Is Gold Too Low Compared to Oil - Or Is Oil Just Too High?

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If oil tumbles, what will happen to the gold price? One suspects that initially the gold price may fall back sharply as well. Investors may have to be prepared for a very bumpy ride. But at some stage recognition will dawn on the market that what drives the gold price is not oil alone - indeed this much should be obvious as on the way up record oil prices have not been followed by record gold prices.

As commentators have noted, the gold to oil ratio remains near all time lows which could suggest gold is seriously undervalued. With gold at $880 per ounce and oil at $135 per barrel, the gold/oil ratio is now at 6.5. The average for the last 40 years has been around 15. But does this mean gold is too low, or perhaps that the oil price is unsustainable at current levels and has to come down sharply and quickly. It depends on which side of the fence you are sitting as to which viewpoint you take.

One suspects that the reality is actually somewhere between the two. It would see that the price of oil is currently way higher than the supply demand equation would suggest. Some of the rapid increase seen of late mirrors and exceeds that of the late 70s oil crisis, while the extremes are even greater in real terms this time as there has been rapidly rising demand in the developing world. Even so there is a strong feeling that today's price levels are not sustainable and, if this is the case, one suspects that the price of oil is set for a major tumble within the next few months - or even weeks.

If this happens, what will happen to the gold price? One suspects that initially the gold price may fall back sharply as well. Investors may have to be prepared for a very bumpy ride. But at some stage recognition will dawn on the market that what drives the gold price is not oil alone - indeed this much should be obvious as on the way up record oil prices have not been followed by record gold prices. The gold price peak was independent of the oil peak and even the fall and rise of the dollar is only having a relatively limited impact on the gold price at the moment.

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