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The Bullion Report

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November 17, 2010 in 'The Bullion Report'

The Gold-Silver RatioThe Gold-Silver Ratio

11-17-10

The Gold-Silver Ratio


The gold-silver ratio is among the many tools and topics that investors take a hard look at when it comes to precious metals. There are several moments in time that the ratio was made a permanent force by government decree. Even in modern trading, the ratio has a home in certain trading strategies. With both markets playing with record highs, it is worth explaining and exploring the ratio between these two markets.

 
Past performance is not indicative of future results.
***chart courtesy Gecko Software’s Track n’ Trade Pro

 
Past performance is not indicative of future results.
***chart courtesy Gecko Software’s Track n’ Trade Pro

The gold-silver ratio is pretty straightforward math – to determine the ratio, look at how many ounces of silver it takes to buy a single ounce of gold. If gold were trading around $1,000 an ounce and silver around $20 an ounce, the ratio would be 1,000 over 20 or 50:1. The result is that a higher ratio is seen as a signal for cheaper silver versus gold and a high ratio signals more expensive silver. Older references regarding the mining resources for silver suggest that there is roughly 16 times more silver to be mined than gold, which sets up the older ratio valuations from countries like France, the US, and Great Britain. Today, the values for both metals are obviously constantly changing, but adherents to trade strategies based on this ratio look at historical references for potential trading opportunities.

Coinage acts in the United States during the 18th and 19th centuries placed the gold-silver ratio in the neighborhood of 1:15 or 1:16. When the bimetal standard was dropped, this shifted and the ratio has drifted high and low in subsequent generations. Events like the Great Depression, the implementation of Bretton-Woods, post-war prosperity, dropping of the gold standard, the Hunt Brother’s manipulation, and other price extremes in precious metals have been cited as significant shifts in the ratio.

Trading strategies based on the gold-silver ratio look at these previous ratio levels as possibilities for extremes which might present opportunities. Basically, if it takes fifty ounces of silver to buy one ounce of gold at one point, an investor who thinks the ratio may expand would look to sell or be short silver-related assets. There is still a substantial level of risk in the trade, and it would be based on the ability to correctly identify an opportunity in the ratio and the potential for a future shift. Trading the ratio can be done through various investment outlets. Some bullion bugs trading the ratio may do so without regard to the actual prices. In the same example, if an investor believed the ratio would expand from 50:1, they could convert 50 ounces of silver to one ounce of gold. If the silver price dropped and the ratio grew to 100:1, the same investor could convert that ounce of gold to 100 ounces of silver.

Using an average price for each precious metal, a chart of the gold-silver ratio over time might look a little like this:
 


Past performance is not indicative of future results.

To ratio traders, the suggestion of this chart is that extremes run the gamut from around 16:1 to nearly 100:1. The last decade has frequently produced numbers around 50:1 or 60:1. Therefore, any divergence from this could be viewed as a potential trade.

Summary


The gold-silver ratio is obviously another tool that can be employed by investors looking for particular signals when trading precious metals. The current analysis suggests that when compared to the rest of the decade, a ratio above 50:1 means greater opportunities in long silver positions. However, the extreme volatility seen as of late might mean the ratio has room to expand. There are also the recent lawsuits regarding silver price manipulation to consider. Most importantly, the current recession has yet to push towards a tangible recovery. This means that silver could still be highly susceptible to larger price movements to the downside as it is used in both industry and investment. The precious metals investment expansion could still see strong demand this year and next. The manufacturing industry might not. That means there is a possibility of a fundamental weakness in silver markets that needs to be accounted for when looking at the gold-silver ratio. If gold can retain its strength or outperform silver at any time, the downside pressure in the silver market might easily deliver another spike in the gold-silver ratio.

For your FREE gold trading kit, call us.

It means that the silver coins of the United States at whatever ratio is fixed, and I want the present ratio that we have now, 16 to 1, maintained precisely as it is. -Richard Parks Bland


Disclaimer: The prices of precious metals and physical commodities are unpredictable and volatile. There is a substantial degree of a risk of loss in all trading. Past performance is not indicative of future results.