Last week's announcement of the FOMC launching QE3, in which it will start to purchase mortgage-backed securities at a pace of $40 billion per month, pulled up the price of silver and silver stocks. During the month, shares of Silver Wheaton (SLW) increased by nearly 14.3%. In comparison, the price of silver increased by 10.4% during September. iShares Silver Trust (SLV) also went up by 9.5%. Nonetheless, the launch of QE3 seems to have been (mostly) priced into the rate of silver, mainly because silver's rally was mostly during August and the beginning of September, right before the announcement of QE3. Let's examine the recent changes related to the silver market that could affect the future development of the price of silver.
The recent announcement of the Fed launching QE3 wasn't the only major headline. The FOMC press release stated the following:
The Committee will closely monitor incoming information on economic and financial developments in coming months. If the outlook for the labor market does not improve substantially, the Committee will continue its purchases of agency mortgage-backed securities, undertake additional asset purchases, and employ its other policy tools as appropriate until such improvement is achieved in a context of price stability.
This strong wording clearly states that if the economy doesn't show signs of improvement in the following months, the Fed will not only continue its purchase program, but also take additional monetary steps in order to jump-start the economy and the labor market. One of the main concerns of Chairman Ben Bernanke is the lack of a federal budget deal between Democrats and Republicans, which could induce the Fed to implement additional monetary steps in the near future. These steps could result in additional pressuring up of the price of silver, and by extension Silver Wheaton.
The chart below shows the average price of silver and the U.S. money base between the years 2010 and 2012. As you can see, the hike in the price of silver during the end of 2010 and the first quarter of 2011 coincided with the rise in the U.S. money base, which grew because of the Fed's monetary expansion. Furthermore, the linear correlation between the changes in the U.S. money base (lagged by one period) and the price of silver reached 0.35, which could suggest that as the U.S. money base expands the price of silver tends to rise.
Click to enlarge image.
The recent rise in the price of silver happened during August and September right before the U.S. base started to expand. The money base is likely to rise in the months to follow as a result of the Fed's launch of its newest stimulus plan.
Keep in mind that if the silver market heats up too fast -- as it did during the first quarter of 2011 -- the CME might intervene in the bullion market, as it did in the past. It could raise the margins on holding gold and silver, which is likely to pull down the price of silver.
Besides the Fed monetary expansion, other central banks took (or are planning to take) similar steps to expand their monetary base in an attempt to deal with the difficulties each economy faces. Bank of Japan announced it will expand its asset purchase program (QE) by an additional 10 trillion yen ($126 billion). The ECB is ready to launch its bond purchase program in which it will purchase long-term Spanish securities in order to bring down the Spanish yields and help regain confidence in the euro. Spain, however, has yet to formally request the ECB's help. Assuming Spain will make the request, this news is likely to pull up the euro, which is likely to also pull up the price of silver. Many commodities traders are also waiting for People's Bank of China to launch some monetary steps to help rally its economy.
The recent monetary steps the central banks took, or is expected to take, in the case of the ECB and PBC are likely to benefit the price of silver and, by extension, silver producers. Nonetheless, I think that the big news regarding QE3 was mostly priced into silver even before the announcement, so the rise of silver in the weeks to follow isn't likely to be as high as it was in the past several weeks. If additional monetary steps are announced by the Fed or other central banks, this is likely to boost the rally of silver.
For further reading, see "Gold And Silver Outlook For Sept. 17-21."