For the past two years, silver has traded at a discount to gold. Typically, gold sells for 55 times the price of silver, but since August of 2008, the ratio has tilted heavily in the favor of gold. The chart below shows this ratio which is calculated by simply dividing the spot price of gold by the spot price of silver.
I've written about this ratio frequently, and I've pointed out that it is "mean-reverting", which is just a fancy way of saying that it eventually returns to the average. It's returned back to the average hundreds of times in the past 120 years - and it's one of the most reliable mean reverting ratios out there. It's the Old Faithful of the investment world.
With silver taking off, some investors might expect a correction. But even with silver prices north of $20, the ratio is still showing that silver prices are relatively cheap.
The price performance of silver shows a strong uptrend is currently underway, but I've been expecting a push on silver's price for months now. It's traded at a 20-40% discount to gold for two years, but as I discussed above, these mean-reverting trends have a tendency to average out over the long term.
That means that silver could continue to rise, and break through the historical ratio to trade at a lower ratio than 55 times the price of gold. The upside could be huge for silver investors - even those that get started investing in silver today.
For instance - if gold stays above $1,200 an ounce, silver prices would have to reach $21.81 an ounce just to get back to "normal" ratio levels. That's a 9% increase from today's silver price.
But if the ratio swings even further in favor of silver, as it did in 1998, 2006 and 2007 when it dipped below 45, then silver prices would soar to $26.66 an ounce - a 32% gain. Of course, this assumes that gold prices remain where they are.
I don't know if the ratio will reach these levels anytime soon, but it has (and has even gone lower) dozens of times since 1971. At that time both silver and gold were demonetized.
The good news is that if you buy silver today - even though it's made some extremely strong gains this year - you're still buying at a discount to gold.
As I said yesterday, I just bought some gold a little over a month ago - and I'm still buying physical silver.
The uptrend is in place, and with investors of every stripe looking for a new place for their money, I think we can expect the nice gains in silver to continue.
I advise everyone I know to buy physical silver, as an insurance policy protecting you from currency collapse. I own some physical silver myself, but as an alternative there are a multitude of silver ETFs to choose from.
Disclosure: I've been buying physical silver and gold.