Silver - A Sleeping Bull
Summary
- Underperformance in 2019.
- 2020 starts with another disappointment compared to gold.
- Silver has industrial and financial properties.
- Sentiment and investment demand will drive the price higher.
- USLV on dips in a bull market.
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Over 5,000 years ago, the first Egyptian Pharaoh Menes stated that two and one-half parts silver equal one-part gold. At that time, and throughout most of the history that followed, gold and silver have served as stores of wealth, currencies, and means of exchange.
In modern times, since the 1970s, the average level of the relationship between the two precious metals has been around fifty-five ounces of silver value in each ounce of gold value. When the ratio between the metals is below the 55:1 level, silver is historically expensive compared to gold. At levels above 55:1, silver becomes historically cheap.
As of the close of business on January 17, it took 86.33 ounces of silver to purchase an ounce of gold. The last time the ratio traded at the 55:1 level was back in 2013. While gold recently traded at its highest price since 2013, silver has continued to lag the yellow metal on the upside. If silver is going to play catch up with the price action in the gold market, the Velocity Shares 3X Long Silver ETN product (USLV) will magnify the price action in the silver market on the upside. Silver could be a sleeping bull at the $18 per ounce level.
Underperformance in 2019
Gold appreciated by 18.87% in 2019, while silver moved 15.32% higher on the year. 
Source: CQG
As the chart of the silver-gold ratio highlights, the number of ounces of silver required to purchase an ounce of gold moved from 82.56 at the end of 2018 to 84.92 on December 31, 2019. The relationship was at 86.74 on January 24.
Meanwhile, despite its double-digit percentage gain last year, silver was the worst-performing precious metal that trades on the COMEX or NYMEX futures exchanges. Platinum gained 22.05% in 2019, and palladium moved an incredible 59.48% higher. Rhodium, the platinum group precious metal that only trades in the physical market more than doubled in value last year. Silver was a laggard, and that has continued into the early weeks of 2020.
2020 starts with another disappointment compared to gold
As of January 24, 2020, most precious metals prices added to their 2019 gains. Gold was at over the $1570 level, 3.5% higher so far this year. Platinum at $1005 per ounce was 4.1% higher, and palladium continues to rise into record territory. At $2313.80, palladium was over 21% higher over the first three weeks of this year. Rhodium moved to over $9000 per ounce, as it approaches its all-time peak at around the $10,000 level.
On the same day, silver was trading at $18.14, 1.30% lower than its closing price on December 31, 2019.
Silver has industrial and financial properties
Like gold, silver is a hybrid as it is a combination of an industrial metal and a currency or financial asset. The growing demand for silver in solar panels that are a source of alternative energy, requirements for the metal for computers, cell phones, and other electronics, and many other uses are causing the demand side of silver's fundamental equation to expand.
Each year, investment demand in the gold and silver markets tend to determine the path of least resistance of prices. Central banks around the world hold gold as part of their foreign exchange reserves, and they continue to be net buyers adding to reserves. While governments do not hold silver as a currency reserve, a continuation of gold buying is likely to translate to speculative demand for silver.
Sentiment and investment demand will drive the price higher
The market's sentiment is a powerful force. When I began trading silver in the early 1980s, one of the head traders told me always to remember that the price of silver moves higher when there are more buyers than sellers and lower when selling is greater than buying. At the time, I thought the statement was nothing more than simple logic and a truism. Since investment and speculative demand are the most significant factors for the silver market, the sentiment of market participants drives their buying or selling behavior. As silver moved to the 1980 and 2011 highs at around the $50 per ounce level, a herd of buying drove the price to the upside. During corrections, the same crowd was liquidating long risk positions or going short pushed the price significantly lower over short periods.
The bottom line is that a continuation of the bullish price action in gold and other precious metals should eventually cause a return of bullish sentiment to the silver market. The critical level to watch on the upside is the July 2016 high of $21.095 per ounce. Gold broke out above its peak from the same time, which was at $1377.50, and the price did not return to the level of resistance that has now become support. Silver only made it up to a peak of $19.54 per ounce in early September 2019, $1.555 below its technical resistance level. When silver eventually conquers the technical level, the herd is likely to return, and the price could not only play catch up with the other precious metals but could begin to lead the sector. A return of bullish sentiment in silver depends on a technical break to the upside above the $21 per ounce level.
