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What you should look for when trading gold

There are many drivers behind the price of gold. In this guide, you’ll learn more about these drivers as well as how to analyse and trade gold.

Why trade gold

Gold acts as a store of value, an alternative investment and a hedge against the return of inflation.

The chart below from the World Gold Council plots the long-term returns of gold against a variety of other financial assets. In this study, gold‘s in the top two or three performers in each period under observation.

Gold's long-term performance compared to other financial assets

Its returns are second only to those of US equities over a 10-year time frame, which is impressive because, during this time, US stocks were in the midst of a decade long bull market.

Gold also outperformed many other commodities making gains of +7.7%, compared to a fall of -3.7% for the broader group over those ten years.

That outperformance confirms that gold is unlike most other commodities, thanks to its role as a form of money and its limited number of industrial uses.

Drivers of the gold price

Asian jewellery demand

A significant source of demand for gold comes from the purchase of jewellery, wedding and dowry gifts in Asia. In both India and China, custom dictates a gift of gold for many major life events resulting in some 1270 tonnes of gold being imported by China and India in 2018. That demand has headed lower in recent years, yet it remains a significant seasonal influence on the gold price.

What to look out for: gold prices will often rise during and ahead of Asian holidays and festivals, such as Chinese New Year.


Gold is a hedge against inflation, which is the erosion of the purchasing power of paper currencies. Purchasing power measures the value of money over time, therefore as inflation rises in an economy, purchasing power will reduce.

Gold is an ideal hedge against these inflationary pressures. Its value comes from its scarcity since it can’t be printed at will, unlike paper money. Gold’s acceptance as a global medium of exchange gives it a unique status.

Historically, the cost of an ounce of gold in a given currency or currencies was the main way to establish exchange rates between those same currencies. In recent times the relationship between gold and inflation faded, as inflation became a rarity in developed economies. Of course, inflation may yet make a return.

What to look out for: gold prices react to changes in the market's expectations about current and future rates of inflation. If they’re rising, it's likely the gold price will also rise and vice versa.

Central bank buying

Central banks hold gold to diversify their reserves and are estimated to hold around 34,000 tonnes of the metal. Central banks add to or sell down their gold holdings as they require. 2018 saw their net buying reach 651 tonnes, the highest level for almost fifty years and a 74% increase over central bank buying in 2017.

What to look out for: policy meetings, speeches and updates on the holdings of central banks and whether it’s adding to or reducing their gold reserves. These announcements can affect both the price of and sentiment towards gold.

Relationship to the US dollar

Gold and commodities have similar relationships to the value of the US dollar. A stronger US dollar is negative for commodity prices because, under a strong dollar, commodities become more expensive to foreign currency buyers of materials that are priced in dollars.

The relationship between commodity prices and the US dollar has weakened thanks to developing economies such as China, which have created new sources of demand to offset the dollar's dominance of the commodity markets. This move away from the dollar pricing of commodities is an emerging but growing trend.

We offer our clients gold contracts priced in both euros and Australian dollars, though it will be many years before the US dollar is knocked off the top spot.

What to look out for: gold traders should track the prices of the US dollar index and the major dollar pairs such as EURUSD, USDJPY and GBPUSD. Price and trend changes in these type of instruments feed directly into gold prices while a stronger US dollar typically pushes gold prices lower.

Market sentiment, risk-off, risk-on

As risk appetites among traders rise, the price of gold generally falls. Under these risk-on conditions, traders swap their positions in the precious metal for riskier assets such as equities and emerging market currencies.

When risk appetite fades, known as risk-off, traders become concerned about the possibility of loss and sell riskier assets in favour of holdings in safe havens such as gold and treasury bonds.

Risk-off behaviour in the Gold price versus US Government 5-year bond yields

We’ve plotted this risk-off behaviour in the gold price and US government bond yields on the chart above. It's a long-term chart and an extreme example, but the relationship is clear. As risk appetite fades, demand for less risky assets increases. As a result, the yield on US government bonds falls and the price of gold rises thanks to safe haven buying.

What to look out for: traders should note any changes in market sentiment. Are markets risk-on or risk-off? Gold prices tend to move in line with those of other safe haven assets such as government bonds, the Swiss franc and Japanese yen. If money is flowing into these type of assets, then gold prices are likely to rise.

Gold prices also tend to move in the opposite direction to risk assets. For example, if stock indices and emerging market currencies rise in value then gold prices may fall.

Gold price analysis

The gold and silver ratio

One of the ways traders can analyse the gold price is through a comparison to its peers in the precious metals group, especially the price of silver.

The price of gold, usually quoted in US dollars, is divided by the silver price quoted in the same currency. This sum gives us the gold-silver ratio or the number of ounces of silver required to buy an ounce of gold.

Since 2007, that ratio has been as low as -39.6 and as high as 86.4. In 1971 the ratio printed at 18.73, and in 1995 it spiked up to 102.30. This is a dynamic relationship: the price of gold and silver are subject to continuous change, though there is a consistent and positive correlation of approximately +0.75 between the two metals. They often move in the same direction and at the same time.

One way to use this ratio is as an indicator of sentiment in the precious metals as a whole. Gold has historically been the leader of this group and a spike in the gold-silver ratio can be seen as a bullish signal for the gold price, and potentially the wider group.

Gold-silver ratio - the weekly price of gold over five years

Gold-silver ratio - the weekly price of gold over five years

In the chart above, we've drawn the weekly price of gold over five years and applied the gold-silver ratio in the bottom window. We've highlighted several occasions when a move higher in the gold-silver ratio preceded gains in the gold price, this ratio can be a handy trading tool.

We can create similar ratios between gold and platinum, gold and palladium as well as between each of those precious metals and silver.

To summarise

The price of gold is driven by many factors which can act in unison or in opposition to each other. This variety of inputs is what makes gold such a rewarding instrument to trade.

Gold usually moves in the opposite direction to the US dollar. If the dollar is strengthening, then gold prices are likely to be weaker. On the other hand, if the dollar is falling in value then the price of gold should move higher. Remember, as with every market relationship we need to consider how much of that is already priced in.

Gold prices react to changes in market sentiment. The gold price often rises when markets are in risk-off mode, as traders move out of riskier trades and into safe haven assets. When markets want to be long risk assets, that is, to be risk-on, traders sell out of safe havens such as gold and the gold price can fall as a result.

Central banks hold gold as part of their reserves. Traders should keep an eye out for any announcements about changes in or additions to these holdings. One of the reasons the central banks hold gold is to diversify or hedge their reserves of foreign currency. Gold is a hedge against inflation and erosion in the spending power of paper money. Gold prices rise when markets are concerned about rising inflation and tend to fall as the threat from inflation recedes.

Finally, let's not forget that Asian gift and jewellery demand can be a strong seasonal influence on gold prices.

Traders can also hedge their bets and trade the precious metal in currencies other than the US dollar through Pepperstone’s euro and Australian dollar-denominated gold contracts. For more information about how you can trade gold with Pepperstone and our contract details see here and watch our video on the investment case for gold here.

Contact your account manager for further details or to apply for an account.