Surprising Drivers Of Gold: How To Position Yourself

| About: SPDR Gold (GLD)

Summary

Brexit has had an unexpected impact on the stock market.

The FOMC market was essentially a win-win for gold.

On a risk-adjusted basis, long GDX and short GLD makes sense.

The number of factors impacting the movement of gold - as represented by the SPDR Gold Trust ETF (NYSEARCA:GLD) - is often too numerous to count. Furthermore, the impact of the most important factors on the price of gold change rapidly, in terms of both importance and, on occasion, in terms of direction. The recent meeting of the Federal Reserve Open Market Committee is serving the needs of gold bulls, regardless of how one reads the underlying message, and has driven the yellow metal to new recent-term highs. The obvious question for investors is whether gold can and will go higher from here; the answer is "Yes."

The Real Importance of Brexit

Since the unexpected announcement that the United Kingdom would exit the European Union, markets have passed through two phases of reaction: the initial surge, followed by some temperature cooling. Initially, stocks fell and gold surged, beginning to form what had the potential to become new trends in both markets. Stocks recovered quickly, however, helped in part by strong news from the U.S. in terms of major macroeconomic indicators. The funny thing is that gold did not also reverse and, instead, has remained strong in spite of the strong equity market.

Gold, which has been in a steady and protracted decline since late 2012, has been looking for a catalyst for a reversal. While this is an oversimplification, and when one considers how technically gold is often traded, the yellow metal has been looking for an excuse to reverse. Brexit seems to have provided that excuse, despite its ultimately muted impact on stocks. While some commentators are now predicting that the long-term impact of Brexit will be positive for European stocks, in the immediate term Brexit seems to have cleared the way for a meaningful reversal in gold.

The Impact of the Fed and Washington

Any action from the FOMC, including the tone of any public statements, typically sends the gold market in one direction or the other. What made the most recent move from the Fed unusual is that the statement was essentially set up as a win-win for gold. A hawkish statement would like have driven down stocks, thus supporting gold. As the statement was largely considered dovish, leading most to believe the Fed will remain extremely hesitant to raise rates too quickly, especially this year, this reluctance remains supportive of gold looking ahead.

Even at the September meeting, it would be surprising for the FOMC to do much. While a small bump in rates would not be surprising, anything stronger would be likely to clamp down on the current rally in the equities markets. A sharp reversal in stocks, particularly so close to the election, would be potentially catastrophic for the Democrats, who are relying on a claim of continuing strong economic times. The political sphere has been as intense and divisive as at any time in the last several decades, making Fed involvement highly improbable.

The Trade

In the wake of Brexit, I recommended buying gold and selling stocks. This trade has been essentially flat, depending in one's specific timing. Gold has shown strength, but I was wrong about the weakness I expected in the stock market. I also reversed a pairs trade I had put on last September, choosing to go long GLD against the VanEck Gold Miners ETF (NYSEARCA:GDX). GLD outperformed for a few weeks, but with the renewed strength in the overall equity markets, GDX is outperforming again. As of today, I remain bullish on gold.

Given the remaining performance gap between GLD and GDX, it is time to be long GDX against GLD for risk mitigation. A strong gold market should continue to drive mining stocks harder and faster than the underlying commodity. Gold is well positioned to before for the foreseeable future, and at least for the next several months, making me a buyer at current levels.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.