How the price of gold is determined
Shining, precious and highly valuable. We know that gold is valuable, but do you know what really contributes to the gold price? In this article, we examine the various factors that go into the pricing of gold.
“What is the price of gold?”
It seems like a simple question, but the answer depends on several factors. That’s because gold is used in so many ways. It’s sold as a retail product in the form of bars and coins. It is used in jewelry and is a key component in many electronic devices. You can even find it in food in the form of gold flakes!
Indeed, there are certainly many aspects of everyday life where you’ll find some use for gold. That’s probably why the demand for gold hasn’t decreased even after it stopped being used as a currency for trade. Gold remains as precious as ever today, and perhaps even more so given how many more uses we’ve found for the metal.
“Buying gold” isn’t limited to buying physical gold bars or coins. Gold is also traded on the stock market as an asset. So, there are many ways to buy gold. You can purchase the metal itself, buy into gold funds, or even try to lock in a price for gold by using a gold futures contract.
The Historical Context Of Gold Prices
Throughout Mankind's history, gold has been considered a store of value. Ancient Egyptians, Greeks, and Romans all valued gold for its rarity and unique sheen, using it to anoint their rulers and in various forms of worship to their gods.
Chests filled with gold coins and bars were literally the treasures adventurers would risk their lives to hunt for (and make their fortunes on). And of course, the fortunes of a kingdom could almost literally be defined by the amount of gold they held, which is why we have the saying “Worth its weight in gold”. Gold trading was and still is big business.
The rarity and durability of gold meant it was one of the few items that were universally accepted across the world. Countries across the world minted their own gold and silver coins and bars as currency, so in those years, gold was the measure by which everything was priced.
As governments moved to printing fiat currencies, gold became the backing by which these notes held value. During the period of the Bretton Woods agreement, every printed US dollar had to be backed by an equal amount of physical gold, at a rate of US$35 per ounce. All other currencies would maintain a fixed exchange rate to the US dollar. So gold was again the underlying measure of price globally.
It was only in 1971, when the United States announced that it would no longer convert US dollars into gold, that gold started being traded freely on the world's markets again. While fiat currencies have replaced gold as the main vehicle for transactions today, the universal value of gold means gold is still an important store of value today.
Thus, central banks and financial institutions still maintain healthy reserves of the metal as a hedge against inflation and economic uncertainty. This can be seen as recently as this year when Singapore's central bank moved to increase its gold reserves by 69 metric tons.
Factors affecting the price of gold
As with all precious goods, supply constraints will always be a major factor affecting price on the global market. The World Gold Council estimates that, as of the end of 2021, a total of approximately 197,576 tons of gold have been mined throughout human history. While that may seem a lot, if you gathered all the gold ever mined in human history, you’d get a cube that only measures just 21 meters long on each side. Not that much; considering it’s for the entire world.
Thus, two major factors of the gold price are mine production and the recycled gold supply. If new mines open, or existing mines have much-increased output, then supply increases and prices may fall. Conversely, lower supply means prices will likely increase.
On the demand side, economic instability and geopolitical risks tend to drive up gold prices as people consider it a safe haven asset. The purchasing power of gold tends to increase over time, so it is seen as a good hedge against inflation, because unlike fiat currencies, you can’t just print more gold. When inflation occurs, gold will hold its value, because it will cost more dollars per ounce to purchase.
Because gold tends to have a negative correlation to assets like stocks and bonds, there is also investor demand as they seek to balance out market fluctuations. As we mentioned above, central banks also factor into the demand for gold, especially when they increase their holdings during periods of instability.
Demand for gold to use in production for sectors like jewelry and electronics will of course, also play a factor as these companies join in with bids for the material.
Understanding the markets for gold
The two primary forms of gold trading in the wholesale market are over-the-counter (OTC) and on exchange.
The OTC market typically sees participants trading directly with each other. Buyer and seller agree on a price and determine the conditions of the transaction. For example, if the gold will be shipped to the buyer for immediate delivery, or if the buyer has to collect it from the seller's vault himself. The transaction could even be settled in terms of other precious metals rather than cash. OTC markets offer more flexibility but also lack a degree of transparency as trades can be executed anonymously.
Exchanges on the other hand, are generally regulated platforms that centralize and intermediate transactions between market participants. They can offer both spot and futures trading for gold. There is normally a central order book on which market participants register their buying/selling interest. Counterparty risks are transferred to a central counterparty (CCP) through the process of clearing. Exchanges typically offer highly standardized contracts in return for greater operational and capital efficiency.
Three main prices for gold to note
There are three main prices to reference when considering the price of gold.
Spot price: This is the theoretical price for a set weight of gold (typically measured by troy ounces or the gram) before it is refined. It changes according to supply, demand, and currency strength. There are several major gold markets worldwide, and they all have their own spot gold prices. So, the bullion dealer will likely refer to the current spot price from the gold market that's operating at the time of asking.
Fixed price: These are benchmark prices by major organizations like London Bullion Market Association (LBMA) and Comex, and are set twice daily, at 10:30am and 3pm UK time. The LBMA gold price for example, is determined via a series of 30-second electronic auctions between 15 accredited market participants.
Participants will place their buy/sell orders, and the system will check the difference between buying and selling bids to see if it falls within the imbalance threshold. If it does, then the auction is finished and the price is set. If not, the price will be readjusted, and the process will begin again.
The final auction prices are published to the market as the LBMA Gold Price AM and the LBMA Gold Price PM, respectively.
Futures Contract price: This is a price that buyer and supplier agree to set for a specified weight of gold to be delivered at a specified time and date. Gold futures contracts are generally bought on dedicated, regulated exchanges.
Time and location also affect the price of gold
These factors will also come into play:
Time – The spot price of gold will also be different depending on the time of asking. When you ask for the current market price, the bullion dealer will likely get the most accurate rate by referring to the exchange market that's open at that time. Given how actively the market trades, this can literally change by the second, hence "spot" price.
Location – Like anything you buy in the market, the price of gold will vary depending on who you buy from. There are several large gold wholesalers around the world, and each will have different prices for their gold. The physical distance of the gold from the buyer may also mean extra incurred transport charges. Depending on where the buyer is, local taxes and import duties can also come into play, as different countries have different regulations.
Determining the Live Gold price
Now, when you ask for the price of (physical) gold from a bullion dealer, you'll understand why the reply tends to be something like: “3.5% over spot”. Spot gold price is the basis on which the gold is priced, and that's almost literally determined in real-time. The bullion dealer doesn't have control of the spot price; he chooses which spot price to reference and sets his price relative to it.
In conclusion, the price of gold in the market will depend on the market's demand for gold, which is greatly affected by supply as well as economic and geopolitical stability. Then, you'll also have the price you get from a bullion dealer, which is further determined by the spot gold price at the time of asking.
If you're in Singapore, you can always stop by our shop for advice on the price of gold while browsing our collection of gold bars and coins. Whether you're buying or selling, prices on our online store factor in the live gold price, so that's another way to get a feel for the current price. You can also reference the World Gold Council's pages for a gauge of the current price per troy ounce, and historical data.