Is It Gold's Time to Outshine the Stock Market?

Even as the Dow Jones Industrials keeps moving to new record levels, gold soared yesterday, showing new signs of life.

Jun 20, 2014 at 12:30PM

A 36-point gain as of 12:30 p.m. EDT Friday has put the Dow Jones Industrials (DJINDICES:^DJI)  on track to set their 11th all-time closing high of 2014. After a sluggish start to the year, the blue-chip index has put in solid gains during the second quarter. For gold, the story has largely been the opposite, as the yellow metal started 2014 with surprising strength that slowly eroded over time. Yesterday, though, the SPDR Gold Trust (NYSEMKT:GLD) soared by 3.5%, as spot gold climbed more than $40 per ounce in its best-performing day of the year. As investors become nervous about the sustainability of the Dow's bull market, some wonder whether it's gold's turn to push higher.

^DJI Chart

Dow/gold data by YCharts.

How the Federal Reserve affects gold
Most investors pointed to the Federal Reserve's pronouncement on monetary policy on Wednesday as a major catalyst for yesterday's jump in gold prices. Going into the month's meeting of the Federal Open Market Committee, many market participants had looked at signs of accelerating economic growth and rising price pressures as increasing the chances that the Fed would begin to tighten its monetary policy sooner than it had expected. Yet Fed Chairwoman Janet Yellen stuck to the same script that the central bank has used for months, once again highlighting the extent to which it would support the economic recovery by keeping interest rates low.

Low interest rates are a positive for gold investors for two big reasons. First, traders who finance their gold positions with short-term loans pay less in interest on their borrowings when rates are low, and that encourages them to hold their gold assets rather than closing positions to save on financing costs. Second, low rates make alternatives to gold look less attractive, as some investors might choose bonds or other fixed-income investments instead if they offered better returns in a higher-rate environment.

Gold And Silver

Image sources: Wikimedia Commons; Creative Commons/Armin Kubelbeck.

An uncertain world
Gold investors often seek to raise their holdings of the yellow metal during uncertain times, and hot spots in Iraq and Ukraine have refocused investor attention on the potential for conflict in key areas of the world. With the U.S. considering just how deeply it wants to get involved in Iraq's internal conflict, and with Russia using an on-again/off-again strategy in relation to its threat level with troop placements around Ukraine, several choke points could send investors scurrying for cover. Those same threats could send the Dow Jones Industrials sharply lower, giving those who chose gold instead a doubly sweet reward.

Unfortunately for gold investors, we have seen many of these factors before, with price spikes proving to be temporary. From a longer-term perspective, few market participants doubt that interest rates will rise at some point, and there's no guarantee that geopolitical conflict will escalate. With a big part of yesterday's gains coming from short-term traders watching technical indicators, there's little evidence thus far that fundamentals of the mining industry are supporting higher prices in the long run.

Gold has performed well so far this year, and yesterday's spike might well lead short-term-minded gold investors to buy in hopes of seeing the metal move to new 2014 highs. Still, as the Dow Jones Industrials keep setting records, gold remains hundreds of dollars per ounce below its best historical levels -- and that's likely to remain the case for the foreseeable future.

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Dan Caplinger has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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