Gold future's prices are correlated to the value of the USD. A large part of this correlation is due to the fact that gold and other commodity futures are priced in USD. If the USD is getting stronger or its purchasing power is increasing relative to itself and other currencies then it will take less of it to buy an ounce of gold. On the other hand, if the USD is getting weaker it will take more of it to buy an ounce of gold and prices will rise. This correlation holds pretty true in the long term. However, the relationship between the two markets is not perfect.

That imperfection or inefficiency is really what traders are using when they analyze the relationships between these two markets to find trading opportunities. Such an opportunity exists currently as gold prices are moving away from the USD. In the charts below you can see an example of this kind of divergence. In the first chart, gold prices have been rising since mid September and have stabilized near $870. We would normally expect the USD to be down over the same period. However, as you can see in the second chart, the USD has rallied after an initial dip.

Chart #1: US Dollar Index Futures

These divergences create a tension in prices that will correct in favor of one trend or the other. We can forecast which one is likely to move back in line or wait for the breakout. Because of current market fundamentals my bias is in favor of weakening gold prices to catch up with a strengthening USD. However, you can wait for the breakout to take advantage of this opportunity. In the video below I will go into more detail about why this divergence can be so significant.

Trading this divergence can be done in one of several ways. Clearly the futures contracts, shown above are available or shorting the gold ETF (GLD) by buying a put on GLD are also options. However, from a currency trader's perspective, the AUD/USD may be a nice alternative. Weaker gold prices will contribute to a weaker AUD and with that currency pair teetering on support currently a breakout could result in a nice move to the downside.

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3.25 Copyright (C) 2007 Alain Georgette / Copyright (C) 2006 Frantisek Hliva. All rights reserved."