Jul 222015
 

I don’t know if this is the case in other countries, but here in Australia the TV news and other media report the USD gold price, not the AUD price. The result is that often gold will only appear in the local news when the USD price does something interesting or achieves new lows or highs, when for local investors the gold price may not have changed much or moved in an opposite direction.

The reporting of USD prices also means some Australian investors can get confused when they ring up to buy or sell and get quoted an AUD price and say a) “that’s not what it said on TV” or b) “that hasn’t gone up/down much since I last bought it”. While we do mention it to new investors, most forget about the impact of the Australian/US exchange rate on the AUD price of gold. This is best illustrated in the table below which shows an example of a perfect investor who bought the USD low and sold the high.

USD Exchange Rate AUD
24 Oct 2008  $   725.70     0.6528  $1,111.67
6 Sep 2011  $1,913.18     1.0527  $1,817.40
Increase 164% 61% 63%

For the American perfect investor they made a 164% profit but the Australian perfect investor (buying when the USD price bottomed and selling when the USD price topped) only made 63%. The reason is that the exchange rate increased 61% over that time period. You can see the interaction of the USD gold price and the AUD/USD exchange rate in the chart below, with our perfect investor buy and sell points marked 1 and 2 respectively.

usdfx

If the exchange rate had stayed at 0.6528 the Australian investor would have sold at AUD 2,930.73 (a 164% profit). In this case the appreciating exchange rate cost the investor $1,113.33. Ouch. It is why we tell Australian investors about this rule of thumb: if the exchange rate goes up, the AUD price goes down (assuming a constant USD price) and vice versa.

So when you buy in Australian dollars (or any non-USD currency), you really have to forecast what the USD price is going to do and then what your exchange rate is going to do, and consider the interaction of the two. One way to get a handle on this is to turn the graph above into a scatter graph, which I have done below.

scatter

This type of graph doesn’t show time so well (I’ve marked the perfect buy point 1 and sell point 2 for reference), just the relationship between two factors. I have also put in coloured “contour” lines which indicate the points where the AUD gold price is the same across various combinations of USD price and exchange rate.

The really useful thing about this chart is that you can see that the AUD price has a tendency to move diagonally from left to right, following the contour lines. This means that there were periods where the AUD price was trending sideways or showing little change/volatility in its price – in other words, changes in the USD price were counteracted by changes in the exchange rate.

You can also use the chart to see what AUD price you get from various combinations of future USD gold and exchange rate figures. On the chart above it doing this is difficult because it covers such a wide range of different prices and rates. The chart below shows the combination of some more realistic medium term future USD prices and rates.

forecast2

The white star is about where we are now, USD 1090 and a 0.74 exchange rate, which equals AUD 1473. The arrows represent various potential futures:

  • Green – Australian dollar weakens and gold bottoms and strengthens, in which case AUD gold would be above $1600
  • Blue- Australian dollar weakens and gold continues to fall, in which case AUD gold would be in the high $1400s
  • Yellow – Australian dollar strengthens and gold bottoms and strengthens, in which case AUD gold would be in the high $1400s
  • Red – Australian dollar strengthens and gold continues to fall, in which case AUD gold would be in the mid $1300s

The general consensus on the Australian dollar is that it will continue to weaken due to a poor economic outlook with commodity prices falling. As to the direction of the USD gold price, I think that is hard to call right now as we are in uncharted territory but the sentiment is negative.

What I would note is that there is a reasonable probability that the USD gold price and the exchange rate will continue to move together for the foreseeable future, as both do seem to be affected by the strength of the US dollar. In that case an investment in AUD gold may represent a reasonable bet as it is a case of a falling price (red arrow) scenario versus two neutral (blue and yellow arrow) and one positive (green arrow) scenarios. Of course I will probably be forced to eat my hat now that I’ve made that statement, but hopefully the charts above give Australian investors some help with making their precious metal investment decision.