The Easy Way to See if Gold or Silver Is a Better Investment

Gold and silver have been used as currency for centuries. And as long as these precious metals were considered to have inherent value, it’s safe to assume that people have been asking the same question: Which is better to own, gold or silver?

These days, investors have sophisticated tools to help them answer that question. For me, reaching a conclusion is as simple as looking at one chart — the ratio between gold and silver prices.

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When the red line in the above chart is rising, it means that gold is outperforming silver. And when the red line is falling, silver is outperforming gold.

Over the past fifteen years, we can see that the ratio between the two precious metals has changed based upon what’s happening in the global economy and markets.

Trends in Precious Metals, 1997-2013

During the dot-com boom of the late 1990s, investors were willing to take chances on more speculative plays. Silver was one of the beneficiaries of this “risk-on” mentality, outperforming gold for most of the decade.

Over the past two years, gold has outperformed silver. But how long will it continue to do so?

But when the dot-com bubble burst in 2000, investors flocked to the perceived safety of gold. This “risk-off” environment persisted for about three years, until the start of the Iraq War in 2003. The subsequent stock-market rally coincided with the relative outperformance of silver, which lasted for about the next four years.

That brings us to the watershed moment of the 21st century: The disintegration of the financial bubble, culminating in the collapse of Lehman Brothers in September 2008. Investors ran toward gold like never before, as you can see from the steep spike on the chart.

When the Federal Reserve stepped in with its quantitative-easing programs to boost the economy, the tide began to turn back toward silver. From 2009 until early 2011, silver was among the most popular investments in the world, shooting up to $50 an ounce before collapsing once again.

Over the past two years, gold has outperformed silver. But how long will it continue to do so, and is either precious metal a good play right now?

Gold vs. Silver: A Technical Reading

Once again, the answers can be gleaned from a close reading of the chart. You’ll notice that when the gold vs. silver ratio rises to around the 80 level, a turnaround is imminent. Conversely, when the ratio drops below 50, it typically indicates that gold is about to start outperforming silver again.

So where are we now?

At the moment, the ratio is right in the middle of its historical range, at about 65. Gold has been outperforming silver, and will probably continue to do so for another few months. But later this year or early next year, the ratio should approach 75. At that point, investors with positions in gold might want to consider rotating into silver, in anticipation of a trend reversal.

Precious Metals and the Stock Market

As I alluded to earlier, the trends in precious metals are also correlated with the broad trends in the U.S. stock market. Stock-market tops have occurred when silver was most outperforming gold, when the ratio approached the 50 mark, in 2000 and 2007. And stock-market bottoms coincided with the outperformance of gold, when the ratio reached 80. This happened in early 2003, and then again in early 2009.

Based on these indicators, it’s a good bet that as the gold-to-silver ratio approaches the top of its range in the coming months, the S&P 500 Index of the largest U.S. stocks will begin to head lower. Investors in both precious metals and U.S. equities would be wise to consult the gold vs. silver chart before committing more money.

Best wishes,

Douglas