How to Trade GOLD like a PRO!

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Quantitative Trading and Edge Discovery: GOLD


Since I launched my free Algotrading Masterclass I’ve got some interesting requests on my email inbox, most of them about how to analyze financial assets effectively, this means, in a manner unrelated to Technical Analysis, using a Quantitative approach.

As you may now by now, I defend simple edges, and giving the fishing rod instead of fish, in this article, you are going to learn a couple of secrets about trading gold, some of them may be available online on other pages or even books, some of them are mine.

We are going to take a full dive into how a commodity like Gold (XAU/USD) works using various methods, like time series analysis, seasonality and further more.

If you are a discretionary trader, be free of all prejudice and we shall begin.

Who Trades Gold Futures?

The first question you should ask is who is behind the largest movements of Gold, since the largest group is the one moving the price, both in the Futures market and in ETFs.

Gold XAU Commitment of Traders Report
Gold – Commitment of Traders – Report

Unlike other Futures like Soybeans, which are dominated by producers and other commercial participants, we can see that Gold is mostly dominated by Swap Dealers (Market Makers) and Managed Money (Mutual Funds, Hedge Funds, CTAs).

This all along creates an interesting market, since the most active trend-following participants are Fund Managers.

When a market is dominated by those, it tends to follow a pattern based on risk: Risk On – Risk Off.

On a Risk Off Scenario basis, where Financial Markets tend to drop several points on day, surpassing some-times more than 2 Standard Deviations on their return, Gold tends to do the same, it is commonly believed that gold is a safe haven for risk, but that’s wrong due to this nature.

On a Risk On basis, this asset tends to be independent of the rest of the markets, since it is an hedge for Inflation.

Knowing this fact, we can go further on with our analysis.

Seasonal Trading Analysis

The seasonal component on a time-series is probably the most important one, even more than the trend, since we can extract dozens of patterns in the blink on an eye.

We can categorize almost everything on a seasonal basis, let’s start with the average return per Day Of Week.

Gold Seasonal Analysis - Trading Seasonality
Gold – Day of Week Seasonality

At simple glance we can see an interesting pattern: Buy on Friday – Short Sell on Monday.

Something as simple as that, can eliminate the market noise produced in the last decade and a half, due to being the rest of the days classified as pure noise as we can see, just a random walk movement.

This is completely normal, due to the fact that macroeconomic news and data tends to be released always the same day of the week for each data, i.e: Non Farm Payrolls.

Gold Monthly Seasonality
Gold Monthly Seasonality

Also we can check some interesting months calculating the total return of each one, I’m currently writing this at the end of February, and I’ll look forward to any chance to short Gold the next month.

Applying Seasonal Analysis to our Trading, as you see, requires some basic knowledge to avoid random months.

Returns Distribution

Another interesting thing about gold, is understanding the returns distribution, since its going to tell us interesting things about the movement of this market.

Mean: 1.000386531411018

Gold Daily Returns Distribution
Gold – Daily Returns Distribution

Gold tends to have an interesting distribution, since it haves a positive mean but more down days than up days on a normal risk basis, therefore, we can extract some ideas. It tends to be bullish but has a lot of small losing days.

What if we open a long position after we have a couple of down days?

Gold Mean Reversion Trading Edge
Gold – Mean Reversion Strategy

A very simple edge indeed with decent returns, since it beats the underlying asset in terms of risk but not in return, anyway, it can be filtered and maybe using some leverage.

As you can see, simple strategies can be very profitable trading this asset, using mostly statistics, nothing fancy about technical analysis, which, as you may know, I’m quite a detractor of it myself. Simple edges still work, we can trade Gold each Friday and beat the odds and the asset, more returns with less risk, and it is still working after all of these years.

Hope you liked this article.

Víctor – Follow the Edge.