Gold, oil and dollars form an appropriate acronym — G.O.D. Indeed, like God in the Book of Genesis, this strange trio can create a new world order in seven days, and throw it into complete chaos within the next seven. They dance closely with each other. And they have a common weapon — volatility — which has been at its very best this year.
Let’s take gold first. It touched a record-breaking $1,033 per troy ounce in March. Pundits confidently forecast a bull run all the way up to $2,000. The key reason: In a world where the dollar was falling badly and bound to slip further, gold alone provided a haven of stability. If global investment portfolio managers moved even 2% of their funds from dollar-denominated investments to gold, the price of gold would zoom through the roof. The falling demand for physical gold in the world’s largest jewellery market — India — made no difference to this bullish truth, because the pundits held that investment-driven demand is larger.
All these pundits are eating humble metal today. Gold has fallen to below $800 per troy ounce, a remarkable negative swing of more than 25% within five months. And now a fresh new panel of oracles has pronounced that gold will fall even further, to $600, within the next six months. The reasons touted are the new-found strength of the US dollar, the decline of oil and (hold your breath!) the fall in demand for physical gold in India.
Oil has matched gold in its huge oscillations. From $60 per barrel, it skyrocketed to nearly $150 a barrel within a year, causing panic in economic ministries worldwide. The US blamed the Organization of the Petroleum Exporting Countries (Opec), and Opec in turn blamed lack of refining capacity, saying its member countries were producing more than enough oil to meet actual demand. Disagreeing with Opec’s view, many astute commodity observers said oil prices would soon reach levels of $200, unless demand for petrol and other oil-based fuels was brought under immediate control. Various governments, including our own, attributed galloping inflation to oil prices, in effect saying the matter was outside their control.
Since then, oil has quickly tumbled to less than $115 in the past few weeks, and forecasts are that it may soon be in sub-$100 territory. Current thinking on the subject is that a huge amount of dollars — more than $260 billion — is invested in the commodity market, more than half of it in oil. These investment positions drive the short-term price of oil far more than changes in Opec production or changes in physical demand. Even a small movement in investment from oil to other commodities, including gold, can make a big difference in the price. And, of course, as the US dollar strengthens, the price of oil (denominated in dollars) declines.
And, finally, the US dollar. Once the rock-solid guarantor of the world economic order, it has accompanied both gold and oil on their wild swings. Over the past 12 months, it slipped rapidly to a level of 1.65 to a euro, an adverse swing of more than 25%. Exporters and importers variously lost sleep, depending on which country and currency they traded in. Currency experts blamed the rapidly weakening US economy, the collapsing US housing market, the credit crisis and, of course, the rising price of oil — which they claimed would further widen an impossibly large US fiscal deficit. There was only one direction the dollar could head, we were told — and this was down, down and down.
And then suddenly, over the past three weeks, the tide has changed. The dollar has now strengthened to 1.55 to the euro, and forecasters predict it will further strengthen to 1.3 within the next 12 months. Falling oil prices, deteriorating economic conditions outside the US and (hold your breath once again!) a fast stabilizing US economy are the reasons now being advanced in support of a strengthening dollar. A leading investment bank has now famously declared: “It is now time to say goodbye to our long-held bearish stance on the dollar.”
So, as we can see, each member of the trinity — gold, oil and dollar — has swung unpredictably and wildly in the recent past. Yet, like a reliable religious trinity, each is linked to the other. Rising oil means a falling dollar. A falling dollar means rising gold. Rising oil often leads to rising gold as well. And there are second-order inter-relationships which are equally visible.
Experts have miserably failed to predict even directional movements in any of the three, leave alone levels they will achieve. I believe such unpredictability will continue for some time now, because the world is entering a new phase of economic discovery in which several new variables are at play simultaneously — including a US economy, which is yet to settle down to its new realities, a suddenly softening European economy, inflation rearing its ugly head in many countries after several years, slower global growth, the unpredictability of countries such as Iran and biofuels reaching a tipping point.
Yet, this G.O.D. can cause grief, because the trinity is made up of critical movers of economies. So, it is even more important today to keep a constant eye on gold, oil and the dollar.
Perhaps, in these times of volatility, governments and companies will have to work within increasingly shorter time buckets for decisions linked to any of the three in the trinity. Instead of planning a year ahead, maybe 12 weeks to 24 weeks is now the appropriate planning horizon.
Interestingly, because the three are so interlinked — and are either distinctly positively or negatively correlated with each other — it should be possible to conceive a number of fascinating financial products, which combine the price movements of gold, oil and the dollar. These can provide a strange but useful balance in our volatile world.
And finally, there is one familiar interface with G.O.D. that we can always indulge in during such turbulent times: We can pray for a safe return to the times of stability.
Harish Bhat is chief operating officer (watches) of Titan Industries Ltd. These are his personal views. Comments are welcome at firstname.lastname@example.org