In the world of precious metals, silver is considered the "Poor Man's Gold."
Anyone who believes this nonsense will stay away from investing in silver for all the wrong reasons.
With the S&P 500 pushing resistance once again at 2,100, perhaps it's time to visit the land of the contrarian trader, for as the saying goes, as the stock market falls, the precious metals markets rise.
And I am interested in the "Poor Man's Gold" not only because it's priced far less than gold. I'm in it for the type of returns no man, poor or otherwise, can resist…
Novice Traders Mistake Price for Value
Silver and gold are both in the precious metals group, both are used for industrial and cosmetic products, and both have suffered from a drop in price over the last year. For virtually time immemorial, gold has been more expensive than silver. Anyone can tell you this, and most people when asked the question "How can you compare the two?" would answer with "by looking at the difference in price."
Okay, that makes sense. Looking at the chart below, here are recent cash prices of both gold and silver near the end of April:
Spot gold closed near $1,200 an ounce
Spot silver closed near $16.35 an ounce
The difference in value between the two is clear: $1,183.65 per ounce. Now we can track the difference this way every day, but the problem is that it's always going to look like a high number. The bigger problem is that it's how the novice trader looks at the difference between both metals.
Most novice traders would simply look at a chart of silver and/or gold and make a determination based on price only whether or not it might be time to buy. Based on the chart, both commodities are not only technically cheap, but seem to be hitting support levels for the year.
But which one might have the least downside risk? Is there a way outside of conventional thinking to come to an answer to this question?
Indeed, there is, and I want to get to a trade opportunity based on my way of viewing the data…
Here's How We'll Find Silver's "Golden" Payout
Let's take a different approach. Since we already know gold is much more valuable than silver, let's look at how many ounces of silver it takes to equal an ounce of gold.
The calculation goes like this: $1,200 (price of 1 ounce of gold) / $16.35 (price of 1 ounce of silver) = $73.39. That's the number of ounces of silver needed to equal 1 ounce of gold. We call this the Gold/Silver Ratio.
What's so special about this calculation?
Well, by looking at history, we can see the fluctuations of how many ounces of silver it takes to equal an ounce of gold, thereby giving us an idea of how cheap or expensive the two are when comparing them to each other.
The chart you see now reflects this ratio for the last 10 years.
Back in 2008, the ratio spiked to 80, showing that you needed 80 ounces of silver for each ounce of gold. In 2011 however, that ratio dropped to near 30.
With the markets rising, and both metals falling, silver has taken a beating, falling at much greater percentages than gold, thereby increasing the ratio to near 10-year highs. What does this tell me?
About the Author
Tom Gentile is one of the world's foremost authorities on stock, futures and options trading.
With more than 25 years' experience trading stocks, futures, and options, Tom's style of trading systems and strategies are designed to help individual investors propel themselves past 99 percent of the trading crowd.