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With the gold price in dollars breaking decisively the 200 day moving average but with volatility across a broad
range of asset classes close to, or at, historic lows…this article looks at what patterns occur in equity and gold prices during both up and down trends and how to adjust your portfolio accordingly.
The following article is presented by Lorimer Wilson, editor of www.munKNEE.com (Your Key to Making Money!), www.FinancialArticleSummariesToday.com (A site for sore eyes and inquisitive minds) and the FREE Market Intelligence Report newsletter (sample here; register here) and has been edited, abridged and/or reformatted (some sub-titles and bold/italics emphases) for the sake of clarity and brevity to ensure a fast and easy read. This paragraph must be included in any article re-posting to avoid copyright infringement.
- The index is said to be in an up-trend when the current level is above the moving average and
- the index is said to be in a down-trend when the current level is below the moving average.
Note that the 200 day moving average is used here as an indicator of market trend simply on the basis that it is a widely watched trend indicator by market participants but in any case, it can be shown that the general results presented here are not particularly sensitive to the specific choice of trend indicator.[Below is a table of]…the 20 year period from 1994-2014…[with] 5 year intervals to help identify any potential changes in trend.
- over the full 20 year period when the market was trending lower:…
- volatility (i.e. the standard deviation) was…[twice as much],
- in the 5 year sub-periods
- volatility was also twice as high and this pattern was also evident in each 5 year sub-period and
- the largest daily up and down moves…occurred...
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Gold Price ($US) Movement Patterns
… [As shown in the table below, gold prices]:
- over the full 20 year period:
- volatility was approximately 8% higher during periods in which the gold was trending up which is the reverse of what was observed in equity markets.
- [In the 5 year sub-periods]…
- there was less consistency over time with higher volatility being experienced in both up and down trending markets.
This is a surprising result as most assets would expect…higher price volatility to be associated with falling prices….[This] could be related to its characteristics as a “defensive” asset during periods of market stress…[when] investors often…buy gold as a temporary store of value and as a way to protect the value of their portfolios as equity markets…fall…
Gold Price (Euro) Movement Patterns
Historically, the dollar has demonstrated defensive qualities with many global investors choosing to switch from other currencies into the US currency during crisis periods. When an investor buys gold in dollars, they are not just expressing a bullish view on gold but also a bearish view on the dollar.
If the dollar rises in value during a period of market stress, this would hurt the price of gold in dollars and thereby reduce its effectiveness as a defensive asset. To investigate this relationship further we conducted the same trend/volatility analysis using the price of gold in euro terms [as illustrated in the table below]..
- Over the full 20 year period, gold in euro terms was:
- 24% more volatile when trending higher (above the 200 day moving average) than when trending lower.
- In 3 out of the 5 (five) 5 year sub-periods:
- volatility was also higher in up-trending markets.
Conclusions
What are some of the implications of these results?
- In equity markets there may be some benefit to reducing exposure during periods when the market is trending lower (as these periods tend to be associated with significantly higher volatility in prices).
- …[While]reducing equity market exposure in a down trending market might reduce the ability to capture some of the large daily up moves (the biggest daily moves – either up or down – happen when the markets are trending lower), it might enable the investor to avoid some of the large drawdowns associated with falling markets.
- In gold we observed the reverse pattern;
- there may be some benefit to assessing the strength of the trend in the gold price as a way to potentially quantify the benefit to adding gold exposure to a portfolio during periods of market stress.
In other words, [the implications from the above findings are that:]
- there may be some signaling information to be mined from price trends in equity and gold prices which can help to optimize portfolio weight decisions.
The key point to stress then is that the benefit from observing price trends is not so much on being able to better forecast future market direction but to:
- assess the probabilities for increased price volatility (either upwards or downwards) and to
- make appropriate adjustments to portfolio weights.
Editor’s Note: The author’s views and conclusions in the above article are unaltered and no personal comments have been included to maintain the integrity of the original post. Furthermore, the views, conclusions and any recommendations offered in this article are not to be construed as an endorsement of such by the editor.
*http://seekingalpha.com/article/2256353-is-the-gold-market-more-volatile-when-trending-higher-or-lower?ifp=0 (© 2014 Seeking Alpha )
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