INVESTIGATING THE RELATIONSHIP BETWEEN GOLD AND SILVER PRICES

This paper analyses the long-run relationship between gold and silver prices. The three main questions addressed are: the influence of a lar ge bubble from 1979:9 to 1980:3 on the cointegration relationship, the extent to which by including error-correction terms in a non-linear w ay we can beat the random walk model out-of-sample, and the existence of a strong simultaneous relationship between the rates of return of g old and silver. Different efficient single-equation estimation techniq ues are required for each of the three questions and this is explained within a simple bivariate cointegrating system. With monthly data fro m 1971 to 1990, it is found that cointegration could have occurred dur ing some periods and especially during the bubble and post-bubble peri ods. However, dummy variables for the intercept of the long-run relati onships are needed during the full sample. For the price of gold the n on-linear models perform better than the random walk in-sample and out -of-sample. In-sample non-linear models for the price of silver perfor m better than the random walk but this predictive capacity is lost out -of-sample, mainly due to the structural change that occurs (reduction ) in the variance of the out-of-sample models. The in-sample and out-o f-sample predictive capacity of the non-linear models is reduced when the variables are in logs. Clear and strong evidence is found for a si multaneous relationship between the rates of return of gold and silver . In the three type of relationships that we have analysed between the prices of gold and silver, the dependence is less out-of-sample, poss ibly meaning that the two markets are becoming separated. (C) 1998 Joh n Wiley & Sons, Ltd.