Gold To Soar On High Stock Volatility And Other Lies They Tell You

When the general stock market declined in the previous months, many people called for much higher gold prices, supposedly based on the allure of the safe-haven demand for the yellow metal. And while there is some truth to it as gold would be likely to rally if the US economy got into severe trouble, this simply does not apply to the link between the short-term volatility of the stock market and the gold price. We proved there is no translation of the former into a certain price action of the latter. In the past, the implications of volatility spikes were rather neutral and since the 2011 top they are actually bearish for the gold price. Let’s dive into the details.

Gold - Stock Market Volatility Link and Other Costly Misconceptions

Gold - Continuous Contract

We’ll start with the lower part of the above chart that features both gold and the VIX index, which we use as a proxy for the stock market’s volatility. If gold was to reflect the stocks’ volatility, it should be taking place more or less all the time – or at least for the significant majority of time. That clearly wasn’t the case and the variety of correlation coefficients depicted reflect that.

We checked the relationship between gold and the VIX in terms of correlation in three time periods: based on the 20 weeks, then based on 50 weeks and finally based on 100 weeks of data. The value of the correlation coefficient moves back and forth around 0 in all cases (and in all other cases that we checked but that we don’t feature on the above chart to preserve its readability).

This means that there is no stable correlation between the two. This alone is something that should make you think that it’s not safe to base the bullish outlook on stocks’ volatility.
But wait, there’s more.

Putting correlations aside, let’s see what happened when the volatility spiked, just like what we saw recently. Maybe the relationship is not present at all times, but it’s there during critical times.

Wrong again. This time a bit less, because there is a mildly strong tendency for gold to reverse its course during the VIX’s spikes. It doesn’t mean that gold always bottoms at that time, though. Remember the 2011 top in gold? It was accompanied by a spike in the VIX – the measure that’s supposed to indicate breakouts and trigger further rallies.

We marked the noteworthy spikes in the VIX with vertical lines on the above chart. Before the 2011 top, there was a similar number of cases that were good opportunities to go long (7 out of 17 cases) as there were good opportunities to go short (6 out of 17 cases). It’s not clear which positions would be better in the remaining cases (too much depends on one’s individual approach). In other words, a spike in the volatility of stocks usually suggested that some kind of move was about to be seen, but it didn’t indicate what kind of move (the direction) that would be. Consequently, it was not a useful sign for detecting good moments to go long or short – at least not on its own.

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