By Frank Vranken

After increasing 17% in the first three months of the year – the largest quarterly gain since 1986 – the price of gold has begun to settle. However, the underlying factors driving prices upward appear likely to remain supportive.

Two major variables are key for gold: real interest rates and the value of the US dollar. The former reflects the so-called “opportunity cost” of holding gold, since gold itself does not, of course, pay a coupon or dividend. As long as global interest rates remain very low, as they are today, the cost of holding the yellow metal will be negligible.

Janet Yellen, Chairwoman of the US Federal Reserve, continues to offer an upbeat view of the American economy, but has signaled a dovish stance regarding future rate increases. This suggests that the number of US hikes this year may be below previous expectations, while European interest rates remain in negative territory.

Globally low rates will therefore continue to prove positive for gold.

This brings us to the dollar, the world’s most important reserve currency and a direct competitor to gold. When the USD weakens, investors tend to flock to gold as a safe haven. Likewise, when the American economy exhibits inflationary trends – diminishing the spending power of the USD – investors are also more inclined to purchase gold.

Recently, the US has witnessed a return to such trends, with the measure for core inflation increasing to 2.3% in the 12 months through February 2016. The Federal Reserve’s own preferred benchmark – the core personal consumption expenditures index – was up 1.7% over the same period.

As just mentioned, the Fed looks to be in no hurry to unleash a set of rate hikes. That mismatch between rising inflation and stubbornly low interest rates  would consequently weaken the USD.

Meanwhile, European Central Bank President Mario Draghi recently suggested that Europe may be near the bottom on rates – causing the euro to post gains against all other currencies, including the USD.

Given that investors are today mostly USD overweight, the greenback can only strengthen further if it is supported by better news. So far, that hasn’t happened.

Fundamentals such as current accounts and budget deficits now favor Europe versus the US. The only way to balance that difference would be a steady flow of capital towards the United States. At a time when America’s trade deficit continues to widen – reaching $47.1 billion in February – capital is flowing in precisely the opposite direction.

The upshot is that the greenback may be in for further weakening, again proving positive for gold.

While investor appetite for gold may increase, demand for the physical metal remains somewhat sluggish, especially in Asia, where both private and state purchases have been limited. As the earlier drop in prices was not severe enough to reduce commercial production, global physical stocks won’t be depleted anytime soon.

Finally, and perhaps most importantly in the current context, we have to consider gold’s role as an insurance policy against market volatility.

Often described as the pessimist’s investment, gold provides comfort to those made nervous by the two recent major shocks to global equity markets. Given that the roller-coaster performance of equities is likely to be prolonged, we see one more reason to believe that there is significant scope for further appreciation in the price of gold.

Mr. Vranken serves as Brussels-based Chief Strategist at Puilaetco Dewaay Private Bankers, a member of KBL European Private Bankers, which operates in the UK under the name Brown Shipley. The statements and views expressed in this document are those of the author as of the date of this article and are subject to change. This article is also of a general nature and does not constitute legal, accounting, tax or investment advice.