Thursday, May 3, 2012

Today’s extreme divergence in oil and gold stocks and their underlying commodities presents a rare opportunity

As evidence of that extreme divergence, we direct your attention to this three-year chart of West Texas Intermediate and an index of oil stocks. The two tracked fairly tightly... until stocks fell out of bed last August.

“Over the past three years,” he says, “the price of oil and the index have had an average ratio of 0.21. Currently, it’s 0.26. That may not seem like a big difference, but today’s ratio represents a three-year high and is a 3.13 standard deviation event.”

“This means the divergence between oil and oil stocks is in ‘extreme territory’ and, under normal assumptions, there is a 99% probability that the gap will close.”

“Either the price of oil should come down or oil stocks go up, or a combination of both.”

   “Gold and gold stocks are also experiencing extraordinary circumstances,” Mr. Holmes goes on.

Gold stocks spent most of the last three years outpacing bullion... a trend that’s reversed big-time in recent months.

“The price of bullion and the NYSE Arca Gold Miners Index (GDM) have had a three-year average ratio of 0.94,” Frank explains. “Similar to oil and oil stocks, the ratio is now 1.28, a 3.06 standard deviation event.”

Or in layman’s terms, a buying opportunity...

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