September 21, 2007

Gold, Oil and the Dollar

With gold at quarter-century highs, this is a good time to point out the strong correlations between gold, oil and the dollar.

As you can see in the chart below, the price of gold and the price of oil move in the same direction nearly all of the time. When gold is rising, oil is rising and when gold is falling, oil tends to be falling as well. Statistically this is a very strong correlation -- we have found that, over the past five years, it has been true 90 percent of the time.

When oil prices are high, the big oil-exporting countries see much larger inflows of foreign currency (particularly dollars). They diversify those foreign reserves by investing a portion of it in gold, which increases gold demand and thus price.

If we see factors suggesting a significant increase in the price of oil, we try to figure out whether the increase is likely just a temporary blip or a sustainable shift in the fundamental supply-and-demand balance.

On the same chart, you can also see a line representing the value of the dollar that shows a negative correlation to gold and oil. Weakness in the dollar, like we are currently experiencing, is typically accompanied by strength in gold and oil. Again using statistics, the negative correlation between gold and the dollar has occurred 70 percent of the time over the past five years.

Because it is also a currency, gold is attractive as a safe haven when the dollar is declining. We saw this effect in May 2006, when the dollar was hitting what were then record lows against the euro – gold was over $700 per ounce. We are seeing the same effect today, as the dollar is at an all-time low versus the euro after this week’s Fed rate cut.

And in a rising scenario, gold equities have historically outperformed bullion.  The price of gold is the critical driver for gold equities, but there is more leverage to the upside in a rising gold market.

That’s why we like to say that bullion is for value investors, while gold stocks and gold-stock funds are for growth investors. In either case, we suggest that gold-related investments be limited to 5 percent to 10 percent of one’s portfolio, with annual rebalancing to capture the price swings.

All opinions expressed and data provided are subject to change without notice. Some of these opinions may not be appropriate to every investor. Gold funds may be susceptible to adverse economic, political or regulatory developments due to concentrating in a single theme. The price of gold is subject to substantial price fluctuations over short periods of time and may be affected by unpredicted international monetary and political policies.

 

by Frank Holmes

****

Frank Holmes is CEO and chief investment officer of U.S. Global Investors, Inc., a boutique investment advisory firm based in San Antonio that manages domestic and offshore funds specializing in the natural resources and emerging markets sectors.  The company’s no-load mutual funds include the Global Resources Fund (ticker PSPFX), the World Precious Minerals Fund (UNWPX) and the Gold Shares Fund (USERX).

Please consider carefully the fund’s investment objectives, risks, charges and expenses. For this and other important information, obtain a fund prospectus by visiting www.usfunds.com or by calling 1-800-US-FUNDS (1-800-873-8637). Read it carefully before investing. Distributed by U.S. Global Brokerage, Inc.

All opinions expressed and data provided are subject to change without notice. Some of these opinions may not be appropriate to every investor. Foreign and emerging market investing involves special risks such as currency fluctuation and less public disclosure, as well as economic and political risk.

The S&P/TSX Global Gold Index is an international benchmark tracking the world's leading gold companies with the intent to provide an investable representative index of publicly-traded international gold companies. The FTSE Gold Mines Index Series encompasses all gold mining companies that have a sustainable and attributable gold production of at least 300,000 ounces a year, and that derive 75% or more of their revenue from mined gold.

Holdings as a percentage of net assets as of 6/30/07: Jiangxi Copper (China Region Opportunity Fund 1.74%); Silvercorp Metals Inc. (World Precious Minerals Fund 2.78%, Global Resources Fund 0.89%, China Region Opportunity Fund 2.42%); Gold Fields Ltd. (Gold Shares Fund 6.05%, World Precious Minerals Fund 2.58%, Global Resources Fund 0.39%); Sino Gold Mining Ltd. (Gold Shares Fund 1.03%, World Precious Minerals Fund 0.58%, China Region Opportunity Fund  0.27%); Anglogold Ashanti (0.0%); Dynasty Gold (0.0%).

 

 





 
Latest Commentaries by
James Turk
Brien Lundin
Eric & David Coffin
Lawrence Roulston
Howard Ruff Howard Ruff
The Aden Sisters
Frank Holmes