Silver's price action has been boring as the metal has been a laggard. However, when the metal awakes from its prolonged period of hibernation, we could see an explosive price move as we have witnessed in the palladium and rhodium markets.
USLV on dips in a bull market
I believe that silver around the $18 per ounce level at the end of last week is a bargain. It may only be a matter of time before the sentiment shifts, and silver attracts waves of buying that push the price appreciably higher. While gold broke out to the upside in 2019, silver did not. However, the long-term technical picture suggests that silver's hibernation will end, and the price will surprise on the upside.
Source: CQG
The quarterly chart illustrates that both price momentum and relative strength indicators crossed higher and are rising in just over neutral territory, leaving plenty of room for price gains. Open interest, the total number of open long and short positions in the silver futures market, has been rising with the price since April 2019. Increasing open interest and rising price tends to be a technical validation of the bullish price trend in a futures market.
At the same time, quarterly historical volatility in the silver futures market at 11.3% is at the lowest level since 2003. The high price during 2003 was $6.025 per ounce before silver took off on the upside and rose steadily from 2003 through 2011. The price action in the other members of the precious metals sector will likely limit the downside for the price of silver if the current trends remain intact over the coming weeks and months.
I favor buying the Velocity Shares 3X Long Silver ETN product on price weakness in anticipation of a shift in the market's sentiment in the silver market. I do not suggest sitting on positions for long periods since time decay eats away at the value of USLV. The goal is to catch a significant move to the upside in the product, take profits, and shift them into unleveraged products like physical silver, silver mining shares, or the SLV unleveraged ETF product. I would use tight stops and look to re-enter on the long side at lower prices if the price action stops out positions.
The fund summary for USLV states:
The investment seeks to replicate, net of expenses, three times the S&P GSCI Silver Index ER. The index comprises futures contracts on a single commodity. The fluctuations in the values of it are intended generally to correlate with changes in the price of silver in global markets.
Source: Yahoo Finance
USLV has net assets of $366.07 million, trades an average of 314,895 shares each day, and charges an expense ratio of 1.65%. Since time decay eats away at triple-leveraged tools like USLV, if the price remains stable or moves lower, the ETN undergoes periodic reverse splits.
The price of March COMEX silver futures rallied from $16.565 on December 9 to a high of $18.895 on January 8, a move of 14.1%.
Source: Yahoo Finance
Over the same period, USLV rose from $73.06 to $100.33 per share or 37.33%. USLV magnifies the price action in the silver futures market on the upside, but it does the same when the price falls.
Silver could be a sleeping bull when it awakens, and the sentiment shifts, we could see an explosive move to the upside.
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This article was written by
Andy spent nearly 35 years on Wall Street, including two decades on the trading desk of Phillip Brothers, which became Salomon Brothers and ultimately part of Citigroup.
Over the past two decades, he has researched, structured and executed some of the largest trades ever made, involving massive quantities of precious metals and bulk commodities.Andy understands the market in a way many traders can’t imagine. He’s booked vessels, armored cars, and trains to transport and store a broad range of commodities. And he’s worked directly with The United Nations and the legendary trading group Phibro.
Today, Andy remains in close contact with sources around the world and his network of traders.
“I have a vast Rolodex of information in my head… so many bull and bear markets. When something happens, I don’t have to think. I just react. History does tend to repeat itself over and over.”
His friends and mentors include highly regarded energy and precious metals traders, supply line specialists and international shipping companies that give him vast insight into the market.
Andy’s writing and analysis are on many market-based websites including CQG. Andy lectures at colleges and Universities. He also contributes to Traders Magazine. He consults for companies involved in producing and consuming commodities. Andy’s first book How to Make Money with Commodities, published by McGraw-Hill was released in 2013 and has received excellent reviews. Andy held a Series 3 and Series 30 license from the National Futures Association and a collaborator and strategist with hedge funds. Andy is the commodity expert for the website about.com and blogs on his own site dynamiccommodities.com. He is a frequent contributor on Stock News- https://stocknews.com/authors/?author=andrew-hecht
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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: The author always has positions in commodities markets in futures, options, ETF/ETN products, and commodity equities. These long and short positions tend to change on an intraday basis.
The author is long silver