The Historic Gold-Oil Ratio Forecasts A Much Higher Price For Gold

While many analysts on Wall Street forecast gold to head lower in 2014, they fail to realize that its historic ratio to oil points to a much higher price.  It seems like everything today is based on financial wizardry rather than fundamentals of a physical economy.

The economy has moved so far away from the fundamentals that it no longer has any idea how to function without total market rigging.  The Fed and central banks believe they can continue to control the markets, however the weight of all that paper crap will overwhelm them at some point in time.

I recently wrote the article, Silver To Hit New Highs As The Quality Of Analysis Sinks To New Lows.  In the article I provided information on how the historic Oil-Silver Ratio would relate to a much higher price of silver today.

For example, the price of silver would be $92.67 today based on the average Oil-Silver ratio during 1961-1970.  For quick reference here is the table from the article:

Present Silver Value At Prior Silver-Oil Ratios (based on $111.30 Brent crude oil)

1981-2000 (3.8 ratio) = $29.30

1971-1980 (2.1 ratio) = $52.95

1961-1970 (1.2 ratio) = $92.67

Some of my readers asked me how the historic Gold-Oil ratio would impact the price of gold today.  So I decided to look at the data and put this article together.

From 1961-1970 the price of gold behaved similar to silver — basically flat compared to price of oil.  Of course this was due to the fact that the Fed & Central Banks had to manipulate the gold market through the London Gold Pool to keep the price fixed at $35 an ounce.

However, the London Gold Pool fiasco started to get into trouble by the end of the decade as the price of gold increased to $41.39 in 1969… shown in the chart below:

Gold vs Oil Price & Ratio 1961-1970

If we consider the average Gold-Oil ratio for 1960’s decade it was 20 to 1.  Which means one ounce of gold could buy 20 barrels of oil when gold was still functioning as a monetary metal.

After Nixon dropped the Dollar-Gold peg in 1971, all hell started to break loose in the gold market as the price of the yellow metal shot up to $97.32 by 1973.  You will notice that the Gold-Oil ratio increased substantially in 1973 compared to 1971.

The reason for this was due to the fact that the price of gold (1971-$40.80, 1973-$97.32) increased to a much larger degree than oil (1971-$2.24, 1973-$3.29).   This is shown in the next below:

Gold vs Oil Price & Ratio 1971-1980

As the price of oil nearly quadrupled in 1974 to $11.58 from the impact of the Arab Oil Embargo, the Gold-Oil ratio fell to 13.8.  Even though the price of gold declined a bit in 1976, it moved higher in tandem with the price of oil by the end of the decade.

After the Dollar was no longer pegged to gold, the average Gold-Oil ratio during 1971-1980 declined to 15.9 compared to 20 in the previous decade.

When I crunched the numbers for the Gold-Oil ratio for the years 1981-2000, I was quite surprised that the average was higher than the previous time period.

Gold vs Oil Price & Ratio 1981-2000

You will notice that from 1986 to 1999, the gold price trend line was above the oil price line.  Thus, we had very high Gold-Oil ratios during this time period.

The reason for the lower price of oil is that several new large fields came online.  We had the North Sea Oil Field come into production, Alaska Prudhoe Bay and a ramp up of the Gulf of Mexico.

Interestingly, gold was valued higher to oil than I assumed… even higher than the 1971-1980 time period when it reached a record of $850 an ounce.

The lower price of oil is what pushed the average Gold-Oil ratio higher to 18.6 in 1981-2000 compared to 15.9 in the prior time period.

Now… let’s look at what took place since 2000.  Here we can see a few noticeable trends.  First, during the majority of this time period, the oil price line was higher than gold.  Second, the average Gold-Oil ratio is much lower than in any of the previous time periods.

Gold vs Oil Price & Ratio 2000-2013.New

If we disregard the 2009 Gold-Oil ratio as it was a huge anomaly and focus on 2010 and 2012, the price of gold valued in oil terms was at its highest.  Furthermore, even though the price of gold hit a record in 2011, the average price of gold was 2012 was higher.

Average Gold Price

2010 = $1,225

2011 = $1,572

2012 = $1,669

2013 = $1,411

So, when the price of gold was attempting to break-out above $1,800 in September of 2012 and surpass its 15 to 1 Gold-Oil ratio, the Fed & member banks came into the markets and decided enough was enough (shown by the nice Red Arrow).

