In Excell with Options, I have looked at what is driving the move in gold prices before. Having traded gold for multiple decades, there has always been some link or tie to real rates around the world as an anchor for where gold should trade. Yes, it may vary from that, but when the moves get large, one must ask how long that can last. The top chart shows the GDP-weighted global real rates and how Gold futures price has become dislocated from those rates. This should give traders some pause. However, it also must encourage a trader to look at what could be driving gold if it is not rates. The second chart above shows an interesting relationship that begs further questions. It overlays the U.S. trade deficit with Gold futures price and shows a pretty tight fit over the last 15 years. Why might this be? On one hand, as the U.S. generates a trade deficit, it also generates a capital surplus, which means all of the trading partners of the U.S. will receive dollars. Historically, these dollars get recirculated back into the U.S. economy. The move to gold, however, may suggest that U.S. trading partners are preferring to increase the allocation to gold as these dollars accumulate. Over the past decade, according to the World Gold Council, several countries have substantially increased gold holdings. In particular, Russia, China, Turkey, Poland and India have had the largest increases in gold holdings. With the new U.S. administration using trade deficits as the catalyst to institute tariffs on several countries already, is there reason to think trade deficits may start to reverse? If this is the case, will several countries no longer have dollars to use to increase the gold holdings within the FX reserves?

It then makes sense to look at the intraday performance of the metals markets on the days around the announcement of U.S. tariffs on Canada, Mexico and China. In the chart above, I have highlighted the Friday and Monday price action before and after the tariffs. It is interesting to see all of the markets respond negatively on the Monday after. In the subsequent days, gold recovered its price and moved to new highs; silver was volatile but looks to be breaking down. The strongest of all moves is in copper, which has moved higher in a straight line from the lows at the start of trading on Monday. There is much to be learned from how markets respond to news flows.

Turning back to the price of gold and various countries' behaviors, another potential driver of gold is the concern of central bank balance sheet growth and the potential for inflation and debasement of currency. To test this idea, I looked at the balance sheet size of the four largest central banks – Federal Reserve, BOJ, PBOC and ECB – relative to gold. I lag the balance sheets by two years because there is a lag in the change of the balance sheet and the impact of the market. This has had an impact over the last 10 years. However, for several years now, central banks led by the Fed have been reducing the size of their balance sheets. However, traders have yet to see the impact on gold. Is this a potential risk to gold markets?

Stepping back, I want to look at the price action on a daily basis over the past year for the main metals markets of gold, silver and copper. In the top chart, one can see that gold is clearly in an uptrend, at the all-time highs, with both the 50 and 200 day moving averages trending higher. The middle chart shows that silver is struggling to break out above the Ichimoku Cloud. The MACD has started to turn lower as well. This starts to look like the silver market may churn and be directionless in the near term as bulls and bears battle at this Ichimoku Cloud level. The one metal that is clearly breaking out and has a positive technical picture is copper. The third chart shows the move in front month copper above the Ichimoku Cloud on both a price basis and a lagging span basis. The MACD is turning higher, suggesting the trend is turning. I have added a second chart on copper to show it has also broken above the trend line. A measured move suggests price could get to as much as $570.

Moving to the volatility markets, I wanted to check the trend in implied volatility and skew to see if any clear patterns emerged that suggested what options idea might make sense. The top chart looks at CVOL for gold, silver and copper. Copper consistently has had a lower level of volatility while silver has had the highest. Gold plugs along in between these two levels. While the relative levels are interesting, I also want to look at the current level versus its own history. On this basis, while all levels are below the average for the last year, the levels are also not at the lows of the last year either.  Turning to the skew ratio, or the ratio of upside variance to downside variance, I want to see if traders prefer upside or downside options. For each product, there seems to be a slight preference for upside, perhaps most obvious in silver markets. It is not entirely clear, so I want to find another view to dig in more.

In QuikStrike, I can dig deeper by looking at the implied volatility by strike for each of the markets. For each market, I look at the daily options for the coming week. With CME Group, there are options expiring Tuesday through Friday and you can see that in the expirations I have chosen in each product. I can quickly cycle through and see if any particular day has a bias toward certain strikes. For simplicity, I am showing the Friday, February 21 expiration for each product to compare and contrast. For gold (top chart), you can see the implied volatility is very symmetric around the at-the-money, indicating no strong preference for upside or downside. For silver (middle chart), the view is quite different. There is clearly a strong preference for upside options, as implied volatility is higher for every strike as you move away from the at-the-money to the upside. In copper, it is different again, as the closest to at-the-money puts trade flat to a small discount, suggesting if futures move back inside the range, implied volatility may come in. There is a bid to the upside, but maybe not what one might expect given futures look to be breaking out after struggling for some time.

In order to demonstrate the different ways to play the different markets, and to showcase the different expirations in the metals, I am showing you three very different strategies. Each can be considered bullish, but each has very different characteristics. In the top chart, I simply show long calls expiring on Friday, February 21. With the copper chart looking most bullish, copper implied volatility the lowest of the three metals, and no strong implied volatility bias in either direction, long calls were the easiest and cleanest option strategy. The benefit of this strategy is the leverage to the upside move it provides. The risk is the premium paid for the option and as these are short-dated options, it becomes an instant gratification trade.

The middle panel has a 2950/2975 1 by 2 ratio call spread in gold, expiring on Thursday, February 20. Some traders will trade this as a stand-alone bullish idea. I have constructed it to take in some premium so if futures prices move lower, the trader still makes money. The maximum P&L is at the short strike of the two options or 2975. There is risk to the trader if futures move above the upside breakeven around 3000. Above this level, traders would lose money on a 1 to 1 basis. This is why I hesitate to use ratio call spreads for directional ideas unless the bullishness is nuanced. I think one can make the case for that right now as tariffs to reduce trade deficits could hurt gold. One way I really like 1 by 2 ratio call spreads is to lever an already long underlying futures position. In this case, if futures move above the breakeven at 3000, I simply get taken out of my futures. If futures move higher but stay below, I make more money than simply being long futures. In the worst case where futures move lower, I would lose no matter what if I was long, but since this spread takes in the premium, it reduces the basis a little bit.

The last strategy is a jade lizard in silver, also on the Thursday, February 20 expiration. This is another bullish idea but one where the trader does not mind buying if there is a pullback in futures prices, and where the trader really thinks prices do not move too much higher in the near term. Given the silver chart suggests some potential churn, that may be the case. The jade lizard is composed of selling a cash-secured put and selling a call spread. The strikes I use are an at-the-money put and an out-of-the-money call spread. The difference in strikes is $1. The total premium taken in is more than $1, so even if futures move above the higher strike, the premium taken in covers the loss. If futures move lower, the trader gets long at $1 less than the at-the-money, the breakeven on the downside. If futures drift higher, and end between the put strike and the first call strike, the trader can take in the full premium. A drift higher is the best case outcome.

Three different charts, three different options ideas, multiple different expiration dates for traders to choose from. Options can be used to customize the traders view and daily expirations allow for even more customized strategies.

Good luck trading!

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