Best of the Week
Most Popular
1. Investing in a Bubble Mania Stock Market Trending Towards Financial Crisis 2.0 CRASH! - 9th Sep 21
2.Tech Stocks Bubble Valuations 2000 vs 2021 - 25th Sep 21
3.Stock Market FOMO Going into Crash Season - 8th Oct 21
4.Stock Market FOMO Hits September Brick Wall - Evergrande China's Lehman's Moment - 22nd Sep 21
5.Crypto Bubble BURSTS! BTC, ETH, XRP CRASH! NiceHash Seizes Funds on Account Halting ALL Withdrawals! - 19th May 21
6.How to Protect Your Self From a Stock Market CRASH / Bear Market? - 14th Oct 21
7.AI Stocks Portfolio Buying and Selling Levels Going Into Market Correction - 11th Oct 21
8.Why Silver Price Could Crash by 20%! - 5th Oct 21
9.Powell: Inflation Might Not Be Transitory, After All - 3rd Oct 21
10.Global Stock Markets Topped 60 Days Before the US Stocks Peaked - 23rd Sep 21
Last 7 days
CATHY WOOD ARK GARBAGE ARK Funds Heading for 90% STOCK CRASH! - 22nd Jan 22
Gold Is the Belle of the Ball. Will Its Dance Turn Bearish? - 22nd Jan 22
Best Neighborhoods to Buy Real Estate in San Diego - 22nd Jan 22
Stock Market January PANIC AI Tech Stocks Buying Opp - Trend Forecast 2022 - 21st Jan 21
How to Get Rich in the MetaVerse - 20th Jan 21
Should you Buy Payment Disruptor Stocks in 2022? - 20th Jan 21
2022 the Year of Smart devices, Electric Vehicles, and AI Startups - 20th Jan 21
Oil Markets More Animated by Geopolitics, Supply, and Demand - 20th Jan 21
WARNING - AI STOCK MARKET CRASH / BEAR SWITCH TRIGGERED! - 19th Jan 22
Fake It Till You Make It: Will Silver’s Motto Work on Gold? - 19th Jan 22
Crude Oil Smashing Stocks - 19th Jan 22
US Stagflation: The Global Risk of 2022 - 19th Jan 22
Stock Market Trend Forecast Early 2022 - Tech Growth Value Stocks Rotation - 18th Jan 22
Stock Market Sentiment Speaks: Are We Setting Up For A 'Mini-Crash'? - 18th Jan 22
Mobile Sports Betting is on a rise: Here’s why - 18th Jan 22
Exponential AI Stocks Mega-trend - 17th Jan 22
THE NEXT BITCOIN - 17th Jan 22
Gold Price Predictions for 2022 - 17th Jan 22
How Do Debt Relief Services Work To Reduce The Amount You Owe? - 17th Jan 22
RIVIAN IPO Illustrates We are in the Mother of all Stock Market Bubbles - 16th Jan 22
All Market Eyes on Copper - 16th Jan 22
The US Dollar Had a Slip-Up, but Gold Turned a Blind Eye to It - 16th Jan 22
A Stock Market Top for the Ages - 16th Jan 22
FREETRADE - Stock Investing Platform, the Good, Bad and Ugly Review, Free Shares, Cancelled Orders - 15th Jan 22
WD 14tb My Book External Drive Unboxing, Testing and Benchmark Performance Amazon Buy Review - 15th Jan 22
Toyland Ferris Wheel Birthday Fun at Gulliver's Rother Valley UK Theme Park 2022 - 15th Jan 22
What You Should Know About a TailoredPay High Risk Merchant Account - 15th Jan 22
Best Metaverse Tech Stocks Investing for 2022 and Beyond - 14th Jan 22
Gold Price Lagging Inflation - 14th Jan 22
Get Your Startup Idea Up And Running With These 7 Tips - 14th Jan 22
What Happens When Your Flight Gets Cancelled in the UK? - 14th Jan 22
How to Profit from 2022’s Biggest Trend Reversal - 11th Jan 22
Stock Market Sentiment Speaks: Are We Ready To Drop To 4400SPX? - 11th Jan 22
What's the Role of an Affiliate Marketer? - 11th Jan 22
Essential Things To Know Before You Set Up A Limited Liability Company - 11th Jan 22
NVIDIA THE KING OF THE METAVERSE! - 10th Jan 22
Fiscal and Monetary Cliffs Have Arrived - 10th Jan 22
The Meteoric Rise of Investing in Trading Cards - 10th Jan 22
IBM The REAL Quantum Metaverse STOCK! - 9th Jan 22
WARNING Failing NVME2 M2 SSD Drives Can Prevent Systems From Booting - Corsair MP600 - 9th Jan 22
The Fed’s inflated cake and a ‘quant’ of history - 9th Jan 22
NVME M2 SSD FAILURE WARNING Signs - Corsair MP600 1tb Drive - 9th Jan 22
Meadowhall Sheffield Christmas Lights 2021 Shopping - Before the Switch on - 9th Jan 22
How Does Insurance Work In Europe? Find Out Here - 9th Jan 22
MATTERPORT (MTTR) - DIGITIZING THE REAL WORLD - METAVERSE INVESTING 2022 - 7th Jan 22
Effect of Deflation On The Gold Price - 7th Jan 22
Stock Market 2022 Requires Different Strategies For Traders/Investors - 7th Jan 22
Old Man Winter Will Stimulate Natural Gas and Heating Oil Demand - 7th Jan 22
Is The Lazy Stock Market Bull Strategy Worth Considering? - 7th Jan 22
METAVERSE - NEW LIFE FOR SONY AGEING GAMING GIANT? - 6th Jan 2022
What Elliott Waves Show for Asia Pacific Stock and Financial Markets 2022 - 6th Jan 2022
Why You Should Register Your Company - 6th Jan 2022
4 Ways to Invest in Silver for 2022 - 6th Jan 2022
UNITY (U) - Metaverse Stock Analysis Investing for 2022 and Beyond - 5th Jan 2022
Stock Market Staving Off Risk-Off - 5th Jan 2022
Gold and Silver Still Hungover After New Year’s Eve - 5th Jan 2022
S&P 500 In an Uncharted Territory, But Is Sky the Limit? - 5th Jan 2022

