Silver Outperforming Gold: Update
Silver has blasted higher in the last couple weeks, far outperforming gold. This is certainly noteworthy, as silver has stunk up the precious-metals joint for years. This deeply-out-of-favor metal may be embarking on a sea-change sentiment shift, finally returning to amplifying gold’s upside. Silver is not only radically undervalued relative to gold, but investors are aggressively buying. Silver’s upside potential is massive.
Silver’s performance in recent years has been brutally bad, repelling all but the most fanatical contrarians. Historically silver prices have been mostly driven by gold, with the white metal amplifying moves in the yellow metal. Silver has generally leveraged gold by at least 2x in the past. And rarely silver skyrockets as higher prices and bullish sentiment feed on themselves in powerful virtuous circles fueling huge gains.
Silver’s legendary upside is largely the result of it being such a tiny market. Silver’s leading fundamental authority is the Silver Institute. In its latest World Silver Survey covering 2018, it reported that total world demand ran 1033.5m ounces last year. That was worth a mere $16.2b at 2018’s average silver prices, a rounding error in markets terms. That was just 1/11th the size of last year’s world gold demand worth $179.4b!
So when investors grow interested in silver again and start deploying capital, relatively-small inflows in absolute terms catapult silver far higher. This classic dynamic last worked in 2016. In roughly the first half of that year, silver rocketed 50.2% on the parallel 29.9% maiden upleg of this current gold bull. That made for 1.7x upside leverage to gold, remaining on the weaker side historically but still well worth riding.
Through gold suffered a severe correction in the second half of 2016, it still ended that year 8.5% higher. Silver’s 15.1% gain amplified that by 1.8x. The secret to gaming silver is it tends to act like a sentiment gauge for gold. When gold is relatively high and has been rallying, traders start assuming that will persist. And that’s when they want to buy silver. The white metal thrives mostly only when gold psychology is bullish.
In 2017 and 2018 gold fell deeper out of favor. The yellow metal wasn’t performing poorly, but it couldn’t break out to new bull-market highs. And contrarian investing was dying, with stock markets levitating to endless new record highs on hopes for big tax cuts soon and extreme Fed dovishness. With gold apathy stellar, silver didn’t stand a chance. Silver sentiment and thus price performance is totally controlled by gold.
Even though gold rallied a strong 13.2% in 2017, silver lagged at mere 6.4% gains. That 0.5x leverage to gold was terrible. The longer silver underperformed, the more traders capitulated on it and walked away. 2018 was even worse. Though gold only drifted 1.6% lower, silver plunged 8.6% making for horrendous 5.5x downside leverage. Silver wasn’t worth the big additional risk of its serious volatility compared to gold.
Thankfully silver’s dire fortunes started to change in early 2019, when I wrote my original essay on Silver Outperforming Gold. But unfortunately that was short-lived, as silver is slaved to gold. In mid-February the young gold upleg stalled out and reversed lower, after failing to break out to new bull-market highs. That kneecapped silver’s budding outperformance streak, casting it back to the underperformance wasteland.
By June 19th, silver was back to its recent miserable form. It was down 2.1% year-to-date despite gold enjoying a respectable 6.1% YTD rally. While we were taking advantage of the hellish sentiment to buy and recommend fundamentally-superior silver-mining stocks at crazy-low prices in our newsletters, it was hard to write about silver. Virtually no one was the least bit interested, with suffocating apathy universal.
But silver started awakening from its bearish haze on June 20th, kicked in the butt by an extraordinary watershed event. That day gold finally surged to its first new bull-market high since way back in early July 2016, when this bull’s maiden upleg peaked! Gold’s $1389 close was also its highest in 5.8 years, starting to unleash powerful new-high psychology. In the 5 weeks since, that has increasingly infected silver.
Silver didn’t respond immediately to gold’s decisive bull-market breakout. On breakout day it stuck to its languid ways, only rallying 1.8% on a major 2.1% gold up day. The silver price action actually stayed relatively weak for the next several weeks. By July 11th gold was 3.4% higher from the day before that major breakout, while silver slumped 0.3% lower. But something interesting was brewing behind the scenes.
