How to trade Gold

Women love it, Spandau Ballet wrote a song about it and Sauron nearly brought about the end of civilised life on Middle Earth with a little bundle of it. So, what is it about Gold, that gets everyone including traders so excited?

Gold – a 20 year recap

To understand how Gold moves you need to appreciate the history of Gold and so it’s time for a little 5,000 year- old history lesson. 

Only joking. You don’t need to know how society has romanticised about Gold for centuries or the Bretton Woods system to trade Gold. Like with everything, it helps to have background knowledge but, with Gold it is only in the last 20 years that things have really started to get exciting!

Let’s find out:  

1999 – Austin Powers is “groovy”, Girl power is in full force and Gold trades around $250. This is on the back of increasing economic optimism and announcements by the likes of the United Kingdom that they are to sell off a large percentage of their Gold reserves to fund infrastructure spending  

1999 – Going into the millennium it is not just the panic around the millennium bug that is rising. Gold rallies to nearly $350 following a Europewide Central Bank agreement to cap Gold sales.

2003 – The Americans are off and running in their quest to liberate the Oil…..i mean people of Iraq. The price of Gold rallies as people look to cover Risk.

2005 – In a year when terror comes to London, Gold pushes above $500 for the first time in 18 years as Risk is taken off the table.

2006 – Gold is up and down like a yoyo. Up above $700 on a weak dollar and concerns over what the U.S. will do if Iran get the “A-bomb” before falling towards $500 again

2008 – The market starts to rocket, rallying nearly $100 in a single day in September on economic head winds across the U.S, Europe and Asia. First, we trade $800 then $1000

2009 – The financial crisis is rocking like ACDC in their heyday. Gold blasts through $1200 as Greece falters. Economic decline, a weak dollar, Renewed curbs on central bank sales and potential for large scale Quantitative easing all contribute.

2010 – The rally continues into the new decade. Ireland, Spain and Portugal are looking increasingly shaky. Safe haven flows are in full swing but, Gold stops just short of $1500.

2011 – As fears of a full- blown Eurozone collapse engulf the world, Gold hits $1896. The Fed’s easing programme is in full swing but, concerns remain

2015 – With the U.S. and Chinese economies recovering Gold has seen a steady fall over the last 4 years. Gold, however remains above $1000

2019 – Trump is shouting about trade, Geo -Political tensions in the Middle East are rising and murmurings of another debt bubble begin to make the rounds. People seek the safety of Gold as it pushes through $1500 for the first time since 2013

Year Open Close Year High Year Low % Change

2019 $1,287.20 $1,523.00 $1,542.60 $1,270.05 18.8%
2018 $1,312.80 $1,281.65 $1,360.25 $1,176.70 -1.2%
2017 $1,162.00 $1,296.50 $1,351.20 $1,162.00 12.6%
2016 $1,075.20 $1,151.70 $1,372.60 $1,073.60 8.6%
2015 $1,184.25 $1,060.20 $1,298.00 $1,049.60 -11.6%
2014 $1,219.75 $1,199.25 $1,379.00 $1,144.50 -0.2%
2013 $1,681.50 $1,201.50 $1,692.50 $1,192.75 -27.8%
2012 $1,590.00 $1,664.00 $1,790.00 $1,537.50 5.7%
2011 $1,405.50 $1,574.50 $1,896.50 $1,316.00 11.7%
2010 $1,113.00 $1,410.25 $1,426.00 $1,052.25 27.7%
2009 $869.75 $1,104.00 $1,218.25 $813.00 27.6%
2008 $840.75 $865.00 $1,023.50 $692.50 3.4%
2007 $640.75 $836.50 $841.75 $608.30 31.6%
2006 $520.75 $635.70 $725.75 $520.75 23.9%
2005 $426.80 $513.00 $537.50 $411.50 17.1%
2000 $282.05 $272.65 $316.60 $263.80 -6.3%
1990 $401.65 $391.00 $421.40 $346.75 -2.5%
1980 $559.00 $589.50 $843.00 $474.00 12.5%
1970 $35.13 $37.38 $39.19 $34.78 6.2%

The Basics of Gold movement

Can you see any patterns in the way Gold moves from the above overview?

