Gold-crude oil ratio close to six-year low

Oil prices set to rise domestically and abroad, contrary to the expectation for gold

The ratio of the price of gold to the WTI (a particular measure) crude oil price is around a six-year low. Domestic traders say it is likely to fall further on probable weakness in gold prices, while crude oil is likely to go up.

The ratio tells how many barrels of crude oil are needed to buy one ounce of gold. Currently, it is 12.5, meaning  12.5 barrels of crude oil are needed to buy an ounce of gold. A rising ratio means more barrels of oil are needed to buy an ounce of gold and vice versa.

Priti Gupta, head of commodities trading at Anand Rathi Securities, said: “There is a very close relationship between this ratio and the strength of the global economy, particularly the US economy. When the ratio is falling, it denotes that oil is becoming expensive (in a relative sense) to gold. This typically happens in a strengthening economy, when improving macro economic conditions increase the demand for crude oil, while at the same time reducing demand for safer assets such as gold.”

In July 2013 and on June 16 this year, the ratio was at 11.8-11.9. The past low of 11.34 was seen in November 2008, when world economies had been hit by the financial crisis. After 2008, the ratio was rising as economies started weakening, leading to a higher safe haven demand for gold.  Currently, the ratio is falling because of accelerating economic conditions in the US and receding tail risks across the globe, with demand for gold falling. Says Gupta: "We expect the ratio to continue consolidating.”

Apart from trading interest, macro analysts also track the ratio because rising crude oil prices lead to inflationary pressure, which in turn increases the demand for gold to hedge against inflation.

Nic Brown, head of commodities research at Natixix, said: “Heightened geopolitical risks in the Middle East, currently centred on Iraq, risk pushing oil prices higher. This raises the prospect of an increase in inflationary pressures, in particular for those countries heavily dependent on energy imports. Whether gold prices push higher in such a scenario will depend crucially upon whether central banks are prepared to respond to this rise in inflation by tightening monetary conditions. Last week, (US) Fed Chair Yellen’s comments indicated it was in no hurry to raise US rates, at least until US wage pressures began to increase. This led to the sharp rise in gold prices. Going forward, if central banks are unwilling to respond to an oil-inspired rise in inflationary pressures with a tightening of monetary conditions, then gold prices are likely to rise, alongside any increase in oil prices.”

Traders in India are betting on a lower ratio. Those who trade in the ratio are selling gold and buying crude oil, which means the ratio will fall. Ajay Kedia, director, Kedia Commodities, said: “There is a strong possibility of reduction in import duty in the Union Budget, which is a few days away. Hence, the gold price will come down to the tune of reduction in import duty. From mid-July in the US, the hurricane season begins. In the past, whenever there was a hurricane in the US, WTI crude oil prices have gone up.”