“Silver feels a little toppy to me at these levels.” That seems to be the refrain of technical analysts and stock traders who are bearish on silver. Or some might say, “silver has had a huge run up and now it looks like it’s ready for a pullback.” Or, “I liked silver at $15 or $24 (sure they did), but now it’s expensive.”
Some silver bears point to the fact that silver is at a 31 year high as “evidence” that it’s getting pricey. Are we overbought at these levels? Could be. Are we in for a repeat of the boom and bust of 1980? The chart from back then looks awfully scary. Let’s take a look at a few stats from then and now to see if that’s a fair comparison.
Money Supply: In 1980 the monetary base was $200 billion. Today, it’s around $2400 billion, or twelve times the amount of high powered money in the system. If you prefer, the M2 money supply is roughly six times higher than in 1980.
CPI: The official CPI is 2.8 times higher than in 1980. If you calculate the CPI like they did back in 1980 and John Williams at Shadowstats.com does today (before hedonic adjustments and substitution began skewing the numbers) the CPI is about 9.5 times higher today than in 1980. That is, on average, things cost 9.5 times more than they did back then. That means $40 silver in 1980 would equate to $380 if you’re into real inflation numbers or $112 if you trust the government numbers.
Silver Stockpiles: In 1980, worldwide government inventories were around 1.4 billion ounces. Beginning in the late eighties, central banks and governments began selling their silver stockpiles into the market to make up for mine supply not meeting demand. This had two effects - it kept silver prices low and depleted government stockpiles. Today, the government coffers are basically empty and central banks are net buyers of silver.
Silver Investors: In 1980, the only buyers of investment silver were Americans and Europeans. Two rich brothers from Texas, backed by some wealthy Arabs, were able to send the price of silver up 800% in a year. Today, investment demand is worldwide with Chinese and Indian demand skyrocketing.
Inflation: Inflation was in high gear in 1980 with rates as high as 15%, and investors were pouring into precious metals to protect their wealth. Today, reported inflation is around 2% and price inflation from QE1 and QE2 is just beginning to show up in the CPI numbers. However, if you use the Shadowstats numbers, we’re actually closer to 9% and rising fast, but most American investors still rely on the government’s 2% number. Inflation is a worldwide phenomenon and 7 billion people will be looking for ways to protect their wealth.
So basically, in 2011, there is a lot more money and a bunch of new buyers chasing a lot less silver. According to the GFMS World Silver Survey, total silver investment in 2010 including coins and “implied net investment” jumped 40% to 279 million ounces, an estimated $5.6 billion inflow. That equals one coin for each adult in America with nothing left for the Chinese, Indians, Europeans, or anyone else. $5.6 billion is miniscule. It’s 1/75th of the market cap of Exxon Mobil (XOM). China could buy an entire year’s supply without batting an eyelash.
But it’s not today’s market conditions that excite silver investors as much as what’s in store for the future. Despite what Ben Bernanke is telling us, price inflation from QE1 & 2 is baked in the cake, and will continue to rise as higher producer costs show up in consumer prices. In 1980, Fed chairman Paul Volcker had to raise the fed funds rate to 19% to fight 15% inflation. With real inflation nearing 9% and rising fast, does Bernanke have that option? Raising rates even a few percentage points would crush the delicate housing market, bankrupt banks, collapse the stock market, and jack up the interest payments on our $14 trillion national debt.
When QE2 runs out in June, who will buy our bonds? Bill Gross won’t be buying any time soon. Japan will likely need to sell U.S. Treasuries to pay for the $300 billion reconstruction costs from the earthquake. China is getting fed up (pun intended) with our reckless money printing and is quietly shifting into hard assets. So, either interest rates will need to rise dramatically to attract buyers or the Fed begins QE3. I’ll put my money on Helicopter Ben to save the day. (And by “save the day” I mean destroy the dollar and wipe out the life savings of millions of Americans while sending silver prices through the roof.)
For those who want to trade silver or sell at these record levels because it “looks toppy”, go ahead. It may pull back off its highs. It may drop substantially (along with everything else) if the Fed actually has the stones to stop printing when QE2 ends. You may make some money if you time things right. But if silver does drop, those of us who are silver investors will not only ride out the storm, but we will be scooping up physical ounces hand over fist for when QE to infinity resumes.
Disclosure: I am long PSLV.
Additional disclosure: I am long physical silver bullion.
