It’s that time of year again, folks. Welcome to September.
For all the commentary about gold entering its period of seasonal strength, within the realm of silver much of the attention has been focused on whether the white metal can break $20 on a sustained basis. While much of the recent media attention has been focused on gold setting new all-time highs, silver is nearing a showdown with the key $20 psychological and technical level. This echoes the debate that was taking place at this time last year regarding gold’s ability to break $1000.
As many vividly remember, in 2008-09 gold approached the $1000 level three times, only to fall at the final hurdle or to breach and then correct downward. When it finally broke the level meaningfully in October 2009, it has maintained a healthy barrier above $1000 ever since. The gold/silver ratio is currently above its 50-year average of 45-50, closing yesterday at 64.27. By this measure, at a ratio of 50, $1000 gold would imply $20 silver. As of yet, this has not come to pass, leaving a window of opportunity open for investors.
The last time silver broke $20, albeit briefly, was in March 2008. From September 2007 to early 2008, gold and silver both rocketed 50% higher, breaking resistance in early 2008 and gaining nearly every day the first few months of the year. By March, technicals for each were grossly overextended. Then, just as gold broke $1000 and silver broke $20, came Bear Stearns. It was well known on Wall Street that Bear Stearns held a large commercial short position in silver, and indeed one contributing factor to the run-up involved traders pricing in the possibility of this position being liquidated in a disorderly fashion. When it became clear that liquidation was not going to happen, combined with the overextended technicals, silver had its worst week in a decade.
Price of Silver September 2007 - Present
click to enlarge
While the $20 level for silver might not sound as psychologically significant as $1000 was for gold, the events of 2008 add to the level’s importance. Silver is entering this year’s prime season at a level just below $20. This is the closest it has been since just before the financial crisis. Since the price has recovered, the past few approaches to $20 have failed, just as it took gold several approaches before $1000 was definitively achieved. Unlike in 2008, however, the price has not collapsed after the approaches have failed, indicative of a base forming. Also, the time period between attempts to break $20 has compressed, from over a year to a matter of months. This is the natural result of the uptrend in precious metals inexorably pushing the price toward $20. As long as another panic does not hit, a break upward could lead to a breakout that, with $20 barely 3% higher than current prices, could initiate another short-term uptrend.
Finally, due to the proximity, $20 is just outside current trends for the first time. The price in March 2008 was at least somewhat artificial, far above the trendlines at the time. By contrast, over the past year silver has been trading within a range between $15 and $19.50, not breaking above or below. Since the majority of investors and traders use some degree of technical analysis, price action within chart context is considered before making decisions. Therefore, a price within a trend, whether psychologically significant or not, is always more comfortable. Additionally, until resistance is hit traders are equally unlikely to sell. With $20 under siege now more than ever, the odds of it being breached are high.
Furthermore, over the past generation (1984-2009) silver has eked out an average 2.42% gain in September. Since silver bottomed in 2003, that performance has been an average 3.44%. With silver currently about 3% below $20, even an average price performance in September could do the trick. If not, barring a significant correction it is likely that it will happen sometime this fall.
Finally, many commentators have pointed out recently that they are wary of silver’s prospects as a precious metal. Indeed, it is more economically sensitive than gold, and with the global economy still locked in a touch and go state it could easily correct downward. Of course that could happen, but the same risk exists for the global equities market as a whole right now. Additionally, what many are not talking about is the fact that, as China and India are ramping up their purchases of gold, they are buying more silver as well. As investment demand is gradually taking up a greater portion of overall global demand, the chances of a double-dip recession hammering silver down to below $10-12 are shrinking. That is not to say it won’t happen, but that is why any investor should never be overexposed to silver or any other asset class. With silver poised to break $20, given the current trends there is a distinct possibility that this portion of an investor’s portfolio could be the best performing for the remainder of the year and on into 2011.
Disclosure: Long Silver