A Chart From Our Anxiety Closet

By Brad Zigler

If there are two commodities that act as beacons for hard asset investors, they'd have to be gold and oil. Over the bull market run, the two seemed, to the casual observer at least, to move lockstep with one another.

To others, however, divergence in the gold and oil price trajectories are tea leaves that, when sifted, portend the future. Our September 29 podcast was devoted to explaining the import of bottoming in the gold/oil ratio. The ratio tracks gold's purchasing power expressed in barrels of oil. Bottoms have been predictive of the last five U.S. recessions.

The, um, bottom line is this: Bottoming ain't good. Well, not so much the deck scraping itself; it's really the implications of the rebound that are dire.

The bounce in the ratio from a historic summertime low around 6.5 reflects more oil's decline than gold's resurgence. More on that in a moment.

Spot WTI oil futures are off 7.3% for the year, while gold, measured by the London morning fix, is up 9.2%. Oil, of course, is a bellwether of industrial and consumer expansionism. Falling oil prices reflect waning fuel demand as noted in yesterday's Energy Department report (see "More Off-Base - WAY Off-Base - Oil Forecasts"). Gold, meantime, has been crisis medicine, prescribed for capital in need of a safe haven amid the current financial tumult.

The ratio hit the 10.3 level Wednesday, just shy of a momentum crossing level reached in June 2007. A breakout above the 10.4 level could set up a test of the 12.5 high reached in January 2007.

Gold/Oil Ratio

Trading the ratio is relatively easy through futures. Just buy gold futures and sell oil contracts short. Trading the ratio with exchange-traded funds and without margin is tougher. There's only one inverse oil product extant domestically (though there are more in registration according to "Plenty To Choose From In New Filings").

The MacroShares $100 Oil Down (AMEX: DOY), featured in "Summer Oil Check," gained 19.4% since July 22, while NYMEX spot futures dipped 30.7%. London gold gave up 6.1% over the same period, mirrored fairly closely by the SPDR Gold Shares trust's (NYSE: GLD) loss of 5.9%.

If you want to trade the ratio from here, keep in mind that you're likely to only get some of oil's downside from DOY, but you'll get nearly every penny of gold's movement from GLD. 

Gold/Oil Ratio Through ETFs

Comments

[bowman711:]

'Oil, of course, is a bellwether of industrial and consumer expansionism. Falling oil prices reflect waning fuel demand . . '

Since oil is the 'lifeblood' of the world's economies, it truly is a bellwether of economic contraction and EXPANSIONn. Don't forget that no matter where the current situation takes us, at some point the economies will have to start producing new goods to replace those that have worn out during the downturn. It will take oil to get industry running again. Even getting raw materials to the factories will take oil. So, I think a better store of value than dollars, Treauries, etc. would be to own the stock of oil companies whose assets are oil in the ground.

No matter what oil is priced at, or in what currency, it still will produce the same number of miles traveled, pieces of plastic, etc.

2008 Oct 10 01:45 PM

[Managing Ed...:]

Amplification: Short crude exposure CAN be obtained through other vehicles. The PowerShares DB Short Crude Oil exchange-traded notes (SZO for -100% exposure to the Deutsche Bank Liquid Commodity Index – Optimum Yield Oil, DTO for -200% exposure), however, convey credit risk as they are unsecured debentures of Deutsche Bank AG's London branch. The MacroShares portfolios, made of up Treasuries and repos, don't impart such exposure, no do they directly rely upon oil futures.

2008 Oct 11 10:01 AM

[http://www....:]

It can also be purchased through symbol oil.

2008 Oct 14 01:33 AM

[Managing Ed...:]

OIL is an exchange-traded note that provides LONG exposure to crude. You'd need to SHORT the note for the gold/oil ratio trade.

2008 Oct 14 08:37 AM