Trading the Gold/Silver Ratio

One of the most important strategies I use in my investing/trading in current market conditions is to trade the gold/silver ratio. Heres a summary of how I do this:

1. Start with a high probability mindset. The bulk of my net worth (over 65%) is in gold and silver, so Im very careful in managing these positions. With my adventures in active forex trading, which I do off the daily or intraday chart, Im much more willing to have a high loss rate mindset ; in other words, Im willing to place many trades and lose more often than I win to find the big winners that more than make up for the losses. I view active trading and high loss rate strategies as designed for gaining income; my gold and silver positions are designed for maximizing savings that will be used for larger purchases (house, car, emergencies) and to save for retirement. When trading the gold/silver ratio — or put another way, trading my savings — I want to place fewer trades and be right as much as possible.

2. Trading the gold/silver ratio is predicated on the assumption that both will rise significantly in the years to come due to the ongoing global debt crisis, and that the gold/silver ratio will fall. A target gold/silver price ratio I have is 20:1 (a target I find to be fairly conservative); if that can be reached, Ill probably stop trading the ratio, and maintain fixed positions in both instruments until I believe the secular bull market in metals has run its course.

3. Trading the gold/silver ratio really means trading silver: I sell gold for silver when the ratio is high, and sell silver for gold when I believe the ratio is low. The amount of silver is 15%-40% of my total gold and silver holdings, depending on where we are on the ratio. Im not entirely trading by fixed rules here, as I allow for subjectivity, intuition, and my personal financial situation to play a role here. This is in contrast to my active trading for income, which is much more rules-based.

With the psychology and game plan understood, its time to take a look at the gold/silver ratio chart to understand the finer points of trading the ratio.

The yearly chart of the gold silver price ratio (which you can find at goldprice.org ) shows we reached a ratio of around 32 during the peak of the mini silver bubble that we saw in the first half of this year before pulling back to just above 41. I prefer to look at this chart in the same manner that I look at any price chart — with the primary goal of identifying support and resistance. to give me key levels around which I can set profit targets and cap risk.

So, in the current environment based on the ratio chart, Ill look to possibly decrease my silver holdings once the ratio reaches 32. At that time, Ill also be looking at the spot silver and gold charts, to see how they are faring. Ideally, Id like to see gold forming an accumulation level or cruising along a trendline, and would like to see silver exhibiting overbought conditions. If there is a bearish trendline developing on both metals, I’ll look for a paper currency to move to.

Gold and silver are the territory of paranoid investors/traders, and so what vehicle and what broker you use to trade this ratio can be vital. Personally, I trade the ratio via Bullion Vault. which provides me with full electronic trading on a non-leveraged basis and allocated ownership of the metal I purchase. I view this option as preferred in the event of a suspension of trading on exchanges or a flight out of the exchange-traded instruments. The higher metals go, the more I believe these concerns are warranted. If you are not concerned about this risk, you can trade the ratio via futures and CFD brokers (see our matrix ) at a lower cost and with leverage.

Here’s the video I made that corresponds to this video.