More on the Correlation Between Stocks and Gold

After 2009, each time the correlation between stocks and gold turned negative, stocks rallied to new short-term highs. However, the number of observations is not significant and this pattern may change if key players change their strategy. The fact that there was a recent decrease in the correlation means nothing unless negative readings are obtained, something that is not clear at this point if it will happen.

Like any other market indicator or market study known to man, correlation also lags prices and tells some story of what happened in the past, not what is going to happen in the future. The only way to come up with a scenario about the future is via the use of induction, also known as probability. Every time an analyst looks at a chart and attempts to draw scenarios based on past price action, unless wishful thinking is involved which is unfortunately the case 95% of the time, the process involves induction from a limited number of observations. Induction means probability and if one does not know how to deal with probabilities properly, he is doomed to join the 95% statistic of failed traders unless he is very lucky.

GLD_20121221

The five periods after 01/2009 during which the correlation between SPY and GLD turned negative are shown on the above chart with vertical markers. Each and every time this happened, stocks moved higher in the short-term. So the effect of a lower correlation was caused by either falling or flat gold prices.

At this point, the decrease of the correlation from a high of +0.55 in September to the current level of  about+0.32 is nothing to jump about and all the noise made in some blogs is in my opinion premature because there were other occasions in the past, as it may be seen from the above chart, wehn the correlation fell but then rebounded and never went negative. It is clear that the correlation is decreasing because gold is correcting.

Disclosure: no relevant position at the time of this post and no plans to initiate any positions within the next 72 hours.

Charting program: Amibroker (Charts created with AmiBroker – advanced charting and technical analysis software. http://www.amibroker.com/”) 

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