Although there are plenty of things that can affect how Gold moves (See below) there are a couple of fundamental aspects to bear in mind when looking at whether Gold will rally or fall 

  1. Gold is a Risk adverse asset. This means that when things look rosy for the world economy and stocks rally, Gold is likely to be less supported and trade lower.
  2. When things are not looking so good for example during an economic downturn or when Geo- Political factors such as the recent trade war with China people take their money out of riskier assets, putting it into physical assets and safe havens such as Gold.
  3. When the Dollar is weak this is generally good for the Gold market.  If you can get more Dollars for your Euros for example it means you will also be able to buy more Gold because Gold is predominantly priced in USD.

Why Trade Gold

When it comes to trading, Gold is by far the most talked about commodity alongside Oil. So, it makes perfect sense that anyone looking to become the next Wolf of Wall Street (Possibly without the Jail time) should find out a little more…….

Aside from the ongoing threat of a certain perm tanned businessman causing carnage by pressing that little red “freedom” button, there are a number of valid reasons to trade Gold:

Liquidity – With all the moving up and down quickly, trading Gold can look a bit like a four year old on a trampoline. But, in reality compared to other assets Gold is actually far more Liquid. On an average day around $35 billion dollars of Gold will be traded in London and nearly $40 billion in New York. Let’s compare this to Silver which trades around $5 billion in London and a similar amount in New York. This ensures that entry and exit points are smooth, spreads relatively low compared to less liquid assets and importantly there are less chances of “blips

Inflation Hedge

Some people think that hedges are big Green walls of leaves and flowers. Well, those people are wrong. Hedges are not just for gardens and this applies particularly to Gold.

In its simplest term an inflation hedge is the buying of an asset to offset the fall In value of a currency due to inflation.  Remember those candy bars that were $0.10 when you were a kid that are now $0.20? Yep……..That is inflation (Or Greedy corporations)

Gold has historically been used as inflation hedge to protect against the fall of the purchasing power in the U.S. Dollar – Particularly handy because the majority of Gold is traded in USD. 

It has what is known as an inverse relationship to the U.S. Dollar – As Gold falls the Dollar usually rises and as the Dollar falls……you guessed it Gold gets pumped and rallies. By adding Gold to your portfolio in trading, you stand a better chance of protecting the monetary value of your assets should the USD suddenly fall or inflation push above the FOMC tolerated 2%.

A good example of this was during the late 2000’s financial crisis. With Quantitative Easing underway and those Wiley folks at the Fed/Treasury making money appear out of thin air, much like a magician pulls a rabbit out of his hat Investors became concerned. Gold rallied above $1000 and close to that magic $2000 mark, as investors sought both a safe haven (See below) and a hedge against a depreciation in USD purchasing power. 

Safe Haven 

Want to keep your money stay safe from an impending zombie apocalypse? Well, Gold is arguably the asset for you. In times of trouble people take risk off the table and flee to what are known as safe haven assets. Assets that are less likely to lose value in times of trouble. Between 2008 and 2011 and during the height of the World economic crisis Gold prices increased well over 100% while the DOW Jones more than halved in value. Enough Said.

Diversification

We have all heard the saying “Never put all your eggs in one basket” Well, trading is a prime example of why those eggs should be neatly spread out.

It might seem fun to load up in one asset and ride head on into the markets like a boss, especially when things go your way. Bigger investment means bigger returns right? If price goes your way you will finally be able to afford to ask Debbie the “hot neighbour” out. At long last you can impress the woman of your dreams by booking a table at that new fancy restaurant. It will be first class all the way as, you and Debbie jet off to far flung corners of the world, watching the sunset as you feast on champagne and Lobster. 

However, what happens if something catastrophic happens that affects the “all in” trade? 

What if you had taken everything you had and invested into Lehman Brothers? You would literally have lost the shirt off your back and as for Debbie? Well, the chances are she will think you are reckless, greedy and not the man she thought you were. By Bye Debbie.

