Silver in Surplus? No Such Thing

Includes: DBP, DBS, SLV
by: The Silver Analyst

I want to address a recent publication which has raised concerns amongst silver investors. It is The Silver Book for 2008 published by the VM Group.

The main item I want to address is the statement in that document that the silver market was in surplus in 2007 by 6,141 tonnes or over 197 million ounces. That is a lot of silver; in fact it constitutes about 18% of their estimated mine and scrap supply for 2007. Does this seem a lot of silver to you? It certainly did to me!

Subsequent to that report being published, I received emails from fellow silver investors asking "Is this bad for silver?” My answer is "No" and I will give two reasons for that.

Firstly, there is no such thing as a silver surplus. In the days when the US Government used to hold billions of ounces of silver in stockpile, we could say "Yes". But now with even the US government tapped out of silver and having to purchase on the open markets, silver is no longer drip fed or dumped onto the markets by big holders as of old.

Indeed, the definition VM Group give of a surplus is a dynamic one. It is the difference between 2007 supply from mines, scrap and governments and that of demand be it industrial, cosmetic or investment. So nothing to do with big stockpile sales here. However, this is still not a surplus. If you think a surplus is 6,141 tonnes of .999 silver sitting around with no one wanting to buy it then think again!

The truth is that supply and demand are in near perfect balance. If more silver comes to market in the absence of new buyers the price is bid down. If less comes in the absence of new sellers, it is bid up. Mines do not overproduce silver as a primary or secondary product; they just sell it on to the market at the best price. If they do store it, it is done in the most efficient way and that is by not mining it out of the ground. In the case of silver produced as a by-product, it is just put on the market for the best bid. It is not stored away in giant ore heaps waiting for a better price - it is just sold!

And if someone buys it then that means demand and that means balance is struck at a new price.

So where did this extra supply come from? Looking at page 13 of the report you get a 2002-2007 breakdown of supply and demand. Photographic recycling is not surprisingly down but not dramatically from 2002 levels. But in general the various sources of supply do not change much apart from one and that is recycled silver from "Other Industrial" sources. This has more than doubled from 2920 to 6360 tonnes in five years. How that number is arrived at I am not sure but in the long run it does not matter and that brings me to my second reason.

Look at the bottom of page 13 and note the stated "surplus" (or "Residual") for each year since 2002. According to this, silver has been in surplus by thousands of tonnes for 5 continuous years! But wait a minute, hasn't the price of silver more than trebled in that time? Yes it has which means that this surplus figure has nothing to do with the silver bull market. Look at the numbers again.

In 2004, the stated silver surplus was bigger than 2007 at 6,828 tonnes yet silver in that year ran up a 100% price increase.

In 2006 the surplus was 5,283 tonnes but again silver ran up in price more 100%!

In fact, the surplus as a percentage of total supply was greater in 2004 at 20%. So what is the problem here? The answer is there is no problem. The price of silver is set at the margin by investors and speculators and all silver is not only being absorbed worldwide but to the extent that the price continues to be bid up and will continue to do so - not when a perceived surplus gets "too big" but when investors try to take their profits en masse.