Dow-Gold Ratio Now at Strong Resistance, Will It Break Higher or Lower?

Includes: DIA, GLD, SPY, TIP
by: Kirk Lindstrom

The Dow-gold ratio is right at its long-term, down-trending resistance level. The Dow-gold ratio is defined as the ratio of the price of the Dow Jones Industrial Average divided by the price of gold.

At 8.96, the Dow Jones Industrial Average, measured in how many ounces of gold it takes to buy the 30-stock Dow, is up 27.5% from its 17-year March 6, 2009 low of 7.03. But, as the chart below shows, the ratio has been in a fairly flat, two-year trading range as it moved from long-term support to resistance.

Despite good gains for the Dow since March 2009, the Dow-gold ratio remains just above its March low and 81% below its 1999 peak of 44.77.

Here is a chart showing the current Dow-to-gold ratio, the ratio of the price of the Dow Jones Industrial Average to the price of gold. When measured in ounces of gold, the Dow has been in a secular bear market since peaking in late 1999 at nearly 45.

(Click to enlarge)

The markets, measured by the S&P500 and DIJA, may have recovered to new highs in 2007, but the Dow-Gold ratio told a different, truer story of just how unhealthy the U.S. economy was.

  • Back in 1999, it took nearly 45 ounces of gold to buy the DJIA.
  • On Friday March 6 of 2009 the Dow-gold ratio hit a 17-year low of 7.03.
  • As of Friday (February 4, 2011) it only takes 8.96 ounces of gold to buy the DOW.
  • Gold quote and charts.

All Time Lows:

The DJIA-to-gold ratio got down near 1 in the early 1980s and was just under 0.2 in the early 1800s.

This 200 Year Dow/gold chart shows the Dow-gold ratio from 1800 through August 2008.

(Click to enlarge)

With the Dow-gold ratio now at 8.96, it is trading below the green zone in the second chart. Historically, buying stocks when the ratio is below the green band was rewarding if you had patience.

What is next?

Here is a chart of the price of gold, its exchange traded fund GLD, the DJIA and the S&P500. What is the best investment going forward?

(Click to enlarge)

  1. Do you think stocks will surge and the price of gold will crash to break this decade long downtrend?
  2. Do you believe Gold will surge and/or stocks will fall to take this ratio lower for another run at its support level now below 2.5?
  3. Do you believe both Gold and Stocks will continue higher breaking the downtrend but not explosively?

Personally, I own a very small amount of gold hidden in the house for bribes if we see Armageddon but I own TIP, TIPS mutual funds (like TIP and VIPSX) and Series I-Bonds as well as individual TIPS. I also believe it is a good time to own equities including SPY, the exchange traded fund for the S&P500, for both inflation protection and income.

Disclosure: I am long SPY.

Additional disclosure: Long VIPSX, Series I Bonds, individual TIPS