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Why Gold Is Volatile

Why Gold Is Volatile

One would think that gold would be the safest harbor at this point, with the turmoil in the equity markets across the globe. But, gold has, in fact, proved to be quite volatile itself.

It was a few months ago when we saw the price of gold move from around $740 to over $920/ounce. But last week, the price of gold fell below $700/ounce. Yet, after plummeting to its weakest in a year, it bounced back this week on stronger crude prices, a recovery in equities, a firmer euro (against the dollar) and tightness in the physical gold supply.

The lure of the yellow metal arises from the perception that it is a safe and alternative investment over times of economic crises and political turmoil. But what is amazing is that this year gold's trading pattern has been marked by substantial volatility and the prices fall as quickly as they rise.

There are a number of reasons for this behaviour.

The most eminent is the global nature of the crisis. It is not just the U.S. which is going through an economic downturn, but a global phenomenon including the emerging markets with Western Europe now emerging as the epicenter. As countries globally are dealing with their own economic slowdowns, it is pushing their currencies lower. As this happens, the dollar, despite the current state of the American economy, has been strengthening against its foreign counterparts. As gold trades inversely proportionate to the dollar, any strength in the American currency will result in gold prices dropping.

Besides the rise in the dollar, the unwinding of commodity positions, sales of gold to meet margin calls on other assets and selling by hedge funds had resulted in the price of gold falling.

But it was best summed up by a dealer in Chicago who was quoted in the press as saying: “The name of the game is to raise dollars. People will sell their winners to fund their losers. The best performer since the financial crisis began has been gold."

So if gold is part of your portfolio, keep holding on to it. Don’t fret at the unnecessary turn of events. Though it may follow an uneven path, the underlying trend is for the yellow metal to rise.