Trade idea: gold vs. silver

Shaun Murison, IG senior market analyst, examines an opportunity to trade the close correlation between silver and gold. This is one example of a pairs trading strategy.

While gold and silver share a lot of similarities – not least their status as safe haven assets – there are important differences between the two. Gold, for one thing, has much fewer industrial uses than silver, which can make silver a better bet when economic growth is strong.

The gold/silver ratio is a well-followed measure for investors, showing the number of ounces of silver you could buy with a single ounce of gold. When the ratio reaches 80, it is seen by some as a signal that silver is oversold.

One way of trading the gold/silver ratio is via a pairs trade. A pairs trade is a market-neutral strategy that mutes the impact of broader market movements. It does this by matching two correlated assets – just like gold and silver – and taking a long position in one and a short in the second.

It can also be applied to a pair of exchange-traded funds, currencies, stocks or options.

Pairs trade example

Say that silver has risen past 80 on the gold-silver ratio. A pairs trader would go long on silver, the weaker of the pair, while shorting gold. They would then close their position when the pair’s relationship had normalised.

Any profit comes through the price change between the two metals. The win-win would be for the long position to rise and the short to slip, but it is possible to profit in many market scenarios, whether it rises, falls, drifts or is volatile.  If the long rises more than the short, or the short falls more than the long, the trade will still be in profit. 

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This information has been prepared by IG, a trading name of IG Markets Limited and IG Markets South Africa Limited. In addition to the disclaimer below, the material on this page does not contain a record of our trading prices, or an offer of, or solicitation for, a transaction in any financial instrument. IG accepts no responsibility for any use that may be made of these comments and for any consequences that result. No representation or warranty is given as to the accuracy or completeness of this information. Consequently any person acting on it does so entirely at their own risk. Any research provided does not have regard to the specific investment objectives, financial situation and needs of any specific person who may receive it. It has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such is considered to be a marketing communication. Although we are not specifically constrained from dealing ahead of our recommendations we do not seek to take advantage of them before they are provided to our clients. International accounts are offered by IG Markets Limited in the UK (FCA Number 195355), a juristic representative of IG Markets South Africa Limited (FSP No 41393). South African residents are required to obtain the necessary tax clearance certificates in line with their foreign investment allowance and may not use credit or debit cards to fund their international account.