By Dr. Osman Gulseven
The April 2013 crash of gold (GLD) and silver (SLV) prices triggered a wave of panic across the globe. As large institutional investors dumped holdings in gold ETFs, prices for both precious metals spiraled downward. Even bullish gold fanatics were forced to dissolve long-term positions due to margin calls and stop-loss orders coming into play.
Silver, with its affinity to gold prices, also saw its prices tumble down over the same period. The white metal had already entered a bear market in early April when prices reached 27.47 an ounce. By the time gold prices had crashed, silver dropped almost 40% to the $22 mark from its 2012 high. On the other hand, gold fell roughly 20% from its October 2012 peak, signaling perilous times ahead for the two commodities.
Those still holding onto gold and silver assets, including government reserves worldwide, saw massive devaluations over a 2-day period. Weeks prior to the crash, the iShares Silver Trust held their highest inventory levels in almost two years.
An extra dose of volatility
For several months, sentiment around both precious metals was already mixed as the equity market proved to be more attractive. The S&P 500 posted solid gains despite uninspiring economic data in 2012, while gold and silver continued declining from already depressed 2012 levels.
Much of the appeal for gold and silver is related to its ability to retain high value during periods of inflation. As other markets began showing more growth, having either metal as a hedge became fundamentally less important.
While investors are more confident in holding onto gold investments, silver is more readily disposed of especially in the ETF and futures market. Before the gold crash drove down silver prices further, silver was already in a bear cycle at the beginning of the month. Bear markets for silver are more common. Since 2004, there have been 11 cycles noted while gold was in a 12-year secular bull run up until last month.
Price movements for silver are also more volatile. In April, its volatility exceeded 50% while gold only reached 30%. Year-to-date average volatility for silver hovered around the 30% mark with gold usually below 20%. These numbers show the relative stability of gold prices compared to silver. Price movements of silver also often closely follow trends set by gold prices.
Standard & Poor's GSCI gauge of 24 commodities also shows silver as the leading loser on many occasions post the crash.
Growth Driven by Industrial Demand
Though investments in silver can be driven by fears of inflation and currency devaluation, much of its real demand is in the industrial sector. 46% percent of the global demand for the annual silver output comes from manufacturers of consumer goods, compared to only 9% for gold.
Silver is widely used in electrical and electronic components due to its excellent conductivity and thermal properties. Cars, mobile phones, DVDs and televisions are just some of the more common devices which require some amount of silver to build.
Newly emerging devices like smartphones and tablets have significantly less silver content compared to traditional feature phones and PCs. Nevertheless, many of the mature technology sectors will continue to sustain the silver market over many years to come.
The automotive sector also consumes a significant amount of silver for various electronics found in all types of vehicles. With new vehicles featuring more electronic aids and devices for convenience and safety, demand for silver from this sector will increase further.
Another large market for silver resources is the solar cell industry, which has been in a downturn of its own. Solar cells require a large amount of silver paste for the front and back of the panels. After experiencing a boom of new installations in recent years, the solar market is maturing and becoming more cyclical.
Industrialized economies have been showing lackluster manufacturing data, which have negatively affected silver consumption ever since the 2008 financial crisis. Forecasts of sustained economic recovery combined with growth of emerging markets such as China and India will lift silver demand overall.
Higher Premiums for Physical Silver Assets
Meanwhile, silver coin sales of the U.S. mint have been reaching record highs. In January, the mint had to suspend sales due to selling out its entire inventory of coins. After a week, sales resumed and total January sales reached 7.42 million ounces. Compared to December 2012, sales grew a whopping 84%, as worries about the fiscal cliff and inflation lingered at the end of 2012. Overall, this was the largest monthly sales figure recorded by the mint since 1986.
When prices fell in April, physical gold and silver were being bought left and right in different parts of the globe. This was quite visible in the largest traditional markets for both precious metals: China and India. Dealers of bullion and jewelry have been tacking on large premiums on silver products in light of the demand.
Supply Surplus and Future Pricing
An abundant supply of silver may also pose problems in the long term if the expected industrial demand does not materialize. This scenario could see prices dip to below $20 an ounce. In 2012, mining operations produced a record 787 million ounces, a 4% increase from the previous year.
Some silver miners can achieve an all-in cost of $14 for every ounce of silver produced. Though prices are well below 2012 numbers, strong support seems to appear at $22, still well above mining costs. The decrease from the 2012 average of $30 will certainly affect cash flow and earnings for mining companies going forward. In contrast, platinum prices have dipped to breakeven levels and gold is also trading very close to production costs at $1,300.
While recent activity in commodities has been uninspiring, silver has many growth drivers ahead of it to support current price levels. Its recent decline was motivated by the large swings in gold ETF prices rather than physical or industrial demand. This may change over time if manufacturing and economic activity do pick up. However, forecasts for 2013 only show mild growth, with 2014 showing more sustainable recovery. Before then, there will likely be more buying opportunities for silver especially in the ETF market in the short term. The range of volatility for silver may also be more attractive for the day trader interested in precious metals.