Author: TechFlow

The market currently has no consensus on how much longer the process of unwinding crowded trades will take.

War and inflation should be gold's most loyal allies, but this time, gold has thoroughly disappointed investors.

This Monday, spot gold fell by up to 8% intraday, trading at $4,122.26 per ounce, while New York gold futures dropped by up to 9.74%, trading at $4,165 per ounce. Spot silver fell nearly 8% intraday, currently trading at $62.49 per ounce. New York silver futures fell by up to 10.0%, trading at $62.64 per ounce. Spot platinum fell over 8%, trading at $1,773.47 per ounce. Spot palladium fell nearly 5%, trading at $1,346 per ounce.

Since the Israel-U.S. war with Iran began, gold has fallen approximately 24% from its pre-war highs. Investors holding gold during this period have seen returns even worse than those from the smallest micro-cap stocks.

According to analysis by The Wall Street Journal, the fundamental reason for gold's recent "failure" is that over the past year, gold has evolved into a highly crowded trade. After the outbreak of war, investors viewed it as the most conspicuous asset to sell first—whether to avoid risk or to repay leveraged debt. While technical factors such as a stronger U.S. dollar and higher real interest rates provide partial explanations, they are insufficient to justify a decline of this magnitude.

Deeper pressure stems from structural factors: the Middle East conflict has shaken the logic behind central banks' continued gold purchases and may prompt physical gold holders in markets like India to cash out. The market currently has no consensus on how much longer the process of unwinding crowded trades will take.

Neither the Dollar Nor Real Interest Rates Are the Main Cause

Several technical explanations are circulating in the market, but according to The Wall Street Journal's analysis, these reasons are difficult to justify.

The dollar factor was the first to be raised.

After the war broke out, the U.S. dollar appreciated significantly due to America's status as a net oil exporter, which theoretically should suppress dollar-denominated gold. However, gold also fell approximately 11% when priced in British pounds, about 10% in euros, and about 11% in Japanese yen, indicating that dollar appreciation is not the primary cause. Last Thursday, when the dollar weakened, gold recorded its largest single-day decline since the conflict began, further debunking this explanation.

The explanation based on real interest rates is also limited. As the market expects the Federal Reserve to keep interest rates unchanged or even raise them this year—a significant shift from previous expectations of two to three rate cuts—the yield on 10-year Treasury Inflation-Protected Securities (TIPS) has risen, somewhat reducing gold's relative appeal.

But over the past year, the traditional negative correlation between gold and TIPS yields has broken down, with both rising simultaneously for an extended period. According to The Wall Street Journal, only 11 out of the last 15 trading days have shown an inverse relationship, meaning real interest rates still offer limited explanatory power for gold's decline.

Core Reason: A Collective Flight from a Crowded Trade

According to The Wall Street Journal, there is only one compelling explanation for gold's sharp decline: it is the accelerated unwinding of a severely crowded trade. Just as seen in the stock market during this conflict, assets that had risen the most previously often fall the hardest when investors retreat.

Over the past year, gold attracted a massive influx of speculative capital. This trend is clearly visible in the holdings changes of the major gold ETF—the SPDR Gold Shares fund. Last fall, gold prices even began moving in sync with popular stocks favored by retail investors, indicating a strong speculative element.

Some investors borrowed money to increase their gold positions. When market risk appetite reversed, they were forced to sell gold and cover short stock positions simultaneously, creating a stampede effect. While the exact scale of leverage in the gold market is difficult to quantify, the substantial influx of speculative capital is an undeniable fact. As this capital gradually exits, downward pressure on gold is inevitable.

Central Bank Gold-Buying Logic Shaken

Beyond the flight of speculative capital, the Middle East conflict has directly impacted gold's most important structural buyers—central banks.

Analysis suggests that gold's strong rally over the past few years was largely driven by central banks shifting foreign exchange reserves from dollars to gold after Russian assets were frozen by the West, a trend that then attracted more capital to follow suit.

However, the war with Iran has disrupted this logic. The core function of foreign exchange reserves is to ensure import payment capacity when an economy faces shocks.

The International Energy Agency (IEA) has characterized the oil supply disruption caused by this war as the largest supply shock in the history of the global oil market. For oil-importing countries, now is the time to use reserves for emergencies, not to increase gold holdings. For oil-producing countries in the Persian Gulf region, if the Strait of Hormuz is blocked, halting oil and gas exports, these nations might even transition from gold buyers to sellers.

Physical demand is also under pressure. In India, households have traditionally stored significant savings in gold. As soaring oil prices impact the local economy, these physical holders may also choose to cash out.

Analysis suggests that many of these pressure factors are temporary. Once the crowded trade is fully unwound, gold should theoretically return to being driven by fundamentals such as inflation, interest rates, and geopolitics.

But the core question remains: how many more buyers need to exit is still unknown. If structural buyers of central bank scale also join the selling, gold may face a longer adjustment period before regaining its luster.