By Jodie Gunzberg, head of commodities indices, S&P Dow Jones Indices.

Jodie Gunzberg, head of commodities indices, S&P Dow Jones Indices.

In light of the gold buying tradition for the upcoming Diwali festival in India, many might be wondering how valuable their gifts may be based on the price of gold. Several factors influence the price of gold that make timing gold as an investment difficult; however, now there might be upside potential for gold, especially since its volatility is so low.

Currently, the 90-day annualized volatility (ending on 10 October 2017) of the S&P GSCI Gold Index is 12.3%. It has been hovering around this level since July and is at its lowest since August 2005. Though 12 years is a long time, when gold’s current volatility is compared with its volatility during past Diwali celebrations, one needs to look all the way back to Diwali 1996 to find lower volatility. In all of gold history since 1978, the 2017 Diwali period exhibits the sixth lowest volatility on record and is only higher than levels observed in 1991, 1992, 1994, 1995 and 1996, denoted by the vertical lines in the chart below.

Source: S&P Dow Jones Indices.

Like other factors in isolation, the low gold volatility does not have strong predictive power over future gold price moves. However, when gold had big losses of more than 30% in one year, there was always greater than 30% volatility.

Source: S&P Dow Jones Indices.

On the other hand, low gold volatility has been present when big positive returns of more than 40% in one year have happened. Interestingly, big returns have also happened when the gold volatility was very high. Though, when gold volatility was moderately high in the 25–40% range, it never returned more than 40% except in 1979 when gold returned 263.3% from 19 January 1979 to 21 January 1980 with 90-day annualized volatility of 32.6% (the data point was removed for scale).

Source: S&P Dow Jones Indices.

Based on the history, it seems there may be more upside potential than downside risk for gold with its current low level of volatility. What may be more important though is how solidly gold has provided diversification from equities. Given the historically strong bull run the stock market is having, if the market has corrected as it has in the past, some gold as protection may be useful.

Other factors to watch for moves on gold are the US dollar, inflation, GDP growth and interest rates:

Gold rises on average about 3% for every 1% the US dollar drops, but gold still holds up, gaining about 20 basis points for every 1% rise in the dollar (using year-over-year monthly data from December 1986 through June 2017).

Gold is also sensitive to inflation, moving on average about 5.9% for every 1% US CPI moves and about 4.5% for every 1% Chinese CPI moves (using year-over-year monthly data from August 2007 through August 2017).

Gold gains significantly more with decelerating economic growth in the US and UK (in-line with the diversification), but gains more with accelerating growth in emerging economies like China (using annual year-over-year data from 1978 – 2016). In the US, gold rises on average 7.7% when GDP growth falls 1%, but gold loses on average 1.4% for every 1% of rising GDP growth. In the UK, gold rises on average 6.3% when GDP growth falls 1%, and gold also rises on average 1.3% for every 1% of rising GDP growth. In China, gold rises on average 2.1% when GDP growth falls 1%, but gold rises more on average, gaining 3.2% for every 1% of rising GDP growth.

Gold rises on average 27.7% during rising interest rate periods (using monthly data from January 1978 through February 2017).

The bottom line is that there may be more upside potential for gold given its low volatility, in conjunction with several other factors in question like continued dollar strength, economic growth, rising inflation and interest rates.