This year has been a strange year in Wall Street no matter how you look at it. But at least one strange dynamic between the prices of gold and silver actually has a somewhat simple explanation.
The SPDR S&P 500 ETF Trust SPY is down 10.8% year-to-date in 2020. So far this year, the SPDR Gold Trust GLD has been a major market leader, gaining 11.6%. But at the same time, the iShares Silver Trust SLV has been a significant laggard, dropping 16.9% on the year.
In fact, the ratio of gold-to-silver prices is currently around 116, its highest level in history dating back to ancient times, according to DataTrek Research co-founder Nicholas Colas.
History Lesson
For hundreds of years, the ratio of gold-to-silver prices ranged from around 15 to around 20 up to the point the U.S. came off the gold standard in the 1970s. Since that time, the ratio has spiked significantly above 40 several times. Colas said these spikes have typically occurred during periods of economic and/or geopolitical instability.
While it may seem strange for gold and silver prices to be heading in opposite directions, Colas said the key to the strange dynamic lies in the demand drivers for both metals. Industrial demand accounted for about 51% of silver demand in 2019 and only 9% of gold demand. At the same time, gold demand is driven much more by investors, who see the metal as a flight-to-safety trade during times of market turmoil and periods in which investors are fearful of inflation.
Given industrial demand has plummeted due to coronavirus (COVID-19) shutdowns and investor demand for gold has jumped due to concerns about the global economy, Colas said it makes perfect sense why the prices of the two metals are heading in opposite directions.
“Silver prices won’t recover until the global economy and industrial production do, so the gold/silver ratio at all-time highs makes sense,” he said.
Benzinga’s Take
For investors who believe the worst of the COVID-19 crisis is now passed and an economic recovery is imminent, the high gold-to-silver ratio could present an interesting pair trade opportunity.
Traders who anticipate the gold-to-silver ratio will ultimately regress toward its long-term average could consider buying the SLV fund and shorting the GLD fund.
Do you agree with this take? Email feedback@benzinga.com with your thoughts.
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