Gold Plunges 8%, Wiping Out All Gains This Year; Why Are Safe-Haven Assets "Failing" Amid Middle East Conflict?

War and inflation should have been the most loyal allies of gold, but this time, gold completely disappointed investors.

On Monday, spot gold fell as much as 8% intraday, to $4,122.26 per ounce. New York gold declined 9.74% intraday, to $4,165 per ounce. Spot silver dropped nearly 8% intraday, currently at $62.49 per ounce. New York silver fell 10.0% intraday, to $62.64 per ounce. Spot platinum declined over 8%, to $1,773.47 per ounce. Spot palladium dropped nearly 5%, to $1,346 per ounce.

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

According to The Wall Street Journal, the fundamental reason for gold’s “failure” this time is that over the past year, gold has become a highly crowded trade. After the outbreak of the conflict, investors sold it off as the most obvious asset—whether to hedge risk or to pay down leveraged debt. While technical factors like the dollar’s appreciation and rising real interest rates offer some explanation, they are insufficient to justify such a magnitude of decline.

Deeper pressure comes from structural factors: the Middle East conflict has shaken the logic of continuous central bank gold purchases and may prompt physical gold holders in markets like India to liquidate. How long the crowded trade will continue to unwind remains uncertain.

The dollar and real interest rates are not the main causes

Several technical explanations circulate in the market, but according to The Wall Street Journal, these reasons are hard to justify.

The dollar factor is first considered.

After the conflict broke out, benefiting from the U.S. being a net oil exporter, the dollar appreciated sharply. Theoretically, this should suppress gold priced in dollars. However, gold priced in pounds, euros, and yen also declined by about 11%, 10%, and 11%, respectively, indicating that dollar appreciation is not the main cause. Last Thursday, the dollar weakened on the day, yet gold experienced its largest single-day drop since the conflict began, further disproving this explanation.

The explanation involving real interest rates is also limited. As market expectations shifted toward the Fed maintaining or even raising interest rates this year—marking a significant change from previous expectations of two to three rate cuts—10-year TIPS yields rose, somewhat reducing gold’s relative appeal.

However, over the past year, the traditional negative correlation between gold and TIPS yields has broken down, with both rising in tandem for a long period. According to The Wall Street Journal, in the past 15 trading days, only 11 days showed a reversal, and the explanatory power of real interest rates for gold’s decline remains limited.

The core reason: collective exit from crowded trades

The most compelling explanation for gold’s sharp decline, according to The Wall Street Journal, is that it is a heavily crowded trade that is rapidly unraveling. Just like the stock market performance during this conflict, assets that had risen the most tend to fall the deepest when investors retreat.

Over the past year, gold attracted a large influx of speculative capital. This trend is clearly visible in the holdings of major gold ETFs—specifically, the SPDR Gold Shares fund. Last fall, gold prices even began to move in tandem with popular stocks favored by retail investors, indicating a high level of speculative activity.

Some investors borrowed funds to increase their gold positions. When market risk appetite reversed, they were forced to liquidate gold holdings simultaneously to cover stock short positions, creating a cascade effect. While the leverage scale in the gold market is difficult to quantify precisely, the influx of speculative capital is undeniable. As this capital exits, downward pressure on gold is inevitable.

Central bank gold purchase logic shaken

In addition to the retreat of speculative funds, the Middle East conflict has directly impacted the most important structural buyers of gold—central banks.

Analysts believe that the strong rally in gold over the past few years was largely driven by central banks shifting their foreign exchange reserves from dollars to gold after Russian assets were frozen by the West. This trend attracted more funds to follow suit.

However, the Iran war has disrupted this logic. The core function of foreign exchange reserves is to ensure import payments during economic shocks.

The International Energy Agency (IEA) has characterized the oil supply disruptions caused by this war as the largest in history. For oil-importing countries, it is now time to draw on reserves for emergency needs rather than increase gold holdings. For oil-producing countries in the Persian Gulf, if the Strait of Hormuz is blocked and oil and gas exports are interrupted, these countries might shift from buyers to sellers of gold.

Physical demand is also under pressure. In India, residents traditionally store a large portion of their savings in gold. With soaring oil prices impacting the local economy, these physical holders may also choose to cash out.

Analysts believe these pressures are mostly temporary. Once the crowded trades are cleared, gold should theoretically return to fundamentals driven by inflation, interest rates, and geopolitical risks.

But the key question remains: how many buyers still need to exit? If central banks—these significant structural buyers—also start selling, gold could face a longer and more difficult adjustment before regaining its shine.