There’s a better way to trade the gold rally

There’s a better way to trade the gold rally

There’s excitement in the air…

The forecasts are coming out…

People are jumping on the bandwagon…

The fear of missing out has kicked in…

Gold is up and people want in.

But is that really where you should be putting your money right now?

Where to from here?

Gold is up 5% in four trading days.

Okay, 5% doesn’t sound like much.

But for the yellow metal, that’s an enormous jump.

Let me put it another way. In the past four days, gold has moved US$70 per ounce higher.

It rallied from US$1,340 to US$1,407 by the close of US trading hours on Friday last week.

Not only that, but it broke through a bunch of key technical support and resistance points along the way.

In other words, the straight-through run up to US$1,400 is a very bullish sign.

So much so that I have been inundated with messages from friends who also follow gold, telling me about it.

I spent most of the weekend fielding questions like this from them:

Where do you see it going?

Should I buy in now before I miss out?

And I’ll tell you what I told them.

These types of gold rallies tend to make me a little nervous.

I know, right? What a crazy thing for a gold bull to say.

But hear me out.

A massive gold rally like this — one that breaks old patterns — has no technical support for when a selloff occurs.

Meaning, a straight line up could mean a straight line back down, too.

What I am expecting in the next week or two is, hopefully, a selloff. Believe it or not, a little bit of steam coming out of this rally makes it more sustainable than if it keeps going up in a straight line.

So, here’s my prediction of what we might see as July rolls around…

I reckon the yellow metal is going to take a stab at US$1,415-$1,430. That’s a good level. It’s an attempt to reach a price not seen since September 2013.

After that, get ready for a selloff…down to the US$1,360-$1,370 mark.

Maybe even a spike down into the US$1,350s…

But if the yellow metal bounces off those prices and moves higher, then buckle up. This rally has legs.

As for loading up on gold?

Right now, there might actually be a better strategy to play the gold rally.

The ‘other’ precious metal

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The thing is, when you’re a gold bull, everyone assumes you’re just a gold bull.

Yet silver is also a precious metal. And a crucial one at that.

Silver is in every electrical device you use.

You’ll find it in car engines, surgical products, antibacterial devices, water purification systems, cameras, solar panels, mirrors and windows.1

Teeny tiny bits of the grey metal are found everywhere in your life.

Yet, silver prices aren’t rallying at the moment. In fact, as gold rallied 5%, the silver price moved up only 2.3% in return…less than half of the gold price gains.

Why is one precious metal rallying and the other is barely budging?

Well, right now, silver is behaving like a commodity rather than a precious metal.

The biggest drag on the silver price today is that the price performance of silver is tied to global growth.

Industrial use of silver accounts for 60% of consumption of the metal, against 10% of gold in industrial demand.

So when global growth slows, or is forecast to slow, that means the demand for silver will decline.

That’s why analyst say silver is behaving like a commodity, as its price is reacting to news of global growth or decline. When the grey metal reacts to financial instability, that’s when silver will be behaving like a precious metal.

The problem is, predicting silver’s ‘switch’ is actually very hard to do.

Historically, silver seems to surge out of nowhere and spike higher, and then the price collapses once again. This makes it difficult to benefit from it.

However, there is one tool you can use to help forecast the ‘switch’ playing out…

How to trade the ‘switch’

The gold to silver ratio is simple.

It simply means asking: How many ounces of silver would it take to buy one ounce of gold?

As of this morning, the gold to silver ratio is reading 91.

Now let’s put that number into context and see what that tells us about the silver price.

If we go way back to Europe in the Middle Ages, the gold to silver ratio sat around 12 to 1. So 12 ounces of silver would buy you one ounce of gold.

By the 19th century, the French had developed a formal bimetallic monetary standard, and that was 15.5 to 1.

When a more formal global gold standard was put into action in the 20th century, silver lost out and dropped down to about 30 to 1.

However, when former US president Richard Nixon took the world off the gold standard — when he delinked the US dollar from a gold backing — the gold to silver ratio moved freely. And the long-term average since 1971 is 58.

In other words, over the past 48 years, it has taken an average of 58 ounces of silver to buy one ounce of gold.

Silver looks cheap compared to gold

Knowing how the gold to silver ratio works makes you a better bullion investor.

While it’s a clunky tool, it can be useful to point out times when the silver price movements aren’t keeping up with gold price movements.

Now, with the gold to silver ratio sitting at 91, that signals that the yellow metal gains have far outpaced silver, meaning silver is looking like the cheaper option when compared to gold.

Tracking the ratio will enable you to help take advantage of the ‘switch’ (when silver stops acting like a commodity and starts trading like a precious metal).

Perhaps the way to play the gold rally isn’t to rush out and buy physical gold…

…but start off with silver and then ‘convert’ those silver ounces to gold when the ratio falls back to the long-term average.

Until next time,

Shae Russell Signature

Shae Russell,
Editor, The Daily Reckoning Australia

1 ‘https://www.bullionvault.com/gold-news/infographics/21-incredible-uses-for-silver’