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Thursday, July 07, 2022

Gold - Copper Ratio

By Century Financial in 'Investment Insights'

Gold - Copper Ratio
Gold – Copper Ratio

* Trading in financial market carries risk and can result in loss of capital.
* This performance is only observed with historical backtests and not traded by the company.

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The product and investment ideas do not consider the risk profile and financial position of the recipient and may not be suitable for everyone. Trading in financial markets and use of margin involves a significant risk of loss, which can exceed deposits. Please read the complete disclaimer carefully.

Copper: The Economic Bellwether

Copper has fallen to its lowest price in 19 months, with metals extending losses as global recession fears continue to damp the demand outlook for commodities. Sentiment remains sour for industrial materials used in everything from construction to new energy vehicles. Copper, widely considered an economic bellwether, is trading well below $336 per pound after metals posted their worst quarterly slump since the 2008 financial crises.

Gold: A Store of Value

For years, gold has been considered a store of value. Because gold has historically maintained its value over time, it serves as a form of insurance against adverse economic events. When an adverse event occurs that lingers for a while, investors tend to pile their funds into gold, which drives up its price due to increased demand. Also, when there is a threat of inflation, the value of gold increases since it is priced in U.S. dollars.

The table below indicates the YTD returns for gold and SPX index, depicting how gold is a store of value. While SPX has fallen by almost 20% in the span of 6 months, Gold has held its ground recording a loss of less than 5%.

SPX Gold
YTD Returns -19.84 -4.64%

Source: Bloomberg
Data: 7th July 2022

Gold Copper Ratio

The copper-to-gold ratio, a crucial market barometer to monitor the stages of the business cycle, is starting to unmistakably display the first symptoms of an economic stagflation. The chart below depicts the recovery of a key level in the Gold-Copper ratio for 8 years.

Gold Copper Ratio

Source: Bloomberg
Data: 6th July 2022

Copper is a cyclical metal with several industrial applications, which tends to appreciate during economic boom. In contrast, gold is seen as a classic safe-haven asset during periods of sluggish economic growth and rising inflation. The ratio of gold to copper is closely linked with business confidence in the US, as assessed by the ISM Manufacturing index. While data from the ISM manufacturing index for May still showed an expansion in the manufacturing activity (56.1), but recent data from the S&P Global Flash US Manufacturing PMI for June indicated a material drop to 52 from 57.

The chart below depicts the negative correlation between the Gold-Copper ratio and the US ISM Manufacturing Index.

Gold Copper Ratio

Source: Bloomberg
Data: 6th July 2022

Risks and Assumptions for Back-tested trading strategies
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The risks and assumptions listed here are not intended to be an exhaustive summary of all the risks and assumptions involved.
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The strategy might suffer from look-ahead bias which occurs due to the use of information or data in a study or simulation that would not have been known or available during the period being analyzed. This can lead to inaccurate results in the study or simulation.
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Future price movements may not be exactly the same as the historical price movements and this could lead to variation in performance.
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Testing can sometimes lead to over-optimization. This is a condition where performance results are tuned so high to the past they are no longer as accurate in the future.
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The model assumes no slippages in trading. Slippage refers to the difference between the expected price of a trade and the price at which the trade is actually executed.
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Drawdowns in actual trading can be higher than the tested system and losses could be significant in the event of leverage.
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Unforeseen events can lead to variation in performance from the tested trading strategy.
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The tested result has been computed with price feeds available from Bloomberg.
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The testing environment has not considered transaction or any other costs.
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Trading indicators used for the purpose of testing has been provided by Bloomberg.
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The strategy might suffer from data mining fallacy, selection bias and backfill bias.

Data Source: Bloomberg
Data: 07 Juy 2022

Arun Leslie John
Chief Market Analyst

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