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Commodities Overview: Gold and Oil

06/25/2020 | 11:38am

Let's have a look at OPEC+, along with gold and its harmonious relationship with the real interest rates on US Treasury bills.

The EIA focuses in one of its monthly notes on the resistance of OPEC+ member countries to the decline in oil prices. The aim of the study, based on IMF data, is to highlight the disparities in terms of the equilibrium price satisfactory to each member, which must nevertheless agree to balance the market (or at least limit the imbalances).

While equilibrium prices for an oil company generally refer to the minimum price of oil required for a well to be profitable, they are calculated in a very different way at the country level. Two measures can be used: fiscal breakeven and external breakeven, which are the minimum oil price for a government (in the case of fiscal breakeven) or a saving (in the case of external breakeven) to cover its expenses.

Taking these two measures into account, Saudi Arabia needs a barrel of crude oil at USD 63 to meet its immediate needs and balance its budget, compared to USD 42 for Russia, which tends to lower its break-even point year after year. This provides a better understanding of the balance of power within the broader cartel and the motivations for continuing to restrict supply.

Note the chaotic development of Iran's "breakeven", which is mechanically increasing due to the fall in national exports.

A textbook case of a negative correlation. The gold price is still on a strong upward trend, despite investors' appetite for risky assets. While this performance of gold may seem paradoxical at first glance, it shines when returns on risk-free assets decline. This is precisely the case for government bonds, which for the most part deliver negative real returns (this is now the case for the 10-year US, see chart below).

In other words, the worse the real yields are, the more attractive gold is. For the same degree of liquidity, the gold metal does not deliver any yield, in addition to not being backed by any government debt. What could be better?

Trends in the gold price (left) and the real 10-year US interest rate (right) - source: US Treasury, World Gold Council
Jordan Dufee
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