This was also true with Silver:

Silver vs Oil Price & Ratio 2000-2013.New

(NOTE:  the chart should read Oil-Silver ratio)

An interesting factor as it pertains to energy and gold can be seen in the table below.  I have been compiling data for diesel consumption in the top gold miners.  Not only is the amount of diesel consumption per ounce of gold produced increasing… so is the price of diesel.

Top 5 Gold Miners Diesel Cost 2010-2013 Est

The majority of the diesel used by these mining companies is in the extraction of the gold ore.  A small percentage of overall diesel consumption is used in construction of mine sites as well as a source of electric generation in remote locations when electricity is not available.

In 2010, the top 5 gold miners produced 24.7 million oz of gold consuming 18.7 gallons of diesel per ounce to do so.  If we go by the U.S. price of a gallon of diesel in 2010 ($2.99), these top gold miners spent $1.38 billion for this fuel cost.  Thus, it took approximately $55.91 in diesel-fuel costs per ounce of gold to extract the ore.

If we make some conservative assumptions based on past trends, the estimated cost of diesel to extract gold in 2013 will more than double to $113.68 an ounce.  This is quite interesting once we consider that the current price of gold is $1,227 compared to the average of $1,224 in 2010.

The figures in the table are used as a form of reference.  Diesel prices throughout the world are higher or lower than the average shown in the U.S.,  but, at least it gives us a basic idea of just how much fuel costs are rising in the production of gold.

The gold miners are consuming more energy than ever to produce gold today, however Wall Street believes the price of gold needs to fall below $1,000 in 2014.  So it goes… as Wall Street becomes more insane, so do the markets.

Getting back to the Gold-Oil ratios, let’s look at what the gold price would be today based on the past ratios:

Present Gold Value At Prior Gold-Oil Ratios (based on $111.70 Brent crude oil)

1981-2000 (18.6 ratio) = $2078

1971-1980 (15.9 ratio) = $1,776

1961-1970 (20.0 ratio) = $2,234

If we go by the 1961-1970 historic Gold-Oil ratio when gold was a monetary metal, than the price of gold would be worth $2,234 today.  Of course this does not consider all the other factors such as the upcoming collapse of the global fiat currency system, U.S. Treasury Market and the majority of paper assets.

With the current price of Brent crude at $110 and gold at $1227, the Gold-Oil ratio is 11.1, lower than the 12.6 average for 2013 and 11.6 average for the decade.

As the Fed & Wall Street continue to delude the public that the proper value for the price of gold is to head lower, the energy fundamentals are pointing to a much higher figure.  Financialization and Bull Excrement rule the day in the economy.

Fortunately, those few who still adhere to the fundamentals will benefit tremendously when the $100’s of trillions of paper claims falls under the weight of Newton’s Law of Gravity.

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35 Comments on "The Historic Gold-Oil Ratio Forecasts A Much Higher Price For Gold"

  1. Hello Steve, you have been doing a series of very interesting posts – congratulations! I was looking at the gold/oil price ratio myself – in the long run I think there is no detectable trend, so you are probably right that right now gold is now somewhat undervalued; but it is a rollercoaster.

    Can I reproduce your table on the cost of diesel on my blog “Cassandra’s Legacy?” (www.cassandralegacy.blogspot.com. Thanks!

    • Ugo,

      What a pleasure receiving a reply from you. I gather we may agree to disagree on the LONG TERM trend in the Gold-Oil ratio. According to my reasoning, Gold & Silver are stores of value because they are stores of Economic Energy. Energy plays a huge part in this equation.

      Now that the EROI of Oil & Gas is falling, especially since the 1960’s, I would imagine it has an even larger impact.

      Regardless, you may be correct about the long term trend of the Gold-Oil Ratio when we realize the most important factors are the collapse of the fiat monetary system, Treasury-Bond Markets and the over $100 Trillion in Global Assets under management.

      steve

  2. Steve, nice post as usual.. We know that PM prices are manipulated but I’m wondering to what extent the numbers that you’re using for oil prices (Brent crude or WTI?) reflect true market value. I mean, maybe we’re getting artificially low oil prices as well because of the world reserve currency status? Using this ratio of the past 50 years to project the near term might be hazardous. Also, no world wars since 1945 but that might change also.

