loans. Now let’s see why these interest rates change.
When Do Interest Rates Rise?
There are three main factors that affect the interest rates and cause them to rise or fall.
Demand and Supply
Interest rates are factors of the demand and supply with respect to credits. If the demand for credit is high, the interest rates will be high and vice versa. On the other hand, if the supply of credit is more, the interest rates will be low. This is how the demand and supply of credit affect the interest rates.
Inflation means a reduction in the purchasing power of the money which leads to higher prices of public commodities. This further affects the interest rates. When the inflation rates are high, people need more money to satisfy their daily needs. This pushes them towards borrowing money. On the other hand, the lenders need higher security, that is higher interests as compensation for the reduction in the purchasing power of the money which will be repaid to them in the future.
The governments of each country have a say in determining the way interest rates will be affected. For example, the Federal Reserve of the United States is often a deciding factor for how the interest rates in the country will be affected by the changing monetary policies. In addition to this, when the government is selling more security assets, the banks have less money than they can lend. This leads to a rise in the interest rates and vice versa.
What Happens to the Gold Prices when Interest Rates Rise?
Technically, the gold prices decrease in situations of rising interest rates. This happens because the demand for gold falls when there is an increase in the interest rates. Since people earn more interest on the money they have deposited in their account, they prefer keeping their money as cash rather than investing it in gold. It is because gold doesn’t yield any such profits except an increase in its value and that too happens over time.
On the other hand, when the interest rates accumulating over their fiat money are low, they tend to invest the money in precious metals like gold. As more investors are drawn towards buying gold, the demand for gold increases against a limited supply. This leads to an increase in gold prices in the case of falling interest rates.
However, smart investors may not fully give in to this opinion because they know that higher interest rates mean a higher risk profile. Also, there is no certainty that the rates will remain high forever. Therefore, many investors like to keep a balanced portfolio of their investments by keeping small amounts of their money in many different types of assets like gold, so that they can always earn no matter if the economy is running smooth or crashing down.
How Should You Prepare for Rising Interest Rates?
While rising interest rates may be indicative of an improving economy, investors may find it hard to manage the rising interest rates. So, here are five ways to prepare your portfolio against rising interest rates.
- Choose short-term fixed-income assets over long-term bonds till the interest rates rise. It is because short-term bonds offer stability to your portfolio when other asset classes may be shaky.
- Invest your money in digital gold. Even though the prices of gold are likely to decrease during high-interest periods, they will never remain low. Following the high-interest rate cycle, gold prices are bound to increase. In addition, doing so will balance your investment portfolio.
- Choose stocks that have shown constant dividend outputs, even in times of high-interest rates.
- Invest in the financial sectors, that is, the investment options offered by banks. You can invest in recurring deposits, mutual funds, fixed deposits, and so on.
- Bond ladders are another way of preparing for rising interest rates, which is suggested by many financial planners and investors. In the bond ladder, there are a series of funds that mature at different intervals, likely quarterly, half-yearly, and so on. So as the interest rates increase, these bonds are invested again at the new interest rate which is higher than the previous one.
It is highly unpredictable to see when the interest rates will rise and when they will fall. It is because the factors governing the interest rates are not in the control of investors. But there are some things (mentioned above) that investors can do to curb their losses that may happen during high or low-interest rates. Therefore, investors are always advised to track the interest rates closely and make decisions accordingly. If you are looking for a safe investment that is sure to generate profits, gold is the perfect option for you.