Which Fundamentals Are Driving Gold ETFs?

by on April 12, 2012 | ETFs Mentioned:

With equity markets charging (generally) higher since the start of 2012, it’s no wonder that gold has been largely off the radar for many investors. Despite evading news headlines over the past few months, speculation over where the precious yellow metal is headed has not died down one bit. Given the impressive bull-run on Wall Street coupled with looming worries surrounding the health of the economic recovery, the fundamental price drivers of gold may be sending conflicting signals of where the metal is likely headed in the foreseeable future [see also Seven Reasons To Hate Gold As An Investment].

Before diving into any fundamental analysis, it helps to take a step back and consider the “big picture” so to speak. First and foremost, it’s important to consider the fact that gold is by all means still in a long-term bull market; the recent selling pressures and price volatility that the precious metal has faced are insignificant over a long investment horizon. Second, gold prices have pretty much drifted sideways thus far in 2012; the precious metal started off the year at around $1,575 an ounce, climbing all the way up to $1,775 an ounce towards the end of February, only to sink back down near current levels of $1,650 an ounce [see GLD-Free Gold Bug ETFdb Portfolio].

The reason for this back-and-forth price action could be potentially attributed to conflicting fundamental price drivers. Gold, more so than other commodities, is heavy influenced by speculation, in addition to supply and demand factors. Perspective is everything, and therefore its wise to keep an open mind and consider both the bull and bear arguments before establishing a position in one of the many gold ETFs available.

Fundamental Factors

Gold is most often described as a safe haven investment, capable of delivering consistent returns in all sorts of market environments, while also serving as a potential hedge against the U.S. dollar. One piece of bearish evidence that points to lower gold prices is the fact that economic growth expectations have improved considerably since the dismal days of 2011. Despite last week’s worse-than-expected payroll data, the labor market has been gradually improving at home; the unemployment rate has dropped from 9% in October of 2011 all the way down to 8.2% in March 2012 [see also Defensive Equity ETFs For Earnings Season].

Consumer confidence has also been improving, jumping from a reading of 46 in October 2011 all the way up to 70 as of the latest reading in April 2012. Furthermore, the latest Fed Beige Book also commented on the improving economic landscape; the report showed consistent expansion in manufacturing, increasing freight volume, growing tourism, and improving loan demand. Simply put, gold’s safe haven reputation has done little for the metal in 2012 given the largely optimistic sentiment on Wall Street.

On the other hand, some are convinced that it’s only a matter of time before gold resumes its bull-run. One piece of bullish evidence which may point to higher gold prices is the fact that equity market euphoria has been greatly dependent on stimulus measures. If the Fed pulls the plug on easy money after Operation Twist ends in June of 2012, stock markets could head south as worries over the recovery quickly resurface [see 3 ETFs For The End Of Operation Twist]. Additionally, the Euro zone is still plagued with debt woes, which gives fundamental support to gold prices given the metal’s safe haven reputation.

Ways To Play

Given the conflicting fundamental factors influencing the price of gold, some may wish to hold off before jumping into a position for the long-haul; instead, the current environment could present appealing opportunities for more active, short-term traders. Investors looking to make a short-term bet on gold prices have a number of options at their disposal. The biggest and most liquid of the available instruments is the State Street SPDR Gold Trust (GLD); this ETF features unparalleled liquidity as well as an extremely active options market, increasing the appeal for investors looking to implement more sophisticated trading strategies [see Special Report: Gold ETFs In Focus].

On the other end of the spectrum, the ProShares UltraShort Gold (GLL) is a viable option for those looking to bet against the precious metal. Investors who prefer a hands-off approach ought to consider TBAR; this creative offering from RBS gives investors access to a trend-following strategy which switches exposure between gold bullion and 3-month U.S. Treasuries depending on the relative price performance of the precious metal on a simple historical moving average basis.

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Disclosure: No positions at time of writing.