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The gold-silver ratio, also called the mint ratio, is the ounces of silver needed to buy an ounce of gold. In other terms, it is the price of an ounce of gold divided by the price of an ounce of silver.
If this ratio fluctuates on daily basis today, it has not always been the case. In the past, the ratio was often fixed by governments to ensure the monetary stability. In the Roman Empire, for example, the mint ratio was set to 12:1. Under the Coinage Act of 1972 in the US, the ratio was 15:1.
Today, the mint ratio helps investors assessing a relative valuation between gold and silver, and many metal traders use this ratio to judge whether one metal has become too expansive, or too cheap relative to the other and to establish interesting trading strategies.
The empirical data shows that over the past two decades, the gold-silver ratio fluctuated between 40 and 80, with an average of slightly above 60. This simply means that the price of gold has been around 60 times the silver’s on average. If it traded lower than the average, investors would scale back their long silver positions. If it traded above, they would increase their silver holdings.
What causes the price deviation between gold and silver?
Gold and silver prices are driven by similar but not the same set of fundamentals. Both precious metals offer store of value and are used for jewelry and industrial applications. But silver has a broader industrial use than gold, while gold has the privilege of being an established safe-haven asset in times of financial distress and market sell-off.
This explains why the historical surge in gold prices left silver in the shadow during the Covid-19 pandemic.
While gold recorded a breathtaking rally to all-time highs as investors piled into gold to hedge against the Covid-triggered market rout and mounting inflationary pressures amid massive monetary and fiscal stimuli, silver dragged its feet due to a heavy slump in industrial demand.
As a result, the gold-silver ratio shot up to 120 in March, twice the two-decade average. At the time we are writing this article, the gold price surged to $2075 per oz for the first time and the gold-silver ratio is near 75.
Gold’s recent surge to $2075 per oz backed an advance in silver prices to $29 per oz.
The expectation that the gold-silver ratio should revert towards the historical averages mean that either gold prices should correct to the downside, or silver prices should rise faster to match the gold’s advance.
Metal traders appear to overweight the second scenario and see potential for a settlement above the $30 per ounce of silver.
Indeed, the post-Covid economic recovery, business reopening, economic normalization and prospects of improved industrial demand in the near future back the idea of a stronger silver, especially if gold prices have a steady grip near the current, all-time high levels.
Big banks maintain their bullish view on gold and silver prices. BoFA analysts said investors could expect gold prices to peak at $3,000 within the next 18 months. If this is the case, the ounce of silver could extend rally toward $50.
While we believe that another $1000 rise per oz is a far stretched forecast for gold, even a consolidation in gold prices near the actual levels should keep silver on track for an advance to our $30-32 medium-term target range.
Finally, it is worth noting that for silver, the actual rally doesn’t represent a surge to record high levels. In 1980s, silver saw its price surging to $50 per oz, and in April 2011, an ounce of silver was exchanged a touch below $45. Therefore, and considering the historical surge in gold prices, silver certainly has potential to make the headlines in the coming months.