Market Oracle FREE Newsletter

How to Protect your Wealth by Investing in AI Tech Stocks

Does the Financial Sector's Strength Drive the Gold Price?

Commodities / Gold and Silver 2015 Dec 02, 2015 - 02:36 PM GMT

By: Arkadiusz_Sieron

Commodities

The price of gold is determined mainly through changes in the general level of confidence in the Fed and the U.S. economy. This is why the U.S. dollar exchange rate (and the Forex market in general) has such strong influence on the yellow metal. As one can see in the chart below, gold is leveraged to the misfortune of major global fiat money. Each time confidence in the U.S. dollar increases, like in the 1980s and 1990s, the attractiveness of gold declines. Conversely, each time the U.S. economy and its currency prospects stumble, people are reminded of the extraordinary properties of gold.


Chart 1: Trade Weighted Broad U.S. Dollar Index (green line, left scale) and the price of gold (yellow line, right scale, London P.M. Gold Fixing) from January 1973 to August 2015

Trade Weighted Broad U.S. Dollar Index and Gold Chart

However, there are other important indicators of confidence in the U.S. economy for the gold market. One of them is the performance of financial stocks. The behavior of banks' and other financial companies' stocks reflect confidence in systemic stability. When the Fed eases monetary policy, it lowers interest rates and injects liquidity into the system. Banks eagerly expand credit, creating an economic boom, which later transforms into a speculative bubble. In such an environment, the financial sector thrives, while gold remains on the sidelines. Conversely, during economic hardship (which often starts after Fed's tightening), people do not want to incur new debts - the vital fluid of the financial sector - and banks face many non-performing loans. Since the current monetary system is based on the financial sector creating money thanks to the fractional reserve privilege, the lack of confidence in the financial sector is connected with diminished trust in the U.S. dollar. Gold returns the favor. This is why the price of gold should be negatively correlated with the financial sector's performance.

