One of the very first questions that most gold buyers ask is how the price of gold is actually determined. It seems like such an arbitrary number when a spot price is listed.
In reality, though, the price of gold is the product of the exact supply and demand for the precious metal. The elements that make up the actual price/value of gold are not all that difficult to understand and make plenty of sense once you give them some consideration.
Stocks and even other commodities can feel like some sort of mysterious, intangible items that are hard to pin a value on. With gold, you have something that is actually physical and can be held in your hand. This is where you need to start when understanding how the value of gold is determined.
If you look in the Bible or any other type of text from hundreds or even thousands of years ago, you will probably find that items were bought and sold with coins, almost always made out of gold or silver.
It was only in relatively modern times that paper money was implemented to replace the metals themselves. So, then the question is: why did gold have value in the first place that people actually wanted it? The answer to this question has a few parts…
1-Gold is naturally scarce
2-Gold can not be artifically reproduced
3-Gold is durable and divisble
4-Gold has actual uses
These are the fundamental factors in any real currency. They are the reason that gold has value and also the reason why so many paper currencies have failed over the years. The original premise of using paper money vs. actual gold was for its ease. It was easier to trade paper than to weigh and trade metals.
Once someone (usually governments) is able to produce that paper with nothing to back it, the paper loses value. This is why the gold standard was used to back the USD for many years, and the reason why since the removal of the gold standard, the USD has lost a substantial amount of value.
Now that you know what makes gold valuable in and of itself, you will need to next understand what causes changes to the price of gold, on a daily, weekly, monthly, and ongoing basis.
Economic Factors
Economic factors play the primary role in the pricing and valuation of gold. With that said, most economic factors are actually a product of other elements, such as global events (which are outlined below). When a country is in economic disarray as the United States was from 2008-10 (and largely still is), the value of gold will go up.
The reason for this is because gold is seen as a precautionary and protectionary measure. You do not necessarily buy gold because you think that it will rise in value, but instead because you don't want to lose the value in your existing assets.
Decreased worth and trust in major would currencies, mainly the USD and Euro (amongst others), will invariably lead to a spike in gold. When investors and everyday citizens become worried that their paper money is losing value, they will buy gold for all of the reasons listed above for why gold always has and always will have value.
Global Events
Global events tend to work hand-in-hand with economic variables. For example, the earthquakes in Japan through 2011 and the ensuing disasters played a significant role in the valuation of gold.
In addition, the death of Osama bin Laden signaled one of the worst single days for precious metals in the entire year. Analyzing these two critical events and the impact they had on the prices of metal is an easy way to understand how global events can play into the pricing of gold.
In the case of Japan, the USD was actually strengthened as a result of the chaos. As a result of the USD becoming stronger, metals naturally went on a decline. When faith and trust in a primary paper currency is increased, the value of metals drops. There is always a correlation between currencies and metals.
When Osama bin Laden was killed, the US had a major upswing on the stock markets, but gold found a dive. Public perception plays an extremely vital role in the pricing of all commodities, and gold is certainly not an exception. While the country was high on progress, it pushed safe havens like gold to the side, but this only ended up lasting a day.
The best way to gauge how you can most effectively benefit from economic and global events is to buy when others are riding the hype. If a sensational event is taking place, but it should only realistically have relatively short term impact, this would be indicative of a great time to buy.
When gold is hitting all time highs and is all the rage in the media, you might wait a bit until it cools off. Of course, buying with positive waves is also a winning strategy. In the end, make sure that you analyze and make your purchases with a clear, well founded logic. Don't buy on a whim, and remember that just because everyone else is doing it, it's not necessarily right.