Gold is seen by most fund managers as a key asset in managing Risk.  Successful traders and investors realise this and ensure that they are not over leveraged in one market/stock/asset. Whether it is Facebook, Apple, Google or your best friend’s Orange picking business, you need to have a balance. And gold is good. 

Self-Fulfilling prophecy

A self -fulfilling prophecy is a Sociological term to familiarise yourself with. Not only is it a great way to impress people at dinner parties, who will think you are deep and brooding but, it can be argued to be highly applicable to the financial markets. 

A Self-Fulling prophecy refers to the expectation or predicting of something coming true because people have the belief that it will happen. Now think about how this applies to Gold.

Wherever you look there is talk of the price of Gold. On Television companies plug all manner of ways to buy the physical asset. News outlets continuously run stories on the potential rise of Gold. You even have vending machines in countries where a person can buy it! 

When people are talking it up there is an argument to suggest it becomes a self fulfilling prophecy. 

Now, this is not a reason to buy Gold but, it is handy to know!

The best times to trade

Think of trading Gold as being like finding the right time to ask Debbie out for a date. There is a good time and a bad time to do it. If you get it right, you will end up wining and dining the woman of your dreams. Get it wrong and you could end up sitting on your sofa in the dark, listening to repeats of songs by Adele contemplating why.

So let’s have a look:

Daily

Luckily for you the Gold Market is highly liquid and open nearly 24 hours a day. And this provides plenty of trading opportunities. When Asia Closes, Europe Opens. When Europe says goodnight the U.S. kicks off. In this sense Gold really is the New York of markets – It never sleeps. 

However, traders out there be aware –  volatility does usually dip after the U.S. close at 4PM EST so, those looking for momentum or break out trading may want to hold fire until Europe comes back into focus at 8AM CET.

Seasonally

Believe it or not Gold is a seasonal commodity. This means that some months are better than others when it comes to going Long. Historically speaking September and November have yielded the highest average return. If you are looking to sell, you might want to consider February, March and December. 

Correlation and Gold 

Trading Gold using correlation is a bit like knowing a dance routine. You might not be able to spin on your head or back flip but, if you know master the moves you can tell what is coming. In trading this is market correlation and it is something that traders use across all asset classes particularly Gold.

Simply put, correlation is the relationship between various markets. Some move alongside each other while others move in opposite directions. In some cases there can even be no correlation between two assets/markets. 

By learning how this works you can limit risk, pre-empt market movement and even decide when to stay out of the market

Correlation coefficients 

This little beauty is a number between -1.0 and 1.0 and it tells us how a market moves not just for Gold but, for all asset classes. 

  • If the correlation coefficient is -1.0 the relationship between markets is inverse, meaning markets move strongly in opposite directions. 
  • If the Correlation coefficient is 0.0 there is no correlation between markets i.e. they move randomly
  • And finally, if the correlation coefficient is 1.0 the relationship Is like Bert and Ernie from Sesame Street. It is strong. As one market moves higher the other one should move in a similar direction and vice versa

Now this might seem complicated but, luckily for you here are the 3 main correlations to be aware of when trading Gold:

  • Gold/USD – Strongly Inverse
  • Gold/Stocks – Strongly Inverse
  • Gold/Oil – Positive

As correlations can sometimes change the majority of traders use correlations as an additional tool for trading alongside, their all singing and dancing strategy

For example, If a market is trending strongly higher and it has an inverse relationship to Gold, why not check the bearish sentiment and consider avoiding those long positions?

So…………………

with all the above information digested let’s think about what we have learnt. 

  1. Gold is Liquidity – Lots of Gold trades so unlike the crypto market you are less likely to wake up after a weekend with the market $1100 offside!
  2. Gold is an inflation hedge – And no trading garden is complete without a Gold hedge!
  3. Gold is a Risk adverse asset
  4. Gold has seasonal fluctuations
  5. Gold is affected by all manner of things including the Geo-Political outlook and GDP/GNI
  6.  Gold is one of the most common of the Diversification assets out there – Spread that Risk
  7. Access – Plenty of brokers offer it and everyone is talking about it
Uncategorized