What Gold Is Telling Us About the Direction of Equity Markets
Fear has returned.
-- J.R.R. Tolkien, The Fellowship of the Ring
Gold. Because of it, wars have been fought, leaders have been assassinated, and countries have been destroyed. Possessing an alluring shine and seemingly superlative qualities, it's the most highly sought-after metal on the planet. But, is there more to this longing of ownership? Otherwise stated, can investors in today's world derive an inference of the US equity markets' direction from its price action (demand)?
For many years, since gold broke above its long-term secular channel in 2005 around $460, this topic has been controversial. The dispute is based on timeframe. It also depends on the stance of the evaluater. To clarify -- and head off any potential challenges to today's assessment -- The analysis illustrated here is intended to show a shift in market psychology and potential direction in the near term (monthly).
It all comes down to the fear trade, which occurrs when investors shift their stance on gold from considering it an asset class to seeing it as a safe haven. The first evaluation question to ask is: How can you determine the shift? And following right behind is: Does this transition shed light on the underlying strength of the equity markets?
Determining when this change in stance, or reassessment , occurs is rather simple. Investors can evaluate gold and the markets' action through convergence/divergence (positive and negative correlation coefficients). For simplicity, I used the SPDR Gold Trust (GLD) and the SPDR S&P 500 (SPY). The following chart is a weekly comparison.
Click to enlarge
Since the 2009 market bottom, there have been two to three times when gold and equities have had very identifiable negative correlation periods. This occurred just before the ~20% downturn in 2010 and just before the ~20% 2011 downturn. In both instances, when the negative correlation ended (became positive), the majority of the equity market's decline was concluded. As of Friday this idiosyncrasy began to appear once again. To better observe this, I add the daily chart comparison.
Click to enlarge
The action on Friday, June 1 was the first time since August of 2011 when the divergence was this pronounced. I believe, when adding this analysis to the weight of evidence I already have, that it provides a powerful message on general market psychology: Fear has returned, and there are strong bearish undertones in the short-term.
I hope this helps and finds you well.
Editor's Note: Read more at Tesseract Asset Management.
The information on this website solely=
reflects the analysis of or opinion about the performance of securities an=
d financial markets by the writers whose articles appear on the site. The v=
iews expressed by the writers are not necessarily the views of Minyanville =
Media, Inc. or members of its management. Nothing contained on the website =
is intended to constitute a recommendation or advice addressed to an indivi=
dual investor or category of investors to purchase, sell or hold any securi=
ty, or to take any action with respect to the prospective movement of the s=
ecurities markets or to solicit the purchase or sale of any security. Any i=
nvestment decisions must be made by the reader either individually or in co=
nsultation with his or her investment professional. Minyanville writers and=
staff may trade or hold positions in securities that are discussed in arti=
cles appearing on the website. Writers of articles are required to disclose=
whether they have a position in any stock or fund discussed in an article,=
but are not permitted to disclose the size or direction of the position. N=
othing on this website is intended to solicit business of any kind for a wr=
iter's business or fund. Minyanville management and staff as well as co=
ntributing writers will not respond to emails or other communications reque=
sting investment advice.
Copyright 2011 Minyanville Media, Inc. All Rights Reserved.= span>