Monday, December 15, 2008

Gold and the Australian Dollar

It's commonly believed that there is a strong relationship between the Australian Dollar and gold. But is this true? I computed the monthly returns on gold (percent change in the gold spot price) and the AUD (percent change in the exchange rate to the dollar plus the monthly interest at the Reserve Bank of Australia cash rate) for the period from October 1996 to the present:

The correlation is 0.3 (equivalent to an R2 of 0.09). This isn't that high. The correlation between the returns on the Australian Dollar and the MSCI World Index is around double this. You would get more diversification from investing in a mix of gold and Australian Dollars than in investing in shares and Australian Dollars! The total return indices look superficially correlated:

(R2 is 0.90) but it is a somewhat spurious relationship.


Anonymous said...

I think you should determine the correlation between AUD and gold for the last 5 years, 2 years and 1 year.

I think it is important to show a trend as time passed rather thanto show one correlation from 1996 to present. That would be worth more to readers than one number from 1996 to present.

I think your article will serve to confuse people. If yu are going to go back to 1996 you need to show a trend!

mOOm said...

Here are the correlations and R-squares between the two returns series for more recent periods:

1 year: 0.39, 0.15
2 years: 0.42, 0.18
3 years: 0.41, 0.16
5 years: 0.39, 0.15
10 years: 0.28, 0.08

It's true that the correlation has been stronger in the last five years but it's still not that strong. I'm not saying that there is no relation between these series, but that whatever relation there is is not that strong and probably other variables are also very important. The Australian Dollar isn't a very good "proxy" for gold except almost by chance in certain periods.