Gold is a great commodity to invest in, though few investors really understand how this market really works. The market of gold is driven by both investors, such as risk averse investors and traders buying gold at time of fear and uncertainty as a hedge against extreme risk. It is also driven by industrial consumption, since gold is an industrial metal. Everybody knows that gold is valuable and has good long term stability, but in reality you can still lose money in gold, if you invest at a bad time. The 1980s high for example, which was $850 at the time, when roughly adjusted for inflation over 35 years is equivalent to well over $2,000 in today’s money, a high that gold has yet to reach. But overall, investors who buy gold when price is not at extreme all time highs, end up making a profit in the long run, and they are always protected against total loss of investment.
On the industrial side of things, gold finds many applications in all kinds of electronic products, from cars, to high end audio amplifiers and cables, all the way to satellites. In satellites especially, the gold required to manufacture the corrosion proof electronics can be as much as 15kg to 20kg, and is never recycled. The expected lifetime of a communication satellite is 15 to 20 years, after that the satellite is completely abandoned and becomes space junk, resulting in the demand of a replacement satellite and the need for at least 15kg in new gold. This is a small example of how industrial gold is unique, and some quantity is never recycled back into the market. Other products, such as computers and mobile phones, all mobile phones no matter how cheap, do require some small quantity of gold, around perhaps $1 to $2 worth of gold each. But with so many millions of mobile phones and computers being made, and only a small portion being recycled, the demand for gold is as great as ever.
The investment market in gold has mainly two components to it, first there are the long term investors, people who buy actual gold bullion or gold coins, or at least invest in gold related stocks and ETFs with a long term objective in mind. There are also the shorter term investors and traders who play both sides of the market, by both buying and selling at different times. The gold market offers good liquidity and trading opportunities to investors who really understand the precious metal markets. Gold is correlated to silver, though there are some differences, and as far as industrial demand goes, gold is better. But if gold has risen too much and too fast for investors, they might look for a proxy investment in the silver market, since these two markets will eventually find some common equilibrium point. So the larger picture here is that silver is related to gold through all these investors, and one precious metal may be better than the other from time to time.
5 year chart of gold (middle chart), versus the US dollar (above), and silver (bottom). As you can see there is no exact inverse correlation between the US dollar and precious metals. But precious metals share many factors, so gold investors also look at the silver market.
One usual factor that impacts gold, more or less on a daily basis, is the US dollar. The US dollar tends to push gold up or down, as these two markets are inversely correlated. This correlation is not exact, but typically when the US dollar is about to make a sharp move, gold will move in the opposite direction. This is important to remember at times of fear in the markets, because risk averse investors also tend buy the US dollar aggressively at times of panic, or extreme slowly revealing uncertainty. So in such cases gold may be expected to rally, but the counter element of a rising US dollar may actually force gold lower. So speculating on the price of gold, based on current geopolitical and short term events is not a good idea, as the trader’s prediction may fail completely.
Gold is best for medium to long term investment objectives, where the objective above all is to hedge an investment portfolio against inflation, market risk, and to also extend the principles of the gold market over to the silver market. Occasionally gold may offer profitable opportunities, over periods of few months to a year, while at other times investors and traders need to focus on the short side, and be afraid to sell the precious metal. Selling gold may sound like a mad idea, but gold actually can go down for months on end, especially when it has come back from a sharp multi year rally, it falls just like any other market. Then what usually happens is that long term investors, even those that already hold physical gold, refrain from buying more gold, until the market has fallen down to what they believe will be the long term bottom. All investors are looking for long term bottoms and a better entry price, that’s why they refrain from buying as soon as gold starts to fall. Even though it appears to many that gold is cheap at any given lower level, next week it may become cheaper still.
