Forex Traders writes: At some point in every tutorial on investing, the relationship between Gold and the U.S. Dollar is referred to as an inverse correlation, meaning that as the value of the Dollar goes down, then an investor would expect the value of Gold to go in the opposite direction. As with any “rule”, there are always exceptions, but if the Fed expands the money supply, it is a safe bet that Gold might appreciate, since it is priced in Dollars on the global market. If you dilute the Dollar’s value, Gold must go up to compensate.
What about Gold’s relationships with other currencies? Currencies come in pairs. If the Euro, for example, strengthens versus the greenback, then you could expect that Gold would be a willing “dance partner” and follow the Euro around the dance floor, so to speak. Uncertainty, however, can spoil this “tango”, and when it is running high in the minds of investors, Gold tends to reach for higher territory, as everyone runs for the hills. When crises hit, capital rushes to safe havens, typically precious metals and treasuries.
How have these “rules” played out over the past year? Investors are always on the lookout for meaningful correlations that repeat over time. Gold investors have learned to follow closely the ratio between Gold and Silver prices for insights about what the future might bring. Over the past year, however, currencies have been a good “bellwether”, especially the Euro, which has been on a rollercoaster ride for the previous twelve months. Let’s take a look at a chart of comparative returns:
Various market return correlations are presented for Gold, Silver, currencies and stocks for the past year. Here are a few comments on the above diagram:
- Gold prices correlated very tightly with currencies during the year until the latter few months;
- Silver prices followed suit, but they tended to be much more volatile than Gold prices. Silver has a “dual personality”, both as a storehouse for value and as a commodity in high demand for several industrial processes. You might say that Silver has a higher “beta”, or risk profile, than Gold;
- The Euro did produce a rocky ride for the most part. Greece was a problem early in the year, requiring a bailout to operate. After success on this front, Spain and Italy caused major concerns, the reason for the midyear dip, but European officials arranged more access to liquidity for both markets to reverse the fall once again. Gold went along for the ride until October;
- The Aussie Dollar, a commodity currency that correlates well with Gold and the global economy, behaved in a similar fashion;
- Stocks appreciated from June and reflected a gradual improvement in global economic data and a general sense that better days were ahead;
- As the year closed, the uncertainty of U.S. presidential elections and fiscal cliff negotiations subsided. With less uncertainty, Gold prices declined, as well, ending the year will returns similar to those for both currencies depicted.
The Euro currently sits at $1.306. Since August, it has been testing resistance levels just above this figure to no avail. The market is demanding that real GDP growth in the region must materialize before more appreciation can transpire. The central bank in Europe may help matters along, but the uncertainty of continuing budget battles in Congress will more than likely provide a bigger boost. Gold will most likely spike upward, much as it did in October, and then recede after a deal is consummated.
Expect another rollercoaster ride in 2013. Let caution be your guide.
The article is written by the team at forextraders.com. Forex Traders has been an active online foreign exchange market resource since 2002 and has recently expanded to include binary options trading for traders.