Silver investment demand is notoriously difficult to monitor. The best fundamental data available for this white metal is again from the Silver Institute’s World Silver Survey. But as awesome as that is, it is only published once per year. There is a high-resolution proxy for silver investment demand available daily though, the physical-silver-bullion holdings of the world’s largest and dominant silver exchange-traded fund.
That is the American SLV iShares Silver Trust, which has a huge first-mover advantage after launching way back in April 2006. As of the end of 2018, the Silver Institute’s data showed SLV commanded fully 49% of all the silver held by all the world’s silver ETFs! SLV’s holdings are published daily, and when they climb it reveals American stock-market capital flowing into silver. This dynamic is important to understand.
SLV’s mission is to track the silver price, giving stock traders full silver exposure. But the SLV-share supply and demand is independent of silver’s own. If stock traders are buying SLV shares faster than silver itself is being bought, SLV’s price will decouple from silver’s to the upside. SLV’s managers prevent this by shunting that excess share demand back into physical silver itself. The mechanics are simple in concept.
When SLV prices are being bid up faster than silver, new SLV shares are issued to absorb that differential demand. The capital raised from selling those shares is then used to buy more physical silver bullion. This enables SLV to act as a conduit for stock-market capital to flow into and out of silver itself. When SLV shares are sold faster than silver, this process reverses. SLV holdings reveal silver investment trends!
While silver was drifting sideways to lower in the first half of July and looking unimpressive, American stock investors were starting to buy SLV. Between July 2nd and 9th, SLV enjoyed daily holdings builds averaging 0.7% in 4 out of 5 trading days! At the same time the leading gold ETF’s holdings, which is of course the GLD SPDR Gold Shares, were mostly draws. Silver was attracting investors while gold wasn’t.
With gold consolidating high and largely holding over $1400, precious-metals sentiment was improving. After long ignoring gold and silver, investors were starting to take another look. Silver had not only really lagged gold’s breakout rally since mid-June, but it was radically undervalued compared to its dominant primary driver gold. We’ll explore that shortly. So smart contrarians were starting to shift back into silver.
This didn’t first become evident in silver’s price action until July 15th, just a couple weeks ago. That day silver rallied 1.2% despite gold only edging 0.1% higher. That was peculiar and out of character for silver in recent years, so it could’ve been an anomaly. But it proved otherwise. As of this Wednesday’s data cutoff for this essay, silver has outperformed gold in a major way for 8 trading days in a row! That’s incredible.
On the 16th silver climbed 0.9% while gold fell 0.9%. On the 17th and 18th silver surged 2.6% and 2.3% on 1.5% and 1.4% gold up days. The 19th saw silver only retreat 0.7% as gold dropped 1.4%. Then on the 22nd and 23rd silver rallied 1.0% and 0.2% despite gold’s 0.1% and 0.5% declines. This Wednesday the 24th saw silver climb 1.1% outpacing gold’s 0.6%. Such a strong outperformance streak is important.
Thus in the past couple weeks or so, silver has blasted 9.7% higher despite a mere 1.3% gold rally! That makes for epic 7.4x upside leverage, the kind silver enthusiasts dream about. This outperformance stretch is even more impressive because it was driven by big capital inflows into SLV by American stock investors returning to silver. As of this Wednesday SLV saw strong holdings builds for 6 trading days in a row.
That started with a monster 2.6% SLV build on the 17th, which proved the biggest seen by far since way back in January 2013! Gold largely holding over $1400 rekindled American stock investors’ interest in silver in a way not seen in 6.5 years. Over the next 5 trading days ending Wednesday, SLV’s holdings grew another 0.8%, 1.0%, 2.6%, 0.5%, and 0.5%. This silver-investment-buying streak is pretty amazing.
While silver’s outperformance of gold has exploded only in the last couple weeks, it has totally changed how silver looks since gold’s decisive bull-market breakout on June 20th. As of Wednesday, silver has now rallied 9.3% over that 24-trading-day span compared to gold’s 4.8% gain. That’s right back up to that historical 2.0x-upside-leverage norm. SLV’s holdings enjoyed 13 build days, 11 flat days, and 0 draw days.
