Monday, March 16, 2009
For some time now, the changing relationship between the U.S. dollar and gold has been noted in these pages and now others are talking about it too, the latest commentary coming in this Wall Street Journal report($) by David Gaffen and Joanna Slater.
Dollar and Gold Are Suddenly InseparableIs that what it was?
The dollar and gold are no longer ships passing in the night.
For the better part of this decade, the price of gold and the value of the U.S. dollar tended to move reliably in opposite directions -- when gold went up, the dollar went down, and vice-versa. The reasoning is that a weaker dollar can feed into worries about inflation. That in turn prompts investors to turn to gold, a hard asset in limited supply whose value typically rises in inflationary times.
Lately, though, gold and the dollar have been rising in tandem as frantic investors seek safety from contracting world economies, teetering banks and radical governments stimulus plans.
While there is no doubt that the two have been rising together lately, the explanation of their divergent journeys earlier in this decade rings a bit hollow, as do most other explanations for the inverse relationship between the dollar and gold.
For example, the gold price has risen for the last nine years, whereas, the U.S. dollar has lost ground to other paper money around the world during seven of those years.
That says a lot more about gold than it says about the dollar-gold relationship.
Moreover, there seems to be only a casual relationship between the trade weighted dollar and inflation. For example, the U.S. Dollar Index fell during all of 2006 and 2007, a time when official measures of inflation were, in fact, receding.
If a falling dollar sparked fears of inflation, those fears were unfounded, however, those investors opting to buy gold on this misplaced fear were better off as a result.
I've always thought that twitchy traders, conditioned like Pavlov's dogs to sell the dollar when gold rose and to buy gold when the dollar tanked, was the the sum and substance of the explanation of the relationship between the two.
Surely some experts have an explanation...
The recent coupling "goes against the economic theory, so now you have a lot of new economic theory," said Richard Bernstein, chief investment strategist at Banc of America Securities Merrill Lynch research.Mr. Bernstein's "new economic theory" theory notwithstanding, it seems that it's a lot easier to explain the recent coupling than the historical relationship.
Hans Olsen, chief investment officer at J.P. Morgan's private wealth management unit, said investors shouldn't cling to expectations that the dollar and gold will fall back into old habits. "There is not some immutable axiomatic inverse relationship" between the dollar and gold, Mr. Olsen said. "There are periods of time where the market might assign a linkage, and there are times when the different assets trade differently for different reasons."
Some investors say the reason the old inverse relationship isn't working is because gold is no longer simply an anti-dollar bet, but a wager against currencies more generally. In other words, gold isn't just a hedge against a weaker dollar, but a form of protection against the temptation for any government to devalue its currency.
"The gold price is up in any currency, really," said Alan Ruskin, chief international strategist at RBS Greenwich Capital. "What that's telling you is that we have perceived problems lying ahead for paper currencies."
On that matter, Mr. Ruskin seems to have hit the nail squarely on the head - all paper money is looking shaky at the moment against the yellow metal.
Here's an update of the two as of today - they are settling into a perfect non-correlation, as should be the case since there really isn't a fundamental relationship between the two.