    I’m also wondering, shouldn’t the ratio start skewing even MORE in favor of gold because of declining ore grades? Perhaps you were touching on that I think with the 2010 versus the 2013 price spread because more diesel was required per oz (due to declining ore grades?)

    The gold to cost of labor ratio (how many man hours of labor does gold buy?) might also provide some interesting charts if one were interested. This should be going up like crazy in favor of gold over the last 12 years even with the manipulation.

    • Rojelio,

      Yes, it is more likely than not that oil prices are manipulated and undervalued. The article was to give some sort of frame of reference for the Gold-Oil ratio as I had already presented the Oil-Silver ratio.

      I believe the price of gold will be way in excess of the $2,234 figure. This is just a basic guideline showing how undervalued gold and silver are compared to the monetary ratios to oil in the 1960’s.

      Again, I believe we are going to see much higher prices.

      steve

  3. Is there less or more total ore coming out of the ground now than years ago (i.e. for copper, zinc etc) which in turn would produce more silver as a Secondary product of the mine? Like you have said before 70% of the silver mined comes as a secondary product of a mine.

    • Rick,

      There is probably more ore from base metal mining, but it is trending higher with the growth of primary silver production.

      Here is the break-down of primary and by-product silver production as per the World Silver Survey:

      2007 = 29% Primary / 71% Base Metal
      2008 = 28% Primary / 72% Base Metal
      2009 = 30% Primary / 70% Base Metal
      2010 = 30% Primary / 70% Base Metal
      2011 = 29% Primary / 71% Base Metal
      2012 = 28% Primary / 72% Base Metal

      So, there you have it. As we can see the range is moving between 28-30% primary silver mine production. Even though there may be more copper, lead and zinc ore being processed, the same thing is taking place in the primary mining sector.

      steve

  4. steve,
    i believe if we go further back into history, gold/oil was once consistently much higher than 20!

    i’m more bullish. 20x gold/oil ratio will be the bottom of the range instead of the top when gold is re-moneytized.

    1x silver/oil will be the bottom of the range instead of the top.

  5. Hi Steve
    I have just posted my 2014 Yearly update piece.
    Tell me what you think.

    http://silversufferer.com/?p=407

    • David,

      Great post. I agree with your points. The two charts that stick out the most is the one showing the Reserve status of the different countries in history as well as the long term silver chart that shows the oversold MACD.

      Even though I don’t believe in Technical Analysis, it is useful to show changes in long term trends.

      steve

  6. As long as the west controls gold flows,public sentiment(especially in America),and COMEX/LBMA/ETF paper contracts,gold(and silver) is going nowhere.Expect more of the same in 2014 and beyond.Gold may move 10% this year,but no more.Since 2009,I’ve stated that we will not see the liberation of PMs until 2020 at the earliest.By then OTC derivatives will have a notional value of several quadrillion dollars.

    The good news for now is that HSBC and JPM cannot smash the price much lower because of the physical demand in Asia and India.GLD and COMEX inventories are proof of it.This fact combined with $200+ trillion in infunded liabilities in the U.S. alone will eventually,EVENTUALLY, create the crisis of trust in fiat needed to send metals prices to the moon,far beyond $2300/oz.But that event is years away.

    Historical analysis,technical charts,and ratios mean nothing as long as the primary dealers worship the paper price moves over holding the physical metal.And while these articles are very informative and do point to an uncertain future, it is going to take some kind of black swan event or market upheaval to wake the public up.The world still holds over $6 trillion in U.S. debt and cleary loves printing money as well,so paper will continue to rule the day.The world knows it needs a new monetary system,but as long as foreigners hold dollars,no single nation will undermine its own economic prosperity by dumping its treasuries no matter how worthless they become.Period.Unfotunately,Wall Street and London will destroy western civilization in the process of trying to convince the masses of the futility of holding metals.So be it.

    One last point: If gold truly is a worthless hunk of shiny metal unworthy of monetary consideration as the Fed et al would have us believe,why not just give Germany their 300 tonnes right away?I’l tellyou why-BECAUSE IT IS THE ONLY MONEY WHICH HAS EVER ENDURED CENTURY AFTER CENTURY.

