What’s Up With Silver?

With the recent dramatic sell-off in the silver spot price, we no doubt have many investors scratching their heads as to what is happening in the silver market, and questioning whether the sell-off will continue. 
 
Gold has finished the week higher and at the time of writing sits at AUD$1,674.00 per ounce. Silver, though, has continued to go counter-trend and finished the week lower at AUD$19.89 per ounce – $14 per ounce in US dollar terms.
 
The sell-off can be seen in the daily chart above, and similar to the recent bottom in gold ,we are experiencing a period of significant negative sentiment towards silver and a massive build up in large speculators’ short interest.  
 
Fundamentally, we have seen recent US dollar strength combining with trade war fears that have weighed on the metal, since silver’s industrial demand prospects are dimmer as the U.S. trade disputes with China, Mexico, Canada and other global powers drag on.
 
Silver traders have either been throwing in the towel if they were long, or piling it on if they’re short, and we are seeing a very similar setup to the recent bottom in gold at US $1,165.00, where we had positions at extremes and a complete capitulation in price, putting in a medium term low.
 
We commented at the time that these scenarios of excessive bearishness are usually associated with market bottoms as opposed to market tops and usually provide the best buying opportunities for those that are long-term focused.
 
We see this recent sell-off in silver in similar light, and think a medium-term low for silver could be close. We cover a few reasons below as to why.

GSR Explodes Higher

Trade war fears have had a big impact on commodities in general this week, and as silver is more of an industrial metal than gold, we see a spike in the Gold Silver Ratio (GSR) to 85.56, as seen in the chart above.
 
The rapid move in the ratio looks like a blow-off top and is at risk of seeing some sort of correction in the near term, as historically, the average ratio is much lower, and we are approaching the highest point since 2008.

Source: Bloomberg
  
Silver is only suited to contrarians at this point as it has become one of the most hated commodities in recent times, but there are signs of support on the horizon. If we zoom out to a weekly chart, we can see we are approaching the 2016 lows of around $13.90, and can expect some strong support around the $13.90 - $14.00 level. It will be very encouraging if we see this area hold and a price rally from here, but if silver breaks through this on the downside, we could see a further capitulation in price, as these multi year areas of support can cause panic selling if they fail. You would have to go all the way back to 2010 to see lower prices than where we are today, so if we do hit fresh lows, it’ll be hard to gauge where the next potential areas of support will be. The main support area is highlighted in green in the weekly chart below, and we’d hope to see a bounce of this level moving forward.

Physical Silver Demand Spikes

Despite lower prices and the dumping of paper derivatives, physical silver demand at ABC Bullion has seen a pick-up, and Kitco reported that the U.S. Mint even temporarily sold out of its 2018 Silver American Eagle coins. In August, the U.S. Mint sold 1.53 million one-ounce American Eagle Silver coins, up 72% from the previous month.
 
Often we see a spike in physical demand coinciding with market lows, and a look back on our previous market update from the 17th of August here that we highlighted the date of the 16th of August as day of extremely high physical gold demand and trading activity, with a belief that this day would be a significant low. Indeed – that very day was the lowest gold was at $1,610, some $70 lower than today.

The Great Rotation

Many of our clients see gold and silver as core strategic positions in their portfolio to provide a hedge if things go pear-shaped in other more common asset classes such as equities. There are signs appearing on a very long-term level that suggest we are nearing a point of inflection. 
 
We have talked about the valuation in global equities in the past few updates, yet US shares continue to march higher completely oblivious to the threat of tightening monetary policy, and unfazed by Trump’s trade wars.
 
We are keeping a close eye on the Nasdaq in particular which currently has a P/E ratio above 25x trailing earnings, which is incredibly high for an index. The move since 2009 seen below is nothing short of incredible.

A recent chart from Bloomberg highlights the question: is it time to rotate into commodities?
 
We can see in the chart below that commodity prices as measured by the S&P GSCI VS the S&P500 are at the lowest level in relative terms since the 1970s and well below the mean. This makes sense when you see the massive bull market equities have been in versus the relentless selling of commodities during this latest ‘trade war’ period.

Indeed, if the trade war rhetoric dies down, we could look back on this period as a good opportunity to be selling out of tech stocks with high multiples and reallocating some funds towards commodity related assets, or precious metals.

Until next time,
 
John Feeney
ABC Bullion

Disclaimer
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