Ever since King Midas said, “Hey, look what I did” gold has been traded, primarily as a method of payment, but also to back currencies (the gold standard). Gold is much more than just a show-pony; its unique physical and chemical properties mean that it’s well used in industry and dentistry. So let’s take a 10-minute look at where it comes from, who wants it and how we can make money by trading it.

Why Gold?
Gold is generally seen as the ultimate safe haven and a more stable asset class than equities and bonds. It has physical properties that survive war, natural disasters, currency devaluations, inflation, recession and banks that tell lies. When markets become uncertain, there is often a flight to gold by professional traders and investment funds.

The 2008-09 banking crisis really brought home to investors that, just like the small print says, prices can fall as well as rise, and boy did they fall. This prompted a re-think of investment policies which saw many funds diversifying risk away from stock and bond markets, and into commodities including gold. Gold is also bought as a hedge against Dollar weakness, though this relationship does break down from time to time.

The small print should also warn that although gold is viewed as a more stable investment, its price can, and does, fall like other investments.

Where Does Gold Come From?
Apart from big holes in Africa, and Mike Tyson’s dentures, there are three recognised suppliers:

• Production: The top 5 gold producing countries are South Africa, USA, Australia, China and Peru. But despite the runaway price of gold, production has fallen steadily since 2001. One reason for this is the massively long lead time for exploration and production, which all but died off following the depressed prices of the 1990s. Also mining costs are high and new deposits hard to find, leading to fewer viable projects.
• Recycling: Yes, you may scoff, but melting down gangsters’ teeth and auntie’s ear-rings is big business. This supply reacts to sudden changes in the price, but also to economic circumstances; an economic downturn will see a rise in recycled jewelery.
• Central Banks: Historically the world’s central banks held large stocks of gold, which were used to back their currency. Over the past few years they’ve been ongoing sellers, but more recently steady buying by Russia and China have turned central banks into net purchasers. Separately the IMF continues to sell gold to raise funds. Central bank sales are regulated so as not to undermine the market price.

Where Does It Go?
There are 3 main sources of demand:

• Jewelery-this accounts for just over 50% of demand
• Industry and dentistry- around 11%
• Investment- 38% and rising

World Gold Council data for 2009

The latest available data show that in 2009 only investment demand rose. Demand from industry fell by 16% and from the Jewelery trade by 20%. However, these figures were the result of a lousy first quarter when the credit crunch was in full flow. Within the investment sector the demand from ETFs was the largest component with an 85% increase in 2009.

How Do We Trade Gold?
Gold is traded 24 hours a day around the world in OTC (Over The Counter) markets; the main centres are London, New York and Zurich. However it is also traded through futures exchanges like COMEX (part of the Chicago Mercantile Exchange) and CBOT. It is the futures contract from COMEX that paddypowertrader use to derive their Gold Rolling Daily prices.

Another (riskier) way of betting on gold is by trading companies which have extensive gold mining interests, like Barrick Gold, Anglogold and Randgold Resources. However production margins and hedging policies mean that mining shares can be far more volatile than the underlying metal. Also company-specific news can affect a share price in a way that wuold leave the gold price unchanged.

What To Watch Out For When Trading
Trading gold half-heartedly is a risky business; its price can be influenced by a mixture of news, economics and weather:

• Geopolitical events – a major terrorist event, an escalation in Middle East tension or a coup in the Far East are all likely to push the price higher.
• Economic news – during the 2008-09 credit crunch and the 2010 Greek debt crisis investors rushed into gold, where they saw more stability and ’safe haven’. Also the price of gold usually (but not always) moves in the opposite direction to the US Dollar, so keep an eye on US economic data. Use the Trading Calendar to see what news events are coming up.
• Interest rates – gold may be a store of value, but it’s not too hot on regular payouts. The lack of interest/dividends makes it less attractive if interest rates are high and more attractive in a low interest rate environment.
• Central bank gold sales and foreign exchange reserve news releases. The trouble here is that these bankers tend to trade first and announce after.
• Mining companies may report they have found a new ore deposit, opened a new mine, or run into geological problems that have caused production issues. Companies may also announce forward sales (production hedges) of mine output.
• Seasonality. Gold usually performs well in the final quarter of the year in the run-up to a number of religious and ‘gift-giving’ festivals including Christmas and Diwali. Also many Indian weddings occur in November and December with the gold given as part of a dowry usually purchased after the harvest in September.
• Weather events – this one may seem a bit strange but we’re talking specifics here, not a wet weekend in Bognor. India accounts for about a quarter of all gold consumption with most of it bought after a good harvest by peasant farmers. Equally, these farmers might then sell it in a tough year when a bad monsoon or typhoon wipes out their crops.

Gold Trading Strategies
As always the broad choice is between trading of your views and trading off the charts. Trading off your views requires a good understanding of the economics of gold and fast reactions to breaking news. However Gold does lend itself fairly well to Technical Analysis so, while I don’t do more than the occasional Gold trade and therefore do not hold myself up as an expert, I do remcommend checking out the following articles for ideas. And feel free to skip the first few if they are too basic:

• The basics of using charts
• How To Trade From The Charts
• Support and Resistance
• Trading using Moving Averages
• Trading using RSI
• Finding Trends In Markets (part i and part ii)

And if you get through that lot, there are plenty more technical trading strategies in the Technical Analysis section of the Educational Articles page.

And Finally
If you’ve caught the gold bug and fancy taking it seriously, here’s a cracking web site. The World Gold Council site will give you enough to make gold your specialist subject on Mastermind.