The iShares Silver Trust ETF (SLV) has had a rough year, as the ETF is down by about 12.5% over the past 12 months. However, with the Fed likely to ease monetary policy going forward, the dollar as well as interest rates are likely to head lower, which should enable SLV to go higher.
Additionally, the gold-to-silver ratio, the COT report, as well as SLV’s technical image imply silver/SLV is significantly undervalued at current levels and is likely to go much higher in the intermediate and longer term.
Despite the recent rebound, silver/SLV is trading around multi-year lows, and given the current economic atmosphere, it is likely to go substantially higher from current levels.
SLV: A Great Way to Build Exposure to Silver
SLV is an exchange-traded fund that is designed to give investors a cost-efficient way to gain access to the silver market without having to buy silver futures or the physical metal.
The SLV ETF fund is engineered to mimic the spot price of silver. Each share owned by an investor represents a fractional ownership in the fund, which holds over 325 million ounces of physical silver worth roughly $4.5 billion.
SLV is an efficient and convenient trading vehicle, as it mimics silver's spot price, yet investors do not need to deal with exchanges that facilitate futures contracts and do not have to pay prices over spot to procure the physical asset.
It is also extremely liquid and can easily be bought and sold like any other highly liquid stock or ETF. In addition, SLV has very attractive options that can be traded with great ease.
Since SLV is physically backed by silver and mimics the commodity's price almost identically, I will refer to the ETF and silver interchangeably throughout some parts of this article.
As the Fed Eases Rates, SLV Should Go Much Higher
Like gold, Fed policy plays a key role in impacting silver prices, and thus, the price of SLV. The market now expects the Fed funds rate to be substantially lower one year from now. In fact, the CME Group’s Fed Watch Tool implies rates will likely be 75-100 basis points lower one year from now.
This is very bullish for SLV, as a lower funds rate should put pressure on both the dollar as well as widely held treasuries and bonds. Like gold, silver is a competing “safe haven” asset class to bonds. Furthermore, as silver is priced in dollars, a weaker dollar will be bullish for silver prices, as it makes the metal cheaper in alternative currencies.
Furthermore, easier Fed policy should expand the money supply, which makes silver/SLV more attractive to investors due to the likelihood of higher inflation because of money supply expansion and easier credit standards.
Inflation On the Rise
Higher inflation is bullish for SLV, as inflation causes prices of raw materials to rise due to more money supply in the financial system relative to raw assets.
Source: Trading Economics
The Fed’s policy to ease rates will do just that - expand the money supply - which should enable prices of gold, silver, and related assets and trading vehicles like SLV to rise. Right now, CPI inflation is at about 2% and appears to be rising. Once the Fed implements its projected rate cuts, inflation should rise, and could surge substantially, which will be extremely bullish for SLV.
The Dollar: Not Likely to Stay Strong for Long
Easier monetary policy coupled with higher inflation will be bearish for the dollar, as more money in the system should weaken the buck - another very bullish element for SLV. The dollar has been in an upward trajectory for about a year now, but that will very likely change once the Fed starts easing again.
USD 3 Years
In fact, the dollar could go substantially lower, and even take out last year’s lows, which should cause SLV prices to rise sharply from current levels. Another factor to consider is that the Fed has more room to cut rates relative to the ECB, which already has its benchmark rate at zero, and Japan, which has a negative benchmark rate.
This essentially means the Fed has more tools at its disposal to lower the buck relative to the ECB and other major central banks like Japan, which further reinforces the likelihood of the dollar going lower in the future.
Yields Likely to Go Lower
Treasury yields have been crashing over the past year, and for good reason. Once it became apparent the economy was weakening late last year, we’ve seen the 10-year drop from about 3.24% to just 2%, about the same rate as inflation now.
10-Year Treasury 1-Year Chart
This means that investors buying 10-year treasuries now are essentially receiving zero return when adjusted for inflation. As the Fed eases, bonds should go even lower and inflation should head higher, implying that investors will be getting negative inflation adjusted returns on their investments in many widely held bonds.
This is extremely bullish for SLV, as metals like gold and silver are excellent hedges against inflation and should attract capital which would otherwise be allocated to widely held bonds and treasuries.
We could even see negative rates in the U.S. in the future, as we’ve seen in Europe and in Japan in recent years. Naturally, this will be quite bearish for bonds and the dollar and extremely bullish for SLV.
Why Are Speculators So Bearish on Silver?
If we look at the COT report, we see that silver’s net speculative positions are negative again, negative 22.4K futures contracts, at last count. This implies that speculators in the futures markets are actively betting against silver.
COT Report 10 Years
In fact, this is about as bearish as speculators have been on silver since last October, right before a substantial rally. Also, speculators have not been as bearish on silver over the last decade as they have been at times over the last year.
When the market is this tilted to the bearish side, it is typically a great counter-indicator that the pendulum has swung much too far one way and a substantial rally is likely approaching. Essentially, the market is likely running out of sellers, and too many speculators appear to be short silver right now.
Gold-to-Silver Ratio at Multi-Decade Highs
We can see a similar phenomenon when looking at the gold-to-silver ratio, which is at its highest level in decades. The ratio is around 90 right now, and the last time it was close to being this skewed was right before the major rally in silver prices from 2009-2011. During this period, we saw silver roughly quintuple in price, from about $10 to roughly $50 an ounce.
Gold-to-Silver Ratio 20 Years
SLV's Technical Image
SLV 5 Years
SLV appears to have double-bottomed. The first bottom around $13 was reached in the end of 2015, and the second bottom came in September 2018. Furthermore, September 2018’s bottom was retested in November 2018. SLV recently made a higher low and appears to be in the early stages of establishing a long-term uptrend from here.
Silver 5 Years
We can see a very similar image when looking at the silver chart as well.
Do You Remember the Last Time the Fed Took Rates Down to Zero?
I was actively trading silver and SLV in 2009, the last time the Fed took rates down to zero and implemented its original QE program. This phenomenon made silver/SLV skyrocket by about 400% in the span of roughly 2 years. I was pounding the table on buying silver/SLV then, and I am doing so now.
Source: Yahoo Finance
I’m not saying that history will repeat itself exactly this time around, but I see a lot of similarities between then and now. It appears that the market is behind the curve on silver/SLV, much like it was in 2008.
The recession is approaching, and this time the Fed may proactively attempt to prevent/delay it by lowering rates and possibly implementing a program like QE sometime in the next 12-18 months. Therefore, it is very likely a good time to begin to accumulate SLV now, while the market still appears to be incredibly bearish on silver.
Ultimately, when traders, speculators, and investors wake up, the price of SLV could appreciate rapidly, much like it has in the past under similar economic conditions.
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Disclosure: I am/we are long SLV. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: This article expresses solely my opinions, is produced for informational purposes only and is not a recommendation to buy or sell any securities. Investing comes with risk to loss of principal. Please consider consulting a professional before putting any capital at risk.