With Gold over $1000 and at all time nominal high prices many are wondering if Gold is overpriced.
If we look at the inflation adjusted price of Gold we see that even at $1000 it is still only about half-way to its all time highs.
For more information see Inflation Adjusted Gold Price .
But that is just one way to look at the price by comparing it to U.S. dollars. We could also look at its price in Euros or at what the price looks like to the people in China or India. And each of those are based on the values of their currency and how much they are inflating.
But a different way to look at it would be in comparison to the price of other commodities. Theoretically in an ideal world, if the supply of currency is inflating, then all commodities should increase equally.
But in the real world that isn’t true. There are inequalities partially because money doesn’t flow equally initially. Eventually it will even out as traders arbitrage high priced commodities against lower priced ones.
But how do you know which commodities are over priced and which are under priced?
Very simply you just divide one price by the other to get a ratio. If we look at the ratio of Gold to Oil we will see how they relate without bringing dollars into the equation.
Assume for a moment that an ounce of gold is exactly $1000 and a barrel of oil is $100. Lets look at how many barrels of oil an ounce of gold would buy. You can just as easily divide it the other way but the numbers come out messier.
So we are looking at barrels per ounce of Gold. So if Gold is at $1000 /oz and Oil costs $100 per barrel it is obvious that one ounce of gold would buy 10 barrels of oil, right?
And if several years ago, gold was at $500 an ounce and oil was at $50 the ratio would be the same. So we need to look at the historical ratio and see what a reasonable number of barrels per ounce is.
We used the free market price of gold rather than the government fixed price of $35 / ounce. We also used the free market price of oil (called stripper) rather than the government fixed price for the period it was fixed.
From that we come up with the following table:
| Annual Average | # of bbl Oil 1 OZ Gold will buy | ||
| Gold and Crude Price | |||
| 1946-Present | |||
| Year | Average $/bbl | Average $/oz | Ave bbl / oz |
| 1946 | $1.63 | $38.63 | 23.696 |
| 1947 | $2.16 | $40.38 | 18.692 |
| 1948 | $2.77 | $42.38 | 15.298 |
| 1949 | $2.77 | $41.50 | 14.982 |
| 1950 | $2.77 | $39.00 | 14.079 |
| 1951 | $2.77 | $42.00 | 15.162 |
| 1952 | $2.77 | $39.45 | 14.242 |
| 1953 | $2.92 | $37.25 | 12.757 |
| 1954 | $2.99 | $35.38 | 11.831 |
| 1955 | $2.93 | $35.20 | 12.014 |
| 1956 | $2.94 | $35.18 | 11.964 |
| 1957 | $3.00 | $35.20 | 11.733 |
| 1958 | $3.01 | $35.25 | 11.711 |
| 1959 | $3.00 | $35.25 | 11.750 |
| 1960 | $2.91 | $35.85 | 12.320 |
| 1961 | $2.85 | $35.83 | 12.570 |
| 1962 | $2.85 | $35.35 | 12.404 |
| 1963 | $3.00 | $35.34 | 11.778 |
| 1964 | $2.88 | $35.30 | 12.257 |
| 1965 | $3.01 | $35.38 | 11.752 |
| 1966 | $3.10 | $35.40 | 11.419 |
| 1967 | $3.12 | $35.39 | 11.341 |
| 1968 | $3.18 | $39.68 | 12.476 |
| 1969 | $3.32 | $39.35 | 11.852 |
| 1970 | $3.39 | $37.40 | 11.032 |
| 1971 | $3.60 | $40.95 | 11.375 |
| 1972 | $3.60 | $57.30 | 15.917 |
| 1973 | $4.75 | $95.25 | 20.053 |
| 1974 | $9.35 | $156.15 | 16.701 |
| 1975 | $7.67 | $168.80 | 22.008 |
| 1976 | $13.10 | $130.25 | 9.943 |
| 1977 | $14.40 | $158.60 | 11.014 |
| 1978 | $14.95 | $221.55 | 14.819 |
| 1979 | $25.10 | $406.25 | 16.185 |
| 1980 | $37.42 | $672.60 | 17.974 |
| 1981 | $35.75 | $531.30 | 14.862 |
| 1982 | $31.83 | $420.75 | 13.219 |
| 1983 | $29.08 | $472.05 | 16.233 |
| 1984 | $28.75 | $382.20 | 13.294 |
| 1985 | $26.92 | $332.85 | 12.364 |
| 1986 | $14.44 | $411.80 | 28.518 |
| 1987 | $17.75 | $475.55 | 26.792 |
| 1988 | $14.87 | $472.05 | 31.745 |
| 1989 | $18.33 | $415.75 | 22.681 |
| 1990 | $23.19 | $411.35 | 17.738 |
| 1991 | $20.20 | $400.90 | 19.847 |
| 1992 | $19.25 | $368.85 | 19.161 |
| 1993 | $16.75 | $392.50 | 23.433 |
| 1994 | $15.66 | $411.10 | 26.252 |
| 1995 | $16.75 | $404.05 | 24.122 |
| 1996 | $20.46 | $384.55 | 18.795 |
| 1997 | $18.64 | $323.85 | 17.374 |
| 1998 | $11.91 | $293.95 | 24.681 |
| 1999 | $16.56 | $289.15 | 17.461 |
| 2000 | $27.39 | $290.23 | 10.596 |
| 2001 | $23.00 | $275.05 | 11.959 |
| 2002 | $22.81 | $313.73 | 13.754 |
| 2003 | $27.69 | $369.38 | 13.340 |
| 2004 | $37.66 | $414.63 | 11.010 |
| 2005 | $46.47 | $475.65 | 10.236 |
| 2006 | $58.30 | $623.38 | 10.692 |
| 2007 | $64.20 | $723.55 | 11.271 |
| 2008 | $91.48 | $859.35 | 9.394 |
| 2009 | $53.92 | $972.35 | 18.033 |
| Average | 15.562 | ||
| Source | |||
| Gold: | www.kitco.com | ||
| Oil: | http://www.ioga.com | ||
If we look at the ratio of Gold to Oil since 1946, the average turns out to be 15.562 barrels of oil per ounce of gold. Or 1 ounce of gold will buy about 15 ½ barrels of Oil on average.
If we look at the average ratio during 2008 one ounce of gold would only buy 7.35 barrels of oil or about half as much as normal. This tells us that either Gold was extremely cheap or Oil was extremely expensive (or both).
Unfortunately, since we pay for things in dollars we can’t tell whether (in dollars) gold is too cheap or oil is too expensive. All we know is either Gold is extremely cheap or Oil is extremely expensive. See full sized chart
But this is where arbitrage comes in… what we could do is buy gold and sell oil hoping the ratio would move toward normal.
Since then that arbitrage would have worked very well because the average during 2009 shifted to 18.033 or about double the ratio of last year. So at this point the opposite is true, either Gold is expensive or Oil is cheap (or both).
But don’t just go out and start buying oil and selling gold based on this chart. We are using Annual averages for easy comparison. These ratios change on a daily basis. So you need much more up to date information than what an annual chart will tell you. At the moment I am writng this the current price of oil is actually $73.75 a barrel but the annual average is only $53.92 and the current price of Gold is $1113 while the annual average is only $972.35. Using the data as of today we can see that $1113/$73.75 is $15.09 so it is extremely close to the average ratio of 15.56 meaning that Gold and Oil are both pretty close to being fairly priced at the current moment. But who knows what it will be by the time you read this.
For more information:
How to Forecast Gold and Silver Using the Wave Principle
How High will Gold Get?
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