By Ivan Y.
Silver's nearly 15% rally from the first week of June that took it from a low of $18.75 to a high of about $21.50 appears to have ended. Silver has given up about half of those gains and is currently trying to hold the $20 mark. Back in the glory days of silver's bull market (pre-2012), silver had large rallies that easily exceeded the most recent 15% run-up. Consider some examples of large rallies that silver had in the past decade:
- 121% from August 2005 to May 2006
- 37% from June 2006 to September 2006
- 81% from August 2007 to March 2008
- 65% from October 2008 to February 2009
- 228% from February 2010 to April 2011
Since the beginning of 2013, silver has had three significant rallies:
- 33% from July 2013 to August 2013
- 15.4% from December 2013 to February 2014
- 14.5% from June 2014 to July 2014
Notice how these recent rallies keep getting smaller and smaller. It tells me that the negative psychology that has clouded silver and gold in the past 2 years is still hovering, and that silver will not see the $30 or $40 level anytime soon. In an ideal world, silver would trade on fundamentals. It should be higher because many mining companies cannot make money on today's silver price. It should be higher because of negative real interest rates in the U.S. It should be higher because the gold-to-silver ratio is high when compared historically. It should be higher because of increasing demand in the solar panel industry. It should be higher because of ongoing conflicts in Ukraine, Israel, and Iraq. But none of those really matter, because in the real world fundamentals for silver are less important than momentum and technicals because the COMEX price is determined in large part by hedge funds and managed futures funds who buy silver when they think momentum will drive it higher and sell it (or short it) when they think the technical picture has broken down (e.g. Feb-Mar 2013). If you find it disturbing that traders determine the price of an industrial commodity then I would agree with you. The people who should determine the price of silver are the producers who mine the stuff and sell it (the Sellers) and the users like solar panel and jewelry manufacturers, and investors who buy the stuff (the Buyers). The natural price for silver that balances the buyers and sellers is thus unknown in this world. Instead, the market has been hijacked by traders which give us an artificial price that we look at everyday.
Many silver bugs will also argue that the price of gold and silver are capped by certain powers-that-be. The accusations are usually pointed at entities like the Federal Reserve, JP Morgan (NYSE:JPM), Deutsche Bank (NYSE:DB), HSBC, etc. This topic is way too extensive to be discussed in this article and I don't really have a definitive opinion on it myself, but those that want to learn more can read the articles written by silver analyst Ted Butler and GATA. And for those looking for an opposing viewpoint, I would point you to pundits like Jeffrey Christian of CPM Group and Doug Casey (video) who don't believe in the manipulation.
Going forward, I think a realistic scenario is for silver to make slow and choppy progress in a generally upward direction (1 step forward, half a step backward). This outlook is based on seasonal factors that favor silver right now. August is usually a very good month for silver. Silver has increased in each of the last five years.
- 7.0% in 2009
- 7.9% in 2010
- 4.2% in 2011
- 13.4% in 2012
- 19.3% in 2013
September to December is usually a positive period for silver as well. But before all this happens, I think we need the net long position of the hedge funds on the COMEX to come down. The net long position of the "Large Speculators" (i.e. the hedge funds and managed futures funds) is too high right now and I think we need to see that come down a bit before silver can continue to make slow and choppy progress upward. This past week's COT report indicated that the net long position of the hedge funds was 44,112 contracts (or 221 million ounces). Since the beginning of 2010, the average net long position of the hedge funds has been about 24k contracts. And since the beginning of 2013, the average has been 16.5k contracts. So you can see that based on historical averages the hedge funds are overbought according to the COT and that more liquidation needs to occur before we hit the average.
I think investors in the silver ETFs (NYSEARCA:SLV) will have to be patient and settle for slow and choppy gains in the foreseeable future. I hope I am wrong and that we see another spectacular 19% gain in August, but I doubt that is going to happen. Perhaps more realistically, if silver can manage to just go up 25 cents every month that would lead to a 15% annualized gain. That's not asking very much, is it? I think David Morgan's $26 target (video) for silver in 2014 is still a possibility, but silver could drop a little lower first before it makes progress towards that number later this year and into 2015.
Disclosure: The author is long SLV. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.