The simple theory is that the bigger they are, the harder they fall. And with silver's parabolic rise being way more outrageous than gold, it stands to reason that any pullback or correction will be just as rough on the former than the latter. That despite the fact that there are some differences to the fundamental drivers behind the rally for both precious metals.
However, the other point that can be made is based on the mean reversion theory with regards to the gold-to-silver ratio. This is something that was pointed out already two weeks ago here.
The ratio before the latest drop this morning stood somewhere around 47 to 49. And that's well below the supposed 80/60 rule seen above, though some market players will argue that the true rule is something closer to 80/50. So, make what you will of that.
In any case, we have reached a rather stretched point in the ratio here and that means something has got to give eventually. That if you believe historical precedence and the mean reversion value of the two precious metals.
As mentioned before this at the time of the linked post:
"The point to be made here is not that market players are undervaluing gold, not by the littlest bit. As mentioned above, gold itself has also risen by over 40% in the last six months or so. And for any asset class, that's an incredible run on its own merit.
The thing to be mindful of here is that when something moves in a straight line too quickly, the pullbacks can be just as violent.
So while the silver rally is quite something to behold in starting the new year and moving above $90 today, just be mindful that the pace of the rally is starting to challenge some trading axioms and comfort boundaries.
In that lieu, any retracements in precious metals look likely to punish silver much more than it would gold. That is if you are to go by the mean reversion theory tied to the gold-to-silver ratio.
From a fundamental standpoint, the stars are continuing to stay aligned for gold and silver to stay hot over the medium-term. But as always with consensus trades, there's a certain element of danger when it comes to too one-sided positioning. And that is the pullbacks, whenever and however they come, can be sharp and violent."
Just something to keep in mind.
