We’ve explained to you before the relationship between gold and inflation, but have you ever wondered about the relationship between the gold price and the price of other commodities, such as oil? James Steel, Chief Commodities Analyst at HSBC Bank, spoke with CNBC during its “Commodities Corner” segment about how oil price movement affects gold.
To summarize his main points:
- Gold and oil each have an inflationary relationship.
- Gold and oil have a relationship through commodity indices. In other words, when energy prices and the price of energy-related commodities go down, so do oil prices. When this happens, managers of oil companies end up selling “millions of ounces of gold” that they have kept as a protective hedge (much like how gold is used as a hedge against inflation).
- The relationship does break down at times and is not perfect. For example, oil prices haven’t moved much for 2-3 years whereas the gold price has been more volatile.
- Sharp movements in oil prices have the strongest effect on gold, particularly if related to geopolitical events
- Chinese buying has kept the gold market alive at this price. To learn more see our blog on Chinese gold demand. Consumer demand from China has stabilized the gold price and explains the reduction of volatility in the gold market.
As can be seen in this interactive chart, the sharpest rises and falls in oil prices (black line) are usually accompanied by large changes in the gold price (gold line), and both oil and gold have an inverse relationship with the U.S. dollar (green line).
What is the Correlation Between Gold and Oil?
The global economy operates on a sophisticated interplay of numerous commodities, two of which are gold and oil. These two resources, essential in multiple industries and sectors, often display an exciting relationship known as correlation. Understanding this correlation is critical for investors in making informed decisions.
First, it’s essential to define what correlation means. In finance, correlation refers to the statistical measure of how two securities move about each other. A positive correlation indicates that the two move in the same direction, while a negative correlation implies they move in opposite directions. If there’s no consistency in how they move relative to each other, they are said to have no (or zero) correlation.
Traditionally, gold and oil have had a positive correlation. The reason for this is multifaceted, involving various economic factors.
Gold and oil are both considered hedges against inflation. As the cost of goods and services rises, so does the price of these commodities. This relationship is primarily because oil price increases directly impact the cost of goods and services, contributing to inflation. Gold, often considered a store of value, typically sees its price increase during inflationary periods as investors seek to protect their wealth.
The value of the U.S. dollar is another factor that influences the correlation between gold and oil prices. Both commodities are usually priced in U.S. dollars. Therefore, when the dollar’s value decreases, it takes more dollars to buy gold or oil, leading to higher prices. When the dollar strengthens, the opposite occurs.
Global Economic Health
Global economic health also plays a crucial role. During prosperous times, industrial demand for oil tends to rise, pushing its price. Meanwhile, investors may opt for riskier assets over gold, leading to a decrease in gold prices. However, in times of economic uncertainty or crisis, investors often flock to gold as a “haven” investment, which can increase its price. Simultaneously, economic downturns can lead to reduced demand for oil, potentially lowering its price. This can sometimes lead to an inverse correlation between gold and oil.
Speculation and Market Sentiment
Speculative trading and market sentiment can also drive the correlation between gold and oil. Market participants reacting to various geopolitical events, economic data, and even weather patterns can induce buying or selling pressure in both markets.
While traditionally, the correlation between gold and oil prices has been positive; it’s not a fixed rule. Various factors can and do influence this relationship, leading to positive and negative correlation periods. It’s also important to note that correlation doesn’t imply causation. Just because gold and oil prices may move in sync doesn’t mean one is causing the other to move.
Understanding the correlation between gold and oil is a helpful tool for investors. However, it should be used with other forms of analysis to build a well-rounded view of the market. As with all investment forms, understanding the various factors and how they interrelate is vital in making informed decisions.
If commodity fund managers use gold as a safe-haven for their $100 billion investment funds, don’t you think your portfolio should include gold as well? If you have a retirement account, consider protecting your assets with a Gold IRA. Call American Bullion at 1-800-326-9598 or request a Free Gold Guide today to learn more about your options for gold ownership inside of an individual retirement account.