Trading Gold Ahead of Election Day

Douglas is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Gold is one of the most dynamic asset classes on the market, as a result of the myriad of global macroeconomic influences that can drive its price. The commodity is considered a safe haven against political instability and general economic weakness, it is one of the top-used inflation hedges, and it is driven by classic supply and demand forces of its own. It is against these consistent factors that we can consider how to be positioned in gold heading into Tuesday’s election. With the election so close, it may seem pointless to get “prepared,” but given current polling data and the potential reaction, investors with existing positions should be aware of potential catalysts.

The Backdrop

After a healthy push by gold on the heels of the Federal Reserve’s announcement of QE3, the yellow metal has taken somewhat of a break of late. A positive report on PMI shows that the Chinese economy is strengthening; this has the potential to add stability to the global economy if China can sustain improved conditions. While this data – released last Thursday – did not immediately impact prices, it has the potential to put downward pressure on gold over time.

The news item that gold prices did react to was Friday’s U.S. jobs report. The release, which showed that non-farm payrolls added 171,000 jobs, beating the expected 125,000 increase, caused gold to sell off by $40; this was the largest single-day fall in the commodity this year. This “strong” report demonstrates that investors were looking for positive data, having ignored the reality that the overall unemployment rate ticked up from 7.8% to 7.9% and that these figures ignore both the underemployed and those that have given up looking for jobs.

In addition to the above global macro factors, two major gold miners – Barrick Gold (NYSE: ABX) and Newmont Mining (NYSE: NEM) – announced disappointing results this week, largely on ballooning costs. Barrick saw production fall by 7.7% and reported earnings of $0.62 per share against consensus analyst expectations of $1.00 per share. Newmont had earnings of $0.86 against expectations of $0.89. Of particular note is the fact that Barrick saw costs rise to $580 per ounce and Newmont saw costs rise to $693 per ounce.

The Election Impact

In general, a Romney victory is predicted to be a negative for gold, as he has promised to tighten fiscal policy and bring new discipline to the government. A tightening of fiscal policy would presumably be coupled by pressure out of the White House on the Fed to tighten monetary policy, targeting a reasonable level of inflation and some end to indefinite quantitative easing. One of the major catalysts for gold over the recent period has been driven by investor concern over the QE efforts of the Fed. Additionally, Romney is expected to be more active in defending the dollar against other currencies; a strong dollar tends to be bearish for gold.

While an Obama victory would allow the recent market forces to continue, presumably driving gold higher, that is not the nightmare scenario that would drive gold immediately much higher. Recent polls are showing that the two candidates are essentially tied in the polls. This harkens back to the Bush election where the country was forced to wait while politicians, judges and lawyers scrambled to decide who had really, or legally, won the election. Should such a scenario repeat, it will almost certainly lead to short-term economic uncertainty and a pop in the price of gold.

The Trade

While an orderly election, regardless of the winner, is not likely to have a lasting impact on the price of gold, any election issues may. If you wish to protect against this possibility, an allocation to the SPDR Gold Shares (NYSEMKT: GLD) will protect your portfolio. The gold ETF tracks the price of gold and is available in small enough denominations to suit the needs of most retail investors. Having an allocation to gold is advisable in all types of market conditions. The upcoming election may serve as a reason to begin building your position at current levels.

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