Geopolitical Risk and Gold

Geopolitics is the study of the influence of such factors as geography, economics, and demographics on policy, particularly on the foreign policy of a state. Geopolitical risk is commonly defined as the risk of one country’s policies or actions influencing or upsetting domestic political, social, or economic policy in another country or region, but its scope is much wider. Geopolitical concerns include military conflicts, civil wars, terrorist attacks, riots, trade barriers, sanctions, etc.

Some analysts also include epidemics and pandemics as geopolitical threats. It is also referred to as “political risk”, or even “jurisdictional risk” which is defined as risk involving policies or actions of a foreign state or actor. Recently, the spread of the coronavirus in 2020 and Russia’s invasion of Ukraine in 2022 have shown that investors should not neglect such risks.

Geopolitics and Gold

Generally, gold is considered a safe-haven asset against geopolitical tensions. Does that hold up to truth? In a sense, yes – gold prices are often positively correlated with rising tensions. The best example from the 21st century may be the 9/11 terrorist attacks. As the chart below shows, after that event, gold prices on the London market rose from $271.50 to $287 (or almost 6 percent) in one day. In times of high uncertainty, investors often flee to gold, as it does not entail counterparty risk and it is the ultimate means of payment on hand when all other means of payment fail.

However, gold does not always gain due to geopolitical crises. The best examples may be the terrorist attacks in Paris in November 2015 and in Brussels in March 2016. Their impact on gold prices was only temporary and quickly vanished. Actually, gold prices declined in both November 2015 and March 2016 when attacks in Paris and Brussels occurred, respectively.

There are three main reasons why geopolitical concerns do not affect gold as strongly as it is commonly perceived, and why the relationship between geopolitics and gold is not as simple as it seems to be. First, the yellow metal “smells war” – its price rises in anticipation of a conflict, but when rumors turn into action, the price of gold is often unaffected or even decreases, as this is when profit-taking begins. In other words, gold traders buy the rumor and sell the news.

Second, gold is mainly a bet against the U.S. economy. This is why terrorist attacks (or other geopolitical events) that occur overseas and not in America, often do not have any durable effects on the gold market, or even exert downward pressure on gold, as there is usually a flight to safety to U.S. Treasuries as the greenback appreciates.

Third, some military actions reduce risks rather than increase them. This was the case with Operation Desert Storm during the Gulf War in 1991 – the presence of the U.S. army in Kuwait meant a significant reduction in political risks in the Middle East. Therefore, after an initial spike, the gold price dropped as the campaign turned out to be successful.

Summing up, gold is considered to be positively correlated with geopolitical issues. Although gold serves as a safe haven, the importance of geopolitical concerns for the gold market is often overstated (thus, immediately buying gold because of the rise of geopolitical risk may not be wise). Gold does not necessarily gain during a crisis, because its behavior depends on the type of crisis occurring. In other words, investors should be aware that not all conflicts affect the price of gold, and even when they do, crises often do not escalate further, so investors risk purchasing gold at unfortunate times, after the momentum has passed. In many historical cases, after the initial spike, the price of gold quickly returned to the pre-crisis level. Therefore, long-term investors should not decide based only on geopolitical events (which often strengthen gold only in the short-term), but always look at the fundamentals.