More on the Gold / Stock Market Correlation

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Includes: GLD, SPY
by: Michael Stokes

I’m doing a little playing around with the short-term interaction between the price of gold and the stock market. Some semi-interesting observations…

20090515.01

The table above shows the next-day performance of gold ETF GLD (NYSEARCA:GLD) depending on whether gold and the S&P 500 closed up or down on the day, from November of 2004.

The three sets of numbers in each box are (1) the average return, (2) return relative to standard deviation (an overly-simple measure of risk-adjusted return), and (3) the % of days that were positive. Geek note: I’ve detrended the average returns by subtracting from them the average of all days in the sample.

Hold that table in the memory bank for just a moment. The next table shows the same test, but looks at the next day performance of the S&P 500 rather than gold.

20090515.02

I’ve highlighted the squares where each asset was, based on these numbers, particularly predictable (green for bullish, red for bearish).

Note how gold’s next-day performance became much more predictable when it diverged from the S&P 500 (one closed up, the other down). In contrast, note how the S&P 500 was more predictable when it moved in line with gold.

In both instances, the asset being tested was contrarian (up closes tended to follow down closes, and vice-versa).

Next, let’s look at an entirely curve-fitted (and NOT to be traded) strategy that just trades each of those highlighted squares (long when green, short when red). The squares are mutually exclusive, so the strategy will always invest in one asset trading one direction.

Geek note: this test is frictionless (doesn’t account for transaction costs/slippage).

20090515.03
[logarithmically-scaled]

I say that this strategy is not trade-worthy because (1) the sample size is way too small (less than 5 years), (2) my whole approach reeks of data-mining, and (3) even over this very short test results were inconsistent.

But it’s an interesting observation and one that I think deserves me getting off my rear end and digging up some more gold data to put through the paces. More to follow.