Financial Update 9-22

The US dollar has been having a good few weeks. After months of lackluster performance it now seems to have broken out and headed for the high ground, registering significant gains against all the major benchmark currencies. That’s attracting a lot of attention to the Forex market right now as opportunities appear there, but it also has effects in other areas and one commodity that’s been feeling the chill recently is gold.

dollar-vs-goldDecent second quarter figures for the US economy have given the dollar a nudge upwards but it really took off when the Japanese government moved towards a more generous quantitative easing strategy and the European Central Bank started making noises about going in the same direction. That raised the specter of inflation in both those economies, prompting investors to shift away from the risk of weakening currencies. At the same time the UK pound has been struck by worries about the possible consequences of Scottish independence, which were only resolved by the No vote at last Thursday’s referendum on the issue. With the dollar already looking healthy it was the logical place to go for anyone who wanted to keep their money in currency.

At the same time a recovery in the equities market was having an effect on the values of precious metals, a traditional safe haven any time stocks are looking weak. When stocks go down metals tend to rise, and vice versa. With the Dow and FTSE 100 showing some of the best growth since the financial crisis hit gold and silver were already heading south, so when money that had been tied up in Euros and Yen started looking for a place to go metals weren’t looking attractive. The dollar, already rising because of the economy’s apparent health, was. It made sense to get behind it, and that was enough to accelerate its climb. In fact its performance has been incredible recently – last week’s 1.2 percent jump in the Dow Jones FXCM dollar index was the largest in 10 months.

So how long will the resurgent dollar continue forcing gold down? It’s hard to say. In theory metals should stay depressed as long as the dollar remains strong; the basic circumstances that caused the swing won’t have changed. In practice it’s almost never as tidy as that. For US investors gold isn’t looking very attractive just now, but the same picture doesn’t necessarily hold globally. Anyone in Japan or the Eurozone faced with the prospect of a weakening currency could still profit on gold even if its dollar value remains low; as long as the gap between the Euro or Yen keeps widening faster than gold’s dollar price sinks they can invest in metals and make a profit in their own currency. If enough people start doing that then gold will inevitably start to rise again, making it even more attractive and pulling in more investments. Eventually it could reach a point where it’s bullish enough that people sell dollars to buy gold.

The interplay between stocks, currencies and commodities is always complex and sometimes just incomprehensible. The best we can do a lot of the time is look at what’s happened before. One clue to watch for is the Fed’s policy towards the money supply. Gold often tracks that closely, so stay tuned for any update on interest rate policy. In the meantime don’t ignore the potential of gold – it often generates unexpected profits.