What is the Relationship Between Gold and Oil Prices? | American Bullion | American Bullion
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. The price of oil plays a crucial role in the determination of the price of gold and gold-backed ETFs. Like gold, the price of crude oil is determined. The simple answer is that it depends on a lot of factors. For starters, it would depend on the nature of the economy of the country. A country that is dependent on.
Virtually everything we consume in the first world is transported via oil-powered ships, trains, airplanes, or trucks. Without oil, the incredibly intricate global logistics network on which we heavily rely today would grind to a halt.
The world would be thrust back into the Steam Age before flight and global trade would implode. In this oil-powered young Information Age, oil truly is the king of commodities.
And gold always has been and always will be the ultimate monetary standard. Empires and nation states rise and fall, and history are littered with once mighty fiat currencies that became worthless as their sponsoring governments slid out of favor.
But gold is the standard by which all other currencies are judged, the only real money of world history.
What is the Relationship Between Gold and Oil Prices?
The gold-to-oil ratio is such a crucial measure because it expresses the entire complex interrelationship between the king of commodities and the only timeless real money in a single data series. This ratio allows us to differentiate when gold or oil prices are probably out of whack and hence a mean reversion is highly likely. If we can figure out which component of this ratio is most likely to lead this mean reversion, gold or oil, then we can position trades to ride the move.
Let us analyze the oil price for few moments.
Then, what happened to the oil price? Why did it fall so much?
IndianMoney | Relationship between Gold and Oil
Most of the leading hedge funds and mutual funds which had invested hundreds of billions of dollars in Oil have withdrawn their money from them, leading to steep fall in its price. India and its association with Gold Investing using Leverage: Bullish investors may choose to leverage their position by borrowing money against their existing gold assets and then purchasing more gold on account with the loaned funds.
This technique is referred to as a carry trade. Leverage is also an integral part of buying gold derivatives and un-hedged gold mining company shares see gold mining companies. Is it the right Time to invest in Gold?
Let us analyze various factors which affect price of gold and then decide whether it is the right time to invest in Gold. Due to this, Chinese have decided to decrease their exposure to US dollar. Also,China is thinking of boosting its gold reserves from tonnes to nearer 4, tonnes to diversify away from paper currencies.
This will further boost gold prices. It might have to struggle with deflation for some time. Thus, countries which are having surplus foreign exchange reserve will now not invest in US treasuries due to extremely low interest rates. This will force them to park their huge wealth in the other most important and safe asset — GOLD. This will lead to increase in demand for Gold and put upward pressure on its price. Technically speaking this is because oil price is going down due to lower demand and global recession.
Thus, to maintain a historical ratio of between 12 and 14, the gold price has to go up to achieve this ratio. Theoretically speaking, with the lowering price of oil inflation will come down significantly and so the interest rates.
This will make the option of keeping surplus reserve in bank unattractive. Hence, most of the investors and central banks will invest them in gold, which is by far the safest investment.
Where the Relationship between Gold and Oil Works and Where It Does Not
However, if we look at the current value of ratio it is more than 20, indicating that sooner or later either oil prices will go up or gold prices come down to reach historical average number. In the event of war like situation, investors prefer to park their money more into external resources. In this time of global recession, gold is again the best option for these investors. So, even though there seems to be no relationship between gold and oil returns over the long term, it may happen that a relationship unveils itself in a short period of time offering trading opportunities.
A popular way to analyze gold in terms of crude oil is the gold: We present historical levels of the ratio along with prices of gold on the chart below.
Gold to Oil Ratio Peaks in the ratio signalize periods when gold was expensive relative to oil. Troughs point out periods when gold was relatively cheap compared with oil.
The ratio does not reveal any striking patterns or relationships. As is with charts, it can be interpreted differently by different persons. Quick calculations yield an R-squared of 3. In light of the mixed results obtained so far, we have checked the relationship between gold and oil price levels for stability. We have calculated R-squared values for gold and oil prices in a one-year window for each day in the period subject to data availability.
The results are presented on the chart below. The red line shows the R-squared values calculated in a one-year window ending on the day for which the value is shown. The changes in the R-squared can be perceived as the stability of the gold-oil relationship. High values indicate that for a one-year period prior to the day for which the value is reported the link between gold and oil was relatively strong and they traded in the same directions.
Low values indicate that for one year the relationship was questionable and gold and oil traded independently. We can see that the stability of the relation has been fluctuating dramatically for the last 25 years. It is considerably difficult to find any apparent relationship between the behavior of R-squared values and the price of gold.
To check for any such link, we have applied two thresholds to the R-squared values.
The first threshold would be one that was broken when R-squared went up. The other one was one that was broken when R-squared was declining. We have checked for different values of the thresholds, values that would coincide with highest or lowest past returns of gold.
Altogether, we have answered four questions: If the R-squared was going down, what threshold would have coincided with highest returns? If the R-squared was going down, what threshold would have coincided with lowest returns? If the R-squared was going up, what threshold would have coincided with highest returns? If the R-squared was going up, what threshold would have coincided with lowest returns?
- Relationship between Gold and Oil
For R-squared going down, a threshold of For R-squared going up, a threshold of Even if the above might seem slightly complicated, they imply two straightforward points: When the relationship between gold and oil was strong but deteriorating, gold returns tended to be considerably low. When such a relationship was significant and strengthening, gold returns tended to be extreme — either considerably high or considerably low.
The above results do not imply that such relationships were tradable. But they point out that the degree to which gold and oil traded in the same direction could have had influence on gold returns.
To sum up, there seems to be a relatively strong relationship between gold and oil prices but not between gold and oil returns.
The strength of the relationship between gold and oil coincides with high or low gold returns. Results of our analysis of the relationship between gold and oil show that if you are considering entering the gold market and the relationship between gold and oil is strong but deteriorating, you may want to double check the current situation on the market. Additionally, if you are to enter the market and the above-mentioned relationship is strengthening, this could coincide with considerable movements in gold to either side.
You might want to check additional factors to confirm which side it might be. As far as comments on the recent developments are concerned, you'll find the long-term analysis in our Oil Investment Updates, and you can read our thoughts on oil from the speculative point of view in our Oil Trading Alerts.