Let's check whether this is the case. The chart below shows the price of gold and Dow Jones U.S. Financials Index and Nasdaq Bank Index, as proxies of financial sector's performance.

Chart 2: Dow Jones U.S. Financials Index (red line, left scale), Nasdaq Bank Index (green line, left scale) and the price of gold (yellow line, right scale, London P.M. Gold Fixing) from January 2003 to June 2015

DJ Financials Index, NASDAQ Bank Index and Gold Chart

As one can see, there is no one-to-one negative correlation between these indices and the price of gold . However, the shiny metal rallied after 2008, while financial stocks plunged, and reached its peak in 2011, when financial equities started its rebound. Actually, gold looks almost like a mirror image of the Dow Jones U.S. Financials since it peaked in 2011. It partially confirms that gold is primarily an insurance against financial risks. When the fear of a financial disaster waned, financial stocks rose and the price of gold decreased, as gold lost some of its "collapse hedge premium".

This narrative is supported by the next chart, which shows the price of gold and CBOE Volatility Index. VIX measures market expectation of volatility over the next 30 days conveyed by stock index option prices. Therefore, it should be positively correlated with the gold, a traditional safe-haven.

Chart 3: CBOE Volatility Index (green line, left scale) and the price of gold (yellow line, right scale, London P.M. Gold Fixing) from January 1990 to September 2015

VIX and Gold Chart

As one can see, the downward trend in the price of gold since 2011 corresponds with the decline in VIX. It confirms our view that the unprecedented central banks' actions after the outbreak of the Great Recession restored the faith in the global economy and led to the end of the bull market in gold. However, there is no clear relationship between VIX and the price of gold in the whole period (indeed, the volatility index's correlation to gold price movements between 1990 and 2011 was only about 5 percent). It does not mean that gold is not a safe-haven or inferior safe-haven to VIX. The latter is narrowly linked to the S&P 500, while the price of gold responds to broader systemic tail risks connected to a current monetary system based on the fiat U.S. dollar. Investors should also remember that high VIX means that markets expect high volatility, but not necessarily bearish conditions.

The bottom line is that the price of gold is driven by the confidence of market participants in the government-run monetary system. Of course, it is difficult to quantify the level of faith in the Fed and the U.S. economy. However, there are certain indicators useful for this purpose. One of them is the financial sector's strength and the expected volatility of the stock market, represented by, correspondingly, the Nasdaq Bank Index and the Dow Jones U.S. Financials Index and the CBOE Volatility index. There is no one-to-one correlation between gold and these indices, but their performance sometimes provides investors with valuable insights.

If you enjoyed the above analysis and would you like to know more about the most important factors influencing the price of gold, we invite you to read the November Market Overview report. If you're interested in the detailed price analysis and price projections with targets, we invite you to sign up for our Gold & Silver Trading Alerts . If you're not ready to subscribe at this time, we invite you to sign up for our gold newsletter and stay up-to-date with our latest free articles. It's free and you can unsubscribe anytime.

Thank you.

Arkadiusz Sieron
Sunshine Profits‘ Market Overview Editor

Disclaimer

All essays, research and information found above represent analyses and opinions of Przemyslaw Radomski, CFA and Sunshine Profits' associates only. As such, it may prove wrong and be a subject to change without notice. Opinions and analyses were based on data available to authors of respective essays at the time of writing. Although the information provided above is based on careful research and sources that are believed to be accurate, Przemyslaw Radomski, CFA and his associates do not guarantee the accuracy or thoroughness of the data or information reported. The opinions published above are neither an offer nor a recommendation to purchase or sell any securities. Mr. Radomski is not a Registered Securities Advisor. By reading Przemyslaw Radomski's, CFA reports you fully agree that he will not be held responsible or liable for any decisions you make regarding any information provided in these reports. Investing, trading and speculation in any financial markets may involve high risk of loss. Przemyslaw Radomski, CFA, Sunshine Profits' employees and affiliates as well as members of their families may have a short or long position in any securities, including those mentioned in any of the reports or essays, and may make additional purchases and/or sales of those securities without notice.

Arkadiusz Sieron Archive

© 2005-2019 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in