What is gold?
Gold is a precious metal prized by humans throughout history due to its lustrous appearance and scarcity. It has been used widely throughout history in jewellery and as money and has recently found applications in electronics, medicine, and even gourmet cuisine.
Used historically as currency, gold was used to establish the gold standard, in which paper money was redeemable for gold. In the past, several countries pegged their currencies to gold. While this is no longer the case, it remains a form of liquid reserve for a portion of central banks’ savings.
Although its use as a medium of exchange has been superseded by more modern methods of payment, gold remains universally recognized as a reliable store of value. It plays a vital role in the world of finance and investing, operating as a hedge against economic uncertainty and demonstrating its ability to generate substantial returns for investors.
Gold is extracted through a costly mining procedure. Newly mined gold supplements the current supply. Unlike other commodities, such as oil, which is only used once, gold cannot be destroyed, and the quantities produced remain in circulation and can, at least in theory, be recycled and reused in the future.
Top gold exchanges
Gold is primarily traded over the counter (OTC) and on exchanges. London is the global centre for the OTC market, where market players trade directly with one another. While this market is less regulated and more flexible, the counterparty risk is potentially higher. Three significant gold trading centres account for more than 90% of worldwide gold trading volumes and play a key role in driving price discovery. These are:
The London OTC market, which trades 400-ounce bars. It sets the London Bullion Market Association (LBMA) gold price twice a day, the global reference benchmark for gold. The Chicago Mercantile Exchange (CME) Group operates the US futures market (COMEX derivatives exchange). While only a few contracts are physically fulfilled with the delivery of bars, the exchange is becoming increasingly important in the pricing of gold.
China is home to the Shanghai Gold Exchange (SGE), the world’s largest physical spot exchange, which launched the Shanghai Gold price benchmark in 2016, as well as the bustling Shanghai Futures Market (SHFE). Recent indicators indicate a move to the east. Dubai, India, Japan, Singapore, and Hong Kong are among the other secondary markets.
Exchanges are regulated platforms with centralised trading. They typically provide a standardised contract, which will not suit every trader as it might limit their flexibility.
Gold market participants
Due to the popularity and varied usage of gold, the gold market has a diverse range of participants with different objectives.
Jewellery manufacturers and industries that use gold, such as the electronics industry, must get their hands on the physical asset; they also enter the futures markets to hedge against unfavourable changes in market value.
Customers who wish to invest in gold and own it in the form of bars and coins can do so through a specialised market. Due to gold’s quality as a store of value, this group typically prefers to hold onto their gold for the long term, despite short-term swings.
Hold positions from seconds to months, depending on their profile (e.g., an algorithmic fund may keep the position open for seconds, while a macro hedge fund may keep the position open for months).
Longer-term investors are lured to the market as well because of gold’s long-term appreciation, which has made it the investment of choice for hedging against inflation, currency fluctuations, geopolitical conflicts, and financial market volatility.
Gold is one of the oldest and most trusted forms of currency in the world. Gold’s intrinsic worth, or “safe haven” appeal, makes it a popular investment and an effective way to diversify a portfolio for traders.
Trading gold involves buying the metal with the expectation that price appreciation will make it profitable to sell it later. This can be accomplished by purchasing gold in physical form, such as bars, ingots, or coins, or by investing in financial instruments that monitor the price movement of gold. These financial instruments also enable traders to take short positions on gold, that is, to sell in expectation of a price decline, which will make the asset profitable for buying later.
In the current context, trading gold refers to speculating on the price of gold through buying and selling derivative financial instruments rather than acquiring the precious metal in physical form. As a result, gold traders can participate in price movements without having to handle or store the underlying assets.
There are several options for trading gold that cater to each trader’s strategy and risk profile. These include trading spot gold contracts, gold futures, gold options, ETFs, and stocks of gold mining companies.
First, there is a wide range of trading instruments available, all of which are easily accessible through online trading platforms. Retail investors with varied levels of capital can enter this market, unlike other investments, which require large capital resources. The global gold market is characterised by strong liquidity, allowing traders to easily enter and exit their positions.
Finally, gold is seen as a safe-haven asset, making it an appealing addition to any balanced portfolio. In times of economic instability and geopolitical turmoil, it tends to keep its value and even appreciate. Consequently, while traditional markets come under pressure, gold traders can use their trading strategies to find opportunities from price fluctuations.
Advantages of trading gold
Gold has proven to be a reliable way to preserve wealth. While the price of gold fluctuates and occasionally experiences considerable volatility, the value and purchasing power of the precious metal has steadily increased over time. This is enhanced by the consistent demand for gold, which stems from its use in the production of jewellery as well as industrial and technological applications.
Gold is universally recognised and holds its value regardless of a specific currency. It has historically served as a solid hedge against inflation and currency devaluation, both of which erode not only investor gains but also general purchasing power. When the stock market is in turmoil and cash is losing value owing to low interest rates, gold can become an appealing asset class for investors, offsetting losses in other investments.
Because gold is highly liquid, buyers can quickly locate sellers without significantly impacting the price. This is significant because it reduces transaction costs and gives traders and investors confidence that they will be able to enter and exit positions quickly. Even the physical gold market is liquid, as it is not difficult to find a buyer.
Gold is an excellent diversification tool that can help minimise overall portfolio risk. It has historically had a negative correlation with stocks and bonds, but it can outperform the stock market at select periods, such as when there is widespread risk aversion.
Trading gold is accessible to retail traders and institutional investors alike. The large range of available financial instruments, including CFDs, stocks, and ETFs, as well as the multitude of available online trading platforms, enable traders worldwide to engage in the market, regardless of an investor’s portfolio size or risk profile.
Disadvantages of trading gold
Although gold prices rise in the long term, they can be highly volatile in the short run, driven by news, data releases, and economic and geopolitical events. Trading gold requires careful risk management, especially when using leverage.
Gold, unlike stocks and bonds (and even cash), does not produce a yield or dividend. Aside from the potential for capital appreciation, gold does not generate additional income for traders. As a result, investors who value regular, consistent income streams may find gold trading less enticing, particularly in periods of price consolidation. Returns might be low during “risk-on” periods when investors flock to riskier assets.
Investors who choose to retain physical gold in the form of bars or coins must provide secure storage facilities or invest in safe deposit boxes. These storage costs can cut into the overall return on investment.