Gold and Silver Trade Ratio

Sentiments have drastically changed after the recent rout in precious metals. Large funds and investors are continuously pulling money out from the precious metals. Furthermore, with the improving global economy situation, precious metals have begun to lose its status as safe haven investments.

Money managers are raising their bearish bets on the precious metals while small investors are continuously pulling money out from the gold and silver backed exchange traded funds. Latest data shows that hedge funds and large speculators have raised their net bearish calls on silver futures contract to record high.

Precious metals are in bearish trend and with increased probability that Federal Reserve narrowing down their bond buying program, we expect this trend to continue in near term. Silver has already underperformed gold during recent fall in the market and its prices have fallen almost 27% till year to date while gold prices have fallen 17% till year to date.

Currently, silver is trading at very crucial support levels of $22 per ounce and if it breaks below this level then we may see a sharp correction in the metal prices. Gold is still trading $50 above the crucial support level and if it moves below that level, we may see strong physical buying coming from key Asian countries which is likely to provide support to gold prices. Central banks hold big chunks of gold and if there is correction in gold prices, we might see central banks boosting their holding. However, there is no such support for the silver.

In the near term, we most likely expect silver prices to underperform the gold prices in all the scenarios given below.

Case 1: If equity markets correct from current levels

Silver is the combination of safe haven and industrial metal and if there is correction in the equity market, then the silver prices are likely to fall along with other base metals due to the weakening demand prospect as industrial purpose. However, gold prices are likely to move higher on its increasing appeal as safe haven investment.

Case 2: If equity markets stay at current level

We may see correction in precious metals on increased probability that Federal Reserve may narrow down the bond program. In this case, we will see silver underperforming due to the reason mentioned above.

Case 3: If equity markets rally from current levels

In this case we may again see gold and silver falling and silver underperforming due to the same reason mentioned above.

The current gold to silver ratio is trading at 60.5 and till year to date the ratio has moved from 52 to above 60 levels.

The ratio is trending upward and trading in the upper range. From technical perspective the ratio is moving in ascending channel and is making higher high and lower low which indicates that ratio will move further up from these levels. We can go long in the ratio at current levels around 60.5 with potential target of above 64 levels and stop Loss at 58.

Trade Idea

To go long in Gold and short in Silver of equal value.

Current gold to silver ratio= 60.5.

We expect the ratio to come to 64-64.5 levels in 1-2 months.

Return= 5 to 6%

Expected Return

Margin Requirement on 1 Kg of Gold in MCX = 110,651

Margin Requirement on 30 Kg of Silver in MCX = 78,324

Total margin requirement = 1 lot of gold + 2 lots of Silver = 110, 651 + 2* 78,324 = 267299

Expected Return = (Return on ratio/ Total margin requirement) * 100 = (173223/267299) * 100 = 64.5%