Moving back to the predictive power of the ratio, the important thing is that the medium-term trends tend to be aligned and the same goes for the major tops and bottoms. The exception is the 2011 top, but this top was truly exceptional (the final gold-euphoria-driven top), so it doesn’t seem to invalidate the above general rule.

The shape of the relationship is not crystal clear, though. Not all bottoms and tops in the ratio imply important bottoms and tops in gold. On the other hand, almost all important bottoms and tops in gold were seen along with an important top in the ratio. What does it mean? That one shouldn’t use the ratio alone as a way to determine whether a major bottom or top is in, but it is very useful as a confirmation for gold’s extremes. In other words, if the ratio is likely forming a top or bottom and there are other reversal signs from the other markets, then the performance of the gold stocks to gold ratio further increases the reliability of these signs, but if there are no other reversal signs, then the gold stocks to gold ratio itself doesn’t indicate a reversal in a reliable way.

So, where can we expect the above ratio to bottom? For details let’s examine the inverse version of the ratio (gold to gold stocks) as it’s easier to discuss targets that are above 1 than fractional ones).

http://stockcharts.com

The target area is between 10.5 and 14, which (with gold below $1,000) could correspond to the HUI Index between 80 and 60. The target area is based on the 2015 top, the rising long-term resistance line (based on the 2000 and 2015 tops) and the second rising resistance line (based on the 2008 and 2015 tops).

The additional technique that we used are the Fibonacci extensions. They work similarly to the Fibonacci retracements – they differ because the latter provide targets between the levels that were already reached, while the former is usually used to provide targets outside of the previous trading range. In this case, we get a confirmation of the target based on the more short-term resistance line around the 14 level.

The remaining two techniques point to 10.5 – 11 as the next resistance. Which of these levels will stop the rally in the gold to gold stocks ratio? At this time it’s unclear, however, it doesn’t really matter that much as – as we explained earlier – the ratio is not to be used as a buy or sell signal on a stand-alone basis, but rather as a confirmation of other signals (thus we will look at other factors first and then check if the ratio confirms them, not vice-versa). So, if, for instance, we see the ratio at 10.7, but no meaningful signals from other long-term indicators, it’s not likely that the top is in yet.

Conversely, if there were meaningful long-term buy signals and they were seen when the ratio was at 13.6, we would view them as confirmed and even more meaningful, even though the ratio was only close to its target and not yet right at it.

Having said that, let’s move to the gold to bonds ratio.