Gold - Did it Fail During the Market Panic?

Gold Volatility or Stability?

We are experiencing the great stock market volatility of the past two weeks. Those watching the precious metals in response may be wondering something. Why did gold not perform better as the stock market had fallen over 11% from its recent peak? While there are many diverse factors that impact precious metals prices, there is one crucial facet we will discuss today. 

Markets are forward-looking in nature.

What does this mean exactly?

First, let us look at the raw numbers. The stock market peaks on January 29 of 2872 on the S&P 500 index. The broad market falls over 11% to 2532. This is before rebounding moderately on Friday afternoon. During that same timeframe, gold was down just over 2.5%. [We will perform a full examination of silver during stock market crashes in the coming weeks.]

Is this a failure by the precious metals to act at such a critical moment?

Markets Forward-Looking

Again, we come back to the theme that markets are generally forward-looking. That is, they anticipate and discount future events before they happen. What this means is that it is not unusual to see a market move in the opposite direction as one would initially expect. This is especially true upon a key news item. This might seem to suggest a response in a specific direction.

For example, let us consider these same asset classes since the recent low in metals in mid-December:

When we look at the slightly broader timeframe, we see that gold has held its value well. That is, in comparison to the broad stock market.

Can we imagine the movement of individual stock investors? See them anticipating ahead of time the broad market due for a sharp fall. They start taking profits out of stocks throughout recent months and move them into precious metals.

Gold as Insurance

This idea that markets are forward-looking should be noted. Consider the analogy of insurance. Does one purchase home insurance after flames are in the windows? Does one buy car insurance after an accident occurs? Of course, the answer to these questions is no.

With these examples in mind, one of the many functions that gold serves is “wealth insurance.” Investors accumulate profits in other asset classes. Some of these investors are forward-looking and will turn to gold during good times. They purchase this wealth insurance precisely at the same time that one would buy home insurance – when it is not needed.

If gold moved higher before the crash, can we imagine what often occurs times during the actual crash?

Similar to insurance, one may need to “cash in” the policy when an accident occurs. In this case, we see the cashing-in as a moderate decline coinciding with the stock market. It is essential to observe that the overall losses investors suffer are minimal for those who took out an insurance policy in gold. Gold serves its purpose – it protects the profits of the forward-looking investor to a significant extent.

In the real world, no insurance policy is perfect. Premiums must be paid and generally never recover. Sometimes a policy does not fully cover a loss. But usually, some insurance is better than no protection at all.

Wealth Insurance Policy

It is crucial for investors to consider the merits of a wealth insurance policy before they need it. This recent stock market crash may be an isolated event. Unfortunately, it might also be a tremor before an even more significant decline begins. No one can predict the future correctly. Yet, the merits of this example of wealth insurance should stay at the forefront of our minds. This is even if the stock market recovers in the coming weeks.

We strongly encourage the regular accumulation of physical gold for insurance purposes for all investors.

A Surge in Demand for Insurance?

As a final note: less than 1% of Americans to this day own any gold whatsoever. Less than 1% have chosen to purchase this wealth insurance. At the more speculative end of the precious metals thesis, we hypothesize about what may happen to gold prices if that number were to double. Let's say to 2% of the population. What if 10% of Americans wanted to own some gold? This will be the topic for a future article. Suffice it to say that if demand for an inherently finite supply of insurance policies ever increased to such an extent, the value of the metals would be forced upward by a multiple of current prices.

We will not place speculation into the same category as insurance. All investors should own some gold as insurance – especially when they least expect they will need it.

Christopher Aaron
Bullion Exchanges Market Analyst

Christopher Aaron has been trading in the commodity and financial markets since the early 2000s. He began his career as an intelligence analyst for the Central Intelligence Agency. This is where he specialized in the creation and interpretation of pattern-of-life mapping in Afghanistan and Iraq. His strategy of blending behavioral and technical analysis has helped him and his clients. It helps to identify both long-term market cycles and short-term opportunities for profit.

This article is a third-party analysis. It does not necessarily match the views of the Bullion Exchanges. Readers should not consider it as financial advice in any way.

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