They have catapulted SLV’s holdings 12.6% higher since the day before gold’s breakout. Via this leading ETF, American stock investors are now holding 1/8th more silver in absolute-ounces terms in just 5 weeks. Over this same span GLD’s holdings only climbed 7.6%. And it only saw 8 holdings-build days, 5 flat days, and a whopping 11 draw days. Something special, major, and likely pivotal is underway in silver!
Nevertheless, silver remains in an ugly place compared to gold. YTD as of this Wednesday, silver was just up 7.1% compared to gold’s 11.1%. Gold’s $1445 upleg-to-date high achieved on July 18th was its best level seen in 6.2 years. Silver’s own upleg-to-date high of $16.55 this Wednesday was merely a 1.1-year one. So though silver has started to outperform gold again, it has a long way to go to look impressive.
There’s no sugarcoating it, the carnage in silver in recent years has been catastrophic. Thanos himself couldn’t have done worse with a fully-stoned Infinity Gauntlet! While there were a half-dozen silver charts I considered sharing this week, this one is the most telling. It shows the Silver/Gold Ratio over the past decade-and-a-half or so. This SGR is the best measure of whether silver prices are relatively high or low.
The SGR simply divides the daily silver close by the daily gold close, but yields hard-to-parse decimals like 0.0116 this Wednesday. So I prefer to use an inverted-axis Gold/Silver Ratio instead, which is the same thing but offers easier-to-understand numbers like 86.1 mid-week. Silver prices had almost never been lower relative to gold in modern history before recent weeks! Silver is climbing out of a stygian abyss.
Back in mid-June just before gold’s decisive bull-market breakout changed everything, the SGR had fallen to an absurd 90.4x. In other words it took 90.4 ounces of silver to equal the value of a single ounce of gold. That was wildly out of whack with historical precedent. From 2005 to just before 2008’s first stock panic in a century, the SGR averaged 54.9x. From 2009 to 2012 after that panic, it averaged a similar 56.9x.
The SGR had generally meandered in the mid-50s for decades, so miners had long used 55.0x as the leading proxy for calculating silver-equivalent or gold-equivalent ounces. The SGR also experienced great cycles, long secular periods of silver outperformance where the SGR generally fell followed by multi-year spans of silver underperformance where the SGR rose on balance. SGR extremes were short-lived.
As gold surged over this past month, the SGR spiraled higher still to a mind-boggling 93.5x on July 5th. That was an apocalyptic 26.8-year low, the worst silver levels relative to gold since October 1992. That is longer than the average investing lifespan of today’s traders, over a quarter century! And 93.5x isn’t much better than the worst SGR since 1970, 100.3x seen briefly in February 1991. Silver has just been slaughtered.
For an incredible 8.2 years the SGR had been rising on balance, showing chronic underperformance relative to gold. This secular cycle is far-overdue to turn, and after extreme lows historically silver has spent years mean reverting higher relative to gold. 2008’s extraordinary stock panic offers a fantastic recent example of how greatly silver can soar after being battered down to extreme lows relative to gold.
Back in November 2008 in that most-extreme market-fear event seen in our lifetimes, the SGR was crushed to 84.1x. Silver was radically undervalued relative to gold, investors wanted nothing to do with it. Such a great disconnect between silver and gold wasn’t sustainable given their relative market sizes and the ratio at which they are mined. So over the next 2.4 years into April 2011, silver skyrocketed 442.9% higher!
After SGR extremes silver doesn’t just revert to the mean, but overshoots proportionally towards the opposite extreme. The SGR fell as low as 31.7x when that silver bull peaked over $48 per ounce. Odds are the SGR will again overshoot and at least return to the 40s before silver’s next bull fully runs it course. With silver not far off its lowest levels compared to gold in modern times in early July, it has vast room to soar.
Gold’s current bull market was born in mid-December 2015, and is what has driven silver higher during gold-bull uplegs. Since then, the SGR has averaged just 77.8x. That is actually higher than during that wild stock-panic span in late 2008, incredibly extreme! Over the past several weeks or so, the SGR has already started mean reverting falling as low as 86.1x this week. Silver’s upside potential from here is epic.