    Keep stacking!

    • Until 2020? What data are you looking at that mathematically suggests this particular timeline?

      • Rojelio,Thanks for the response!

        Data extrapolated from manipulated markets is irrelevant.

        I’m as frustrated as you are,my friend.But until a repudiation of all paper debt issuance occurs,things are not likely to change.Look at how fast the last 2 years flew by.6 years is not a great deal of time,especially when you consider how entrenched treasuries are in the global market.I hope I’m wrong and that you’re skepticism proves to be correct-I’m just trying to be realistic.

        The United States will not cede its enormous privilege of exporting its inflation without a protracted struggle.Gold lost 30% last year and I don’t see anything on the horizon which would refute the status quo.Obviously any outside event could bring the entire ponzi scheme crashing down at any time, I just don’t see It for right now. I just keep buying and preparing.

        • “I don’t see anything on the horizon which would refute the status quo.” How about the BRICS development bank coming out with trade based on gold. How about Saudi Arabia possibly selling oil for yuan? How about the entire world panics and dumps US bonds in favor of gold-backed Chinese currency? Maybe a war with Iran would shoot the price of gas up to $10/gallon overnite?

          You could be right. . I’m just wondering how you’re getting your information. As an example, I really take John Williams/Shadowstats very seriously when he says hyperinflation by 2014 because he seems to be working the numbers very diligently. Of course he could be wrong too….

          Happy 2014!

          • Again, I AGREE WITH YOUR ARGUMENT,as all of those things are clearly occuring, but they will take time to play out ,that’s all I’m saying. Speculating about future events does not mean those events will occur this year or next.ARAMCO and SINOPEC ARE going to have the largest oil refinery ever built in Yanbu operational this year ,with the Saudis accepting the RMB exclusively,but any individual prediciting the demise of the USD,especially since 2009 continues to be disappointed and disillusioned.Or as the Brooklyn Dodgers used to say-“wait til next year”.I’m not going to worry about what may or may not happen-these events are out of my control.I’m just employing logic as it applies to my accumulation of metals.

            Quite frankly, based on immutable laws of economics,the dollar should have crashed already.Yet here we are 6 years into this depression and bubbles are once again defining the economic landscape.

            HAPPY NEW YEAR TO YOU AS WELL,MY FRIEND!

          • “Only so many bubbles in a bottle of soap”
            -Mr. Clean

  7. Hi Steve,

    Really enjoy and value your work. Keep it up!

    I would very much appreciate your opinion on the following piece put out by belangp (the author of “the gold must flow”) on Peak Silver. I have been browsing his excellent Youtube channel after following the link above. He covers your interest (peak oil and its implication for precious metals) from a slightly different, intriguing perspective.

    http://youtu.be/qgXOlcOzI3Q

    Look forward to your thoughts.

    • John,

      Thanks, I just watched the video. I believe the Silver Ore-Grade chart he was talking about from Silver Doctors came from one of my articles. I have written two different peak silver articles showing data going back to the 1800’s.

      When I wrote my first peak silver article, I thought the collapse of the banking and financial system in 2009 would lead to a collapse of silver production… hence a peak.

      However, I believe Peak Oil will be the nail in the coffin for Peak Silver. It may lag global oil peak by a few years, but it will follow soon after.

      steve

  8. Dear Steve,

    Thank you for the swift reply.

    Can you please clarify something for me?
    You quite correctly describe silver and gold as stores of economic energy.

    As you have shown, it currently costs ~ $25 worth of economic energy to mine an ounce of silver, and ~$1300 worth of economic energy to mine an ounce of gold at the margin.

    I guess this is the price floor or commodity value of the 2 metals. In a post peak world of falling ore grades and rising energy costs, I agree that we can expect these costs to increase (perhaps exponentially) going forward.

    However, the ratio of marginal mining costs (and economic energy stored) seems to be 52:1. If this is the case, why do you expect the gold silver price ratio to narrow going forward? Surely, any short term dip in the ratio will revert to the mean sooner or later?

    Why do you think silver is undervalued relative to gold, if their current price ratio approximates to the relative unit mining cost ratio?

    Do you expect the costs of mining silver to increase faster than the cost of mining gold in the future? If so, why?

