Gold Prices as It Relates to the Global Economy

Gold is often used to hedge against inflation or used as a measure of the US dollar. Gold coins are seen to impact the US economy in terms of the stock market, inflation and the US GDP.

Gold is not just for the American’s investment portfolio as statistics show only an 11% demand in America between 2004 and 2008 whereas the rest of the world accounts for the balance. Gold demand for jewelry is 68% globally with at least 50% from China, Middle East and Turkey. Gold in other forms, like bars or coins, gives 20% by US, Europe and India. Japan demands 12% for industrialization.

One cannot just correlate gold to the US economy only, for inflation, velocity of money and the supply of money affect the whole world with gold in the forefront. The demand of gold by the big players will give a better understanding of how gold prices will move in the future.

Gold and Money Supply

Historically, gold has proven to be quite stable during adverse or favorable market conditions. But there are important correlations that can affect gold prices and its trend over the short and long terms.

Foremost in the correlations is the dollar; it seems to correlate negatively to gold which means an increase in the dollar value shows a decrease in gold prices. Nevertheless, gold has proven to be the better performer over stocks and bonds during inflation or economic crisis, as seen in 2007 when gold prices increased. Currently gold prices have kept increasing for 9 consecutive years since 2001.

Hence, one measure from the monetary policies is to increase the supply of money to stimulate the economy. But when liquidity is increased, the chances of inflation also increase. Global economies face this major issue fearfully as it is impossible to predict the intensity of inflation.

In reality, gold prices move in its own momentum despite the supply of money factor. Good economic growth will see more wealth with more demand in gold whereas an economic recession will have gold considered an asset and a hedge against inflation as well as the lowered worth of paper currencies. The value of gold has never dropped to zero due to its demand at all times.

While the economy changes unpredictably, understanding gold better in relation to monetary policies will help you decide that it is a great time to buy gold.

How Does Gold's Value Change with the Stock Market?

There is a common misconception in the financial world that gold moves in the opposite direction of the stock market. This unfortunate interpretation of historical data produces a misleading image that often results in confusion and bewilderment among investors when the two markets periodically move in the same direction.

Negative Correlation or No Correlation?

In order for gold and the stock market to move in opposite directions, there would need to be a negative correlation between gold and stocks. There is no evidence that such a correlation exists and, if there was, and it was true that gold moved in the opposite direction of stocks, it would greatly reduce gold's value as an investment alternative.

If gold and the stock market were on the proverbial see-saw that a negative correlation necessarily implies, there would be no reason for long-term investors to invest in both. The proper decision would be for individuals to choose which ever one outperformed the other over the long-term.

Fortunately, individuals are not faced with such a dilemma.

The fact of the matter is, gold is NOT negatively correlated to the stock market. Nor is it positively correlated to the stock market.

There is NO discernible correlation between gold and the stock market.

Gold: An Independent Asset

In other words, gold reacts independent of stocks, to economic and political factors and market events.

This makes gold the ideal diversifier for a portfolio of stocks. The reason for this is because of the unpredictable nature of world events.

When you get right down to it, consistently predicting near-term and medium-term movements in the stock market is just about impossible. No one has done so with any success to date and no one has developed any trading system that has done so over the long haul.

The same can be said of the gold market. No one has a crystal ball with which to predict the movements in gold either.

Likewise, no one can predict with certainty the timing and nature of the next economic crisis or perhaps the next terrorist attack. All of these kinds of factors impact the financial markets—including the stock market and gold market—and thus need to be accounted for.

Gold: Protection Against Inevitable Uncertainty

The best way to protect your portfolio against unpredictable events in the financial markets, the economy and the geopolitical arena is to diversify as completely as possible. This means not just diversifying across industry by selecting stocks of companies which are engaged in varying lines of business, it means diversifying across asset classes. In addition to a diversified portfolio of stocks from a variety of industries, individuals absolutely must include gold in their portfolio.

Why?

Because gold has no correlation with the stock market. The best way to achieve the stability of your portfolio is to include an asset that is as unpredictable vis a vis stocks as the very events which impact the stock market.

We know from history that gold will not react in the same way as the stock market to crisis, hyperinflation, depression, and other turmoil. This is what makes gold so vital for all people.

No one knows what to expect next from the financial world. One day the stock market is doing just fine and the next a storied name like Merrill Lynch is being bailed out in a deal put together by the Feds. One day the world is calm and the next a 23 year old tries to blow up an airliner over Detroit.

We can't change the unpredictability of future events and the stock market's reaction to those events, but there is something we can do to help protect our wealth from the fallout, and that is to own gold.

ITM Trading offers expert advice on buying St. Gaudens and other rare gold coins.