At $1400 gold and this miserable gold-bull-average 77.8x SGR, silver would need to trade at $18.00. That’s another 9% higher from this week’s levels. But again mean reversions off extremes don’t just stop at the averages, but keep going like a pendulum. That yields an SGR target of 62.1x, implying $22.56 silver at $1400 gold. Silver would have to power another 36% higher to regain those still-pathetic SGR levels.
If gold’s young secular bull persists for years to come as it ought to based on historic precedent, silver is going to climb far higher greatly lowering the SGR. If it just mean reverts back to that longstanding 55.0x average with no overshoot, that means $25.45 silver at $1400 gold. These SGR-mean-reversion-and-overshoot silver-price targets grow far bigger at higher prevailing gold prices and proportional-overshoot SGR lows.
The point of all this is silver is so radically undervalued compared to its primary driver gold that it needs to soar vastly higher to reestablish normal relationships. While silver’s outperformance over the past couple weeks is impressive, it hardly even registers coming off such extreme lows. Digging out of such a deep hole relative to gold, silver needs to rally higher on balance for many months or even years to come!
While investment buying including via silver ETFs like SLV will be the primary driver, silver futures will also play a big role. A couple weeks ago I wrote about gold’s high short-term selloff risk due to how the gold-futures speculators are now positioned, with excessively-bullish bets that are actually very bearish over the near term. A healthy gold pullback or correction would certainly drag silver down with it for a spell.
The most-bullish situation possible for gold- and silver-futures is for speculators to be all-out long upside bets and all-in short downside bets. That leaves them nothing to do but buy. That is 0% longs and 100% shorts. In the latest weekly Commitments of Traders report, specs’ gold-futures bets were running 75% on the long side and 10% on the short side up into their entire bull-market trading ranges. That’s really bearish.
By bull-to-date precedent, gold-futures speculators had room to sell 347.4k contracts but only room to buy 80.5k. That made for an ominous 4.3x ratio of potential selling outweighing potential buying. I bring this up because speculators’ silver-futures positioning was nowhere near as menacing. They are running 66% on the long side and 44% on the short side up into their gold-bull-market trading ranges, much less bearish.
Speculators had room to sell 97.4k silver-futures contracts and buy 65.8k in the latest CoT report, for a way-more-moderate 1.5x ratio of potential selling to potential buying. The takeaway here is silver has a lot more near-term futures-buying-driven upside potential than gold does. Together silver investment buying and silver-futures buying are powerful forces to catapult silver higher. But it all depends on gold.
If gold continues to consolidate high above or near $1400, that will foster the bullish sentiment necessary for silver buying to persist. New-high psychology driving gold investment buying could make this happen. But if something spooks the gold-futures speculators, they have massive room to sell which would quickly cascade and hammer gold lower. That would suck in silver, driving both into healthy short-term corrections.
But once speculators’ excessively-bullish gold-futures bets normalize, gold and silver should be off to the races again with silver really outperforming. So any material weakness should be used to aggressively accumulate physical silver bullion, SLV shares, and stocks of fundamentally-superior silver miners. Their upside potential trounces silver’s because their profits growth really amplifies higher prevailing silver prices.
Again silver soared 50.2% higher in largely the first half of 2016. The leading SIL Global X Silver Miners ETF rocketed a colossal 247.8% higher in essentially that same span! That made for huge 4.9x leverage to silver’s gains. Every quarter I analyze the fundamentals of the major silver miners of SIL, with the latest essay covering Q1’19 results. Now is the time to do your homework before silver really starts running again.
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The bottom line is silver really started outperforming gold again in the last couple weeks. Silver surged dramatically on heavy investment buying, as evidenced by big differential SLV-share demand. This looks like a sea-change sentiment shift getting underway in silver, especially after it was crushed to its lowest levels relative to gold in well over a quarter century. Silver is long overdue to mean revert vastly higher.
Silver effectively acts like a gold sentiment gauge, with investment demand dependent on gold’s fortunes. The longer gold consolidates high or grinds higher, the more silver will be bought. Coming out of such radically-undervalued levels, silver’s future bull-market upside should greatly exceed gold’s. But silver will also get sucked into periodic gold corrections, which can be used as lower entry points to add silver positions.
Adam Hamilton, CPA
July 29, 2019
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