Gold And Silver: Why They Are Easy Buys

Includes: GDX, GLD, SIL, SLV
by: Mel Daris

It is fairly uncommon to find an investment that can truly be called obvious or easy, but in the wake of comments out of the Federal Reserve and Friday's jobs report, taking exposure to gold and silver has become a pretty easy choice. After setting the stage for another round of quantitative easing, the labor market seems to have green-lighted action by the Fed; the next regularly scheduled meeting of the Federal Open Market Committee (FOMC) is likely to deliver the official word that "Helicopter Ben" is fueling his birds for takeoff. As such, getting exposure to the precious metals through exchange-traded-funds, like the SPDR Gold Trust ETF (NYSEARCA:GLD) or the iShares Silver Trust ETF (NYSEARCA:SLV) is prudent.

Anatomy of a Setup

When Mr. Bernanke took the podium in Jackson Hole last month, he told us that the Fed "will provide additional policy accommodation as needed to promote a stronger economic recovery and sustained improvement in labor market conditions in a context of price stability." In an interview on CNBC, Pimco's Bill Gross made the connection between jobs and quantitative easing even more explicit, stating, "Until you see several quarters of perhaps 7 percent unemployment, you will see QE." The takeaway from the speech was, therefore, that unless there was a significant upside surprise in the labor market, the Fed will "provide additional policy accommodation" - as in, bond buying, money printing, cash infusing, quantitative easing…

Using the speech as a perfect backdrop, the Bureau of Labor Statistics released a nonfarm payroll number that was significantly lower than the consensus expectation. The nonfarm payroll number is compiled by the U.S. Department of Labor and tracks how many jobs in nonfarm industries are added or lost from the economy since the last report. The data is compiled monthly as is typically released on the first Friday of every month. In the most recent report, the consensus had been for the addition of 130k jobs in the nonfarm sector. The reported number was 96k. Additionally, last month's number was revised lower, falling to 141k from 163k.

Finally, while the overall unemployment rate fell to 8.1%, this is largely attributed to workers leaving the labor market rather than finding work. Remember that unemployment is a measurement of the number of people who do not have jobs, but are actively seeking them. When an individual becomes discouraged and stops looking for work, he or she is no longer considered unemployed by this measurement. Making the figure even more artificially skewed is the fact that the number is largely dependent on unemployment insurance claims. After one has exhausted his or her unemployment benefits, that individual is not likely to counted as unemployed because there is no easy way to track that he is still looking for work. A condition of receiving unemployment is that one is actively looking; when benefits lapse, there is no function for these activities to be tracked. To take the most critical view of the job market, one could conclude that so many people have been unemployed for so long that the unemployment figure is beginning to drop based on time alone. If everyone with a job remained employed, and nobody else were hired, by this calculation the unemployment rate would fall to zero.

A Confluence of Events

The transition from the Bernanke speech and the weak jobs numbers is the stuff that conspiracy theories are made of. The progression from the requirements for QE3 to an immediate meeting of those requirements to an expected announcement that QE3 is beginning should give those who wish to see manipulation plenty to write about. While I do not believe that anything dishonest or nefarious has occurred, the Fed clearly had a plan that it wanted clearly understood by the investing public. Bernanke could have rolled out QE3 from Jackson Hole, but this softer approach gives investors time to prepare and get positioned for the move that will most likely be officially announced later this month.

Trading the News

QE3 should be bullish for both gold and silver and is likely to start the next major trend in precious metal prices. Once one has adopted this view, the next question becomes what instruments to use to gain the desired exposure. Shares of GLD and SLV give one the most direct exposure to commodity prices, but there are other considerations that should be taken into account.

Over the course of the year, commodities' prices have outperformed the miners in both gold and silver. Using the Market Vectors Gold Miners ETF (NYSEARCA:GDX) and the Global X Silver Miners ETF (NYSEARCA:SIL) as proxies for the miners shows the magnitude. GLD has outperformed GDX by about 14%, while SLV has outperformed SIL by about 10%. Given this disparity, there is an argument that the miners are undervalued on a relative basis and provide a more attractive means to gain exposure. In terms of individual companies, I personally think Silver Wheaton (SLW) remains the most attractive individual stock in either market.

Ultimately, however, QE3 is a sign of weakness in the overall economy and is not as bullish for stocks as many wish to argue. While the mining stocks have lagged, there is a reasonable basis to believe this will continue, if not intensify, as QE3 begins. As such, GLD and SLV are the most conservative ways to gain exposure to the developing trend in gold and silver.

Disclosure: I 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.