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I've watched gold drop right along side the equities as we get bad news out of Europe for the last several months. A threatened Euro means the dollar is more of a (temporary) safe-haven, driving the dollar up. But I can't totally square in my mind, that a rising dollar means a fall in the price of gold.

Can you shed any light on it, why these dynamics have been in the markets: namely bad news out of Europe, and gold drops right along with the rest of the U.S. equity market?

Doesn't world crisis generally cause people to turn to gold?

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As an effect of Euro Crisis the USD is going strong as you have pointed out. This means that quite a few currencies [more so in Asia] have weakened.

For example the Indian Rupee has lost nearly 20% of the value against USD. India [Asia in general] is the largest consumer of physical gold for Jewelry etc. Gold in international markets is quoted in USD, making it much more expensive in India [Asia] on account of Exchange rate. This has resulted in lower demand on Gold. Some of it is compensated by Central Banks buying more gold.

However overall the demand is less and this is pushing the prices down.

Of the Gold Producing countries [Australia, Russia, South Africa, and China] both Russia and the RSA have had their currencies weakened. Thus the cost of manufacturing the Gold for them has remained same; the margin has remained same in spite of Price of Gold in USD coming down.

This has resulted in the Gold prices going down.

  • Thanks much Dheer, that clarifies things greatly. China is a also a huge consumer of gold going from the largest exporter not very long ago to now the largest importer. Apparently they ever more want to leave the dollar and invest in gold instead, also greatly encouraging their population to do the same. Any thoughts on how the China housing bubble will effect things in Gold/Silver, apparently a "new crisis" on the horizon? I'm additionally confused regarding China pegging their currency to the U.S., the status of that, and how that might affect things. Thanks much – Ray K Dec 14 '11 at 18:15
  • Yes China is also a huge consumer. I have Used India just as example to bring clarity. Housing bubble in China is mostly Government created. There are entire Ghost towns complete with Gardens, Office Spaces and Houses that are empty. These are largely build by Government entities using its own money. There should be less impact of it on Global market. Its a good question to ask on Economics.se – Dheer Dec 15 '11 at 5:00
  • @Dheer: Economics.se is dead. – Marco Demaio May 14 '12 at 11:07
  • @MarcoDemaio: Yes I am aware. To bad it could'nt gain enough momentum. – Dheer May 14 '12 at 12:22
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As others have pointed out, negative news coming from Europe lately has been mostly Euro-negative, meaning that the US dollar has gained in value. With a stronger dollar, it should take fewer dollars to purchase a fixed quantity of a commodity like gold. Of course, this is not a guarantee, as gold's price is still determined by overall supply and demand; it is heavily traded in many forms, physical, "paper" (e.g. the GLD ETF), and derivatives (e.g. futures).

Gold over the last few years has shown good correlation with other risk assets, such as equities. There's no single factor at play for its rapid increase in value over the last couple of years, but clearly there has been a good deal of speculation that it will continue to appreciate. Many would argue that this is directly attributable to the loose monetary policy of central banks (such as the US's quantitative easing programs) since 2008/2009.

Heavy speculation on an asset often leads to volatility, especially in times of negative news. Weakness in the equity markets and other risky assets, in concert with the strengthening dollar, can diminish the risk appetites of market participants, who subsequently dial back their (typically more risky) speculative positions. In addition, there is increasing evidence of a building liquidity problem among European banks, which could provide additional reason to close positions in order to raise short-term cash. Any extra selling pressure coming from these potential sources of liquidations will have an increased negative effect on the price of gold.

  • Thanks Jason, lots of good points/info. I've recently heard gold is being to sold to help fund the liquidity crisis. Interesting quote from article today on Reuters/Yahoo: "... as fears that Europe's debt crisis is still worsening prompted investors to dump riskier assets and seek shelter in the dollar." Regarding your middle paragraph, isn't the Beta of GLD and the S&P500 quite low? – Ray K Dec 16 '11 at 8:27
  • I shouldn't have used the term "correlation" in this context, as you're right, over the long term, the S&P and gold are weakly correlated. There have been periods over the last few years where the correlation between the two has been unusually large. I would posit that this is a case of a "rising water raising all ships" with the high amount of liquidity available in the financial system recently lifting the values of most risky assets. – Jason R Dec 16 '11 at 14:15
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I think the easiest way to solve is to consider that gold acts like its own currency. As the price of it is measured against USD, a rise in the price of USD will cause a decrease in the price of gold, ceteris paribus (other things being equal).

  • So you're saying, if there is no equal impetus at the moment for gold to rise, than a rise in the dollar will translate directly to a fall in gold? – Ray K Dec 14 '11 at 18:11
  • Yes. If the scale gold's value is measured against changes, the "real" value (i.e., the value of the gold as a currency, if someone were to exchange goods/services for gold) can remain the same while its exchange value changes. Imagine measuring a fixed distance with an elastic ruler. – Adam Jaskiewicz Dec 15 '11 at 13:17
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There was a time when the value of the dollar was in question. During that time Gold skyrocketed from 800 to over 1900(USD). Now as faith in the Euro (the likely candidate for the preferred currency reserve of the west if the dollar failed) drops it has the effect of actually restoring faith in the dollars status as the reserve currency. As the faith in the dollar is restored people who were hedging in Gold are getting out and taking some nice profits. So the demand for gold is going down while demand for the dollar goes up. I suspect that gold will end up back around 1900 when the profit taking ends but there is no guarantee that it will not drop further.

  • Thanks Chad, good vantage point. I imagine if we do QE3 or similar to help our problems with weak economy & debt issues, then the demand for the dollar will decline again (as measured against gold). – Ray K Dec 20 '11 at 5:23
  • Chad - notice you had a comment on the 2008-2009 Stock Market crash, but was unclear to me what you meant, regarding "pink elephant". Can you please clarify that? – Ray K Dec 20 '11 at 5:27
  • @RayK - I would guess though I am hoping that the Fed has learned from the failings of the first 2 QE rounds that repeating the same actions is likely going to have the same results... – user4127 Dec 20 '11 at 14:47

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