Some assets have a direct impact upon the price of another asset. It’s called the market pull effect, and while it’s never 100% exact, it can be a good measure for whether or not a trade is right at a particular moment. For example, the price of the Australian dollar and gold usually move pretty much in step with one another. It makes sense; Australia is one of the world’s leading exporters of gold and when demand for gold rises, the value of the Aussie rises.
Switching gears for a moment, let’s look at the Chinese stock crash from a few day ago. Prices fell a potentially catastrophic amount, although at the current moment, things have stabilized for the time being. But, damage has still been done and it will be some time before complete stability is felt. And that is the case only if nothing further shakes things up. Now that the world is on edge about China, even minor mishaps could send stocks plummeting again.
However, China is the world’s second biggest importer of gold. Because companies are now on guard and some are struggling, what does this mean for the price of gold? Gold has already been slumping as demand in China and India (the world’s number one importer) has slumped. In 2014, Indian demand fell by 14% while Chinese demand fell by 38%. Gold was already suffering as a result of this. Will it suffer even more?
The answer is: probably. At least for the time being. That means you can most likely expect gold to drop a tiny bit in the coming weeks as this sets in. If you are planning on going long with gold futures, it’s probably best to wait until some of this dust clears before moving forward.
Let’s take this one step further. If an asset were to have a negative track, such as the Chinese stockmarket, bringing the price of gold up because of a negative correlation, does that market pull extend to the next level and bring the price of the AUD up, too? It is dependent upon the circumstances, but there’s enough evidence to indicate that the lockstep movement of the Aussie and gold would usually continue to proceed. Traders that are observant enough to see these connections create far more opportunities for themselves to make money than the average trader that just sits and watches one or two assets. Yes, there is an appeal to specialization, but this is also a type of specialization. These short term traders are specializing in a system rather than in a single asset. It doesn’t matter if you are a stockmarket trader, a binary options trader, or a commodity speculator: there are many extra chances to make more money when you understand how the money flows rather than just focusing on a single asset in that system.
There are other factors to consider here, too. For example, the U.S. dollar has a negative correlation on gold, too, and the dollar has been exceptionally strong lately. This has also helped to drive gold’s price up. So, while these correlations do exist and they do matter, there are so many factors to consider (these are just a few) that it’s very difficult to take everything into account before making a trade. This information can definitely help you, but you will not always be correct, unfortunately. Still, it’s a small step forward in the trading world and can help you to see your strategies from a new perspective. When used right with good timing, this is a very powerful tool for traders with a medium length time focus ranging up to a few weeks out in the future.