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Why Did the Fall of the US Dollar Buoy Gold?

Jul. 30 2016, Published 2:14 p.m. ET

US dollar retreats as Fed meets

The Japanese yen rose prior the Fed’s meeting on Wednesday, July 27, 2016, due to the stimulus provided by the Bank of Japan. This indeed pushed the US dollar lower. The US dollar is depicted by the DXY Currency Index, which measures the strength of the US dollar against a basket of the following six major currencies: the euro, the Japanese yen, the British pound, the Canadian dollar, the Swedish krona, and the Swiss franc. DXY fell 0.13% on Tuesday, July 26, and ended at approximately 97.2. However, it has risen 0.29% on a trailing 30-day basis.

The fall of the US dollar often gives more breathing room to precious metals, which are dollar-denominated assets. The weakness in the US dollar often gives wings to precious metals. Dollar-denominated assets get cheaper for investors from other countries when the dollar falls. A cheaper dollar makes greenback-denominated precious metals cheaper, increasing their bids.

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Correlation between gold and US dollar

Most of the time, the US dollar and precious metals follow different routes. But they don’t have to have a perfect negative correlation. A perfect negative correlation means that every time the US dollar rises or falls, gold decreases or increases. The dollar and gold have had a negative correlation of approximately 0.35 over the past year. That means that if the US dollar falls or rises, there’s a 34.8% chance that gold prices will increase or decrease.

Whenever the Fed decides to hike the interest rate, the US dollar tends to increase. Investors around the globe like to invest in the higher rates offered by the Fed. The rise of the dollar, as we know, sends precious metals rolling.

The returns of precious metals have also improved mining funds and stocks. The iShares MSCI Global Gold Miners ETF (RING) and the iShares Gold Trust (IAU) have risen 7.1% and 2.1%, respectively, on a five-day trailing basis.