Why Silver's 'Scarcity' Isn't A Bullish Sign

| About: iShares Silver (SLV)
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I don't think I've read a bullish article about silver over the last couple of years that didn't make the point that because there is more above-ground gold, silver prices must be undervalued.

This is a complete myth for several reasons that I'll be explaining here. Don't get me wrong, though. I like silver and own a lot and buy some every month. I'll probably be buying some this week. But I have different reasons than the argument I'll be addressing today.

How Much Silver Is There?

There's an estimated 200% more gold above-ground that is investment grade than there is silver that is investment grade. The reason for this is pretty simple: silver is extremely useful in industry when it comes to electronics and the production of things that need to have electrical parts. That ends up including a lot.

This leads to the overall stock being lessened because of consumption. This is critically important to understand, because this is one of the stark differences between a commodity and a currency, though the line is often a little fuzzy and vague.

Is That a "Bullish" Sign?

This isn't a bullish sign for a couple of reasons. First, this is only investment grade silver, not all silver. If silver suddenly began shooting up in price because of some sort of magical market force then people will just begin harvesting electronics and consumed silver -- at least a little -- to sell it. I realize a good portion, if not most, electronics do not allow for harvesting, but some do and that's a downward pressure.

Second, this isn't a bullish sign because commodities almost always function with relatively low stocks because of consumption. That's what makes it a commodity and not a money.

Money always takes the form of an asset that is easily dividable, readily usable, strongly trusted, and readily available. The last two are important, because they explain why hyperinflation destroys currencies and why low stocks don't make something extra valuable as a money.

Why There Needs to Be a Lot of Silver

Having low inventories above ground in investment grade silver is one strike against it because of the volatility. This is explained by professor Fekete, the leader of the modern New Austrian School of thought:

There are about 160,000 Tons of Gold in the form of coins, bars, and jewelry known to exist above ground. Mine supply is roughly 2,500 tons per year; thus the stock to flows of Gold are about 80 to one. It would take about 80 years for the mines to supply as much Gold as already exists.

All other commodities except Silver have stock to flows to be measured in days not years. This is the main reason why Gold is money… and nothing else except Silver can serve as useful money. Any other commodity will have wild fluctuations in price, or purchasing power, depending on sudden variations in supply and demand. The huge existent supplies -eighty years worth- ensure that Gold and Silver are immune to any rapid changes in value.

If anything, if someone is preaching that silver prices are going to explode because there is little investment grade silver because of all the industrial consumption, they're missing the point and probably have incredibly flawed analysis elsewhere as well.

This is important to people who have invested in the physical silver metal, or in ETFs like SLV, or in companies that would greatly benefit from an increase in silver prices, like SIL, SLW, PAAS, and others. This is also likely relevant to GLD investors who are considering silver exposure instead.

This isn't to say I don't think silver is a great asset to own. I own a lot and will buy a lot more. I love the stuff, and I have talked repeatedly about this.

But the fact that it's got more commodity-like aspects to it than gold isn't a bullish sign for it being used as money in the future more than gold -- it's just one of the reasons gold is actually more valuable, especially as the dollar slowly dies.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Additional disclosure: I own physical gold and silver and will be adding to my position soon.