Using the Gold:Oil Ratio to Trade Gold Stocks

08/25/2008 12:00 am EST

Focus: STRATEGIES

John Netto

Author, The Global Macro Edge

One of the most frustrating parts for many gold bulls during the run up in gold was the bear market-like nature the underlying mining stocks. Intuitively, a rise in the metal should help the share price of underlying gold stocks. One of the key factors in understanding how many mining companies' share prices went down despite mining having reserves to a rising commodity is knowing that the price of the costs to mine for gold was increasing at an even faster rate. One of the best gauges to assess this is the gold:oil ratio. At the beginning of the year, this ratio sat at approximately 10:1, meaning the price of an ounce of gold was ten times the price of a barrel of crude oil. The ratio fell to as low as 6.4, levels not touched since 2005. With the ratio at 7.18, if the gold:oil ratio can rally higher again, being that the ten-year average is about 12.1, or nearly double that of the recent low, a nice pop in gold stocks could ensue.

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