    Would very much appreciate your thoughts as always

    • I have difficulty with that same question (e.g, the 52:1 ratio). Its almost like the other base metals are subsidizing the cost of mining sliver. It seems, however that any slowing of industrial activity would slowly wipe away this advantage as less base metals get mined overall. Peak cheap oil would have the same effect of whacking all the metals, I’d imagine.

      Then there’s the 10:1 ratio that physically comes out of the earth. I don’t see how you can avoid that hard math for very long. How exactly can you maintain a 60:1 price ratio when there’s only a 10:1 physical supply? Especially when ~40% of the mined silver gets immediately CONSUMED for solar panels and 8 million other things. So that 10:1 ratio is probably more like 6:1 after you account for what’s been thrown into the landfills. I’m sure Steve or someone can tighten up my numbers but still….60:1 there’s no fucking way..

      • It costs 50-60 times more to extract and process gold than silver. That is where the price difference comes from. Not geological ratios.

        It probably has something to do with the gallons upon gallons of cyanide and environmental cleanup that adds the difference. but im not sure

        • Good point about the processing costs. But still, the amount that comes out of the earth is a hard limit no matter what. Eventually.

          I would also challenge anybody to watch this video and make a case that $20 is a reasonable price.
          http://www.youtube.com/watch?v=1dLtP9j31B8

          • 20 dollars is very cheap, but they can process silver at such a scale that 30 dollars or so allows for most miners a decent degree of profit.

            However, we are at a point in history where production costs are beginning what look to be at the early stages of an exponential rise. As a result, at some point silver will no longer be worth mining for.

            Belang in the video above, has said that we have not yet begun to see that decline in demand (peaking in extraction) as the trend as not diverged in recent years, but as production costs go up (which is inevitable) Steve’s Peak Silver theory will probably be a reality as the return on investment becomes negligent.

            Unlike most metals that will peak as well, silver and gold will always have human utility and they are so rare that there wont be “excess” reserves lying around. Silver and gold will always have value whether its monetary or for fabrication. Therefore, silver is an AWESOME investment heading forward especially at these insane prices.

  9. check out amazingly what solar is doing right now despite the economy. this seems quite bullish for the shiny metal

    http://www.evwind.es/wp-content/uploads/2013/06/PV-1995-2012.jpg

    • hmm

      I think any sort of energy future needs to come from the sun and photovoltaics and synthetic photosynthesis cells/batteries and these sources NEED silver for high energy returns. Silver can transfer energy almost 10% better than copper.

      However I think this is more the reality of the photovoltaic market in 2012.
      http://www.reuters.com/article/2012/12/31/silver-solar-idUSL4N09D2BB20121231

      “As a result, silver consumption by the industry plunged to 40 million ounces (1,244 tonnes) in 2012 after touching a record of more than 60 million ounces in 2011” (33% decline in a single year)

      Also,
      “It suddenly went from not counting for anything to 20 percent of cost for cell makers,”
      Any sudden increase in silver price could dramatically effect the photovoltaic market?

      It will be interesting following this market going forward…

      • Thanks for the article. I have no doubt that scientists and engineers will develop ingenious ways to minimize waste of this precious resource. In fact, that’s exactly why I think the artificially low price is really a crime against humanity because it discourages the natural market forces that this article alluded to.

        Imagine if we were to throw our precious conventional oil away by driving fat slobs to the box store to buy on credit worthless plastic shit for the landfill……….oh wait, we are doing that. never mind.

  10. Canadian Friend | January 5, 2014 at 12:01 pm | Reply

    I have a question,

    I’m in Canada. The easiest way for me to buy physical silver ( or gold but I prefer silver) is trough Scotia Mocatta ( owned by Scotia Bank )

    but here is the problem,

    right now the price of an ounce of silver is about $20.15 Canadian dollar, but Scotia sells it for $24.89.

    That is almost 20% markup… which makes it very hard to see a profit in the short term as for silver to gain more than 20% it may take more than a year,

    Is there anyway to buy silver at a better price anywhere in Canada?

    Or should I stick to buying silver mining company stocks? ( Hecla, SVM, etc )

  11. “Only so many bubbles in a bottle of soap”
    – Mr. Clean

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