- Silver has gained 25% since we put out our bullish case back in March, and remains undervalued relative to its historical drivers.
- Our short-term fair value model for silver suggests the metal should be trading over 20% above current levels.
- Longer term, the easy policy mix which has benefited gold through deeply negative real yields should drive up the broad commodity complex to the benefit of silver.
- Technically, a break above the USD 20 level would put the metal in bull market territory and likely attract momentum-chasing investors, as was the case in late 2010.
Silver has gained 25% since we put out our bullish case back in March (see “The Coming Stagflation And The Case For Silver“), and remains undervalued relative to its historical drivers. Our short-term fair value model for silver suggests the metal should be trading over 20% above current levels. Longer term, we expect gold to remain elevated, thanks to increasingly negative real interest rates, and see an ongoing rise in industrial and agricultural commodity prices as inflation rises. These factors should allow silver to trade substantially higher, and we remain bullish on the iShares Silver Trust ETF.
Silver Undervalued Relative To Gold And Commodity Complex
Over the past 20 years, silver prices have closely tracked an equally weighted basket of the continuous commodity index and gold prices. As both an industrial and monetary metal, this makes intuitive sense. The strong gains seen in gold over recent months and the bounce in the broad commodity complex have supported silver, which remains deeply undervalued on this basis. As the chart below shows, silver continues to trade in excess of 20% below the fair value level implied by its long-term correlation with gold and the CCI.
Source: Bloomberg, Author’s calculations
Silver is very cheap compared to gold and slightly expensive relative to the commodity complex, reflecting the fact that gold prices have surged over recent years even as the CCI has traded lower. Our view is essentially that gold is right and the CCI will rise over time, which should justify higher silver prices. There are two reasons to believe that the broad commodity complex will rise while gold remains elevated. Firstly, real interest rates are likely to remain deeply negative. Secondly, rising inflation should support the prices of non-monetary metals.
Declining Real Yields To Keep Gold Supported
Gold prices have rallied strongly, thanks to the ongoing decline in U.S. real interest rates. The rolling correlation between the U.S. 10-year inflation linked government bond yield and gold prices is at its highest on record, and the historical correlation suggests that gold should be trading marginally higher. We also see scope for further declines in real yields, as joint fiscal and monetary efforts to transfer wealth from the private sector to the public sector ultimately require extreme levels of financial repression and rising inflation. U.S. real yields are likely to continue to decline towards those of the U.K. and Germany owing to even greater fiscal mismanagement. If gold remains at current levels or even moves higher from here, it would be highly unlikely for silver prices to decline.
Gold vs. U.S. 10-Year Yields
Commodity Complex To Benefit From Rising Money Supply
Gold has been the near-term beneficiary of extremely loose monetary and fiscal policy, as investors have bought the metal owing to the declining opportunity cost of keeping money in cash form amid declining real interest rates. In doing so, they have bid up prices far in excess of the broad commodity complex, which has been undermined by high supply and falling industrial demand. However, as inflation expectations have recovered from the March deflationary crash, industrial and agricultural prices have recovered. The sheer volume of money created already out of thin air so far this year, and the high likelihood of much more to come, suggests that spending will increase across the board. The ratio of the CCI to the M2 money supply is not only near all-time lows, but it is also a record distance from its long-term trend.
Source: Bloomberg, Author’s calculations
Technical Picture Reminiscent Of Late 2010
From a short-term perspective, strong down trend line resistance exists around Friday’s high just below USD18.5. A break above here would improve the technical picture and open the February 24 high just below USD19.0, while a break above the USD20 level would put the metal in bull market territory and likely attract momentum-chasing investors, as was the case in late 2010.
Silver Short Term And Long Term
Despite the 50% rally from the March lows, silver’s rise has remained somewhat under the radar, with the financial media still showing scepticism over the metal’s gains. In fact, a recent bearish FT article highlights something which we see as contrarian bullish: the fact that silver investment remains the pursuit of conspiracy theorists rather than mainstream investors. This suggests there is significant upside potential, should traditional investors begin to take an interest.
(Owning gold) goes along with owning a semi-automatic rifle with lots of spare ammunition. Canned goods. Conspiracy theories. Contempt for urban liberals. They are way past voting Republican. The most committed are “silver stackers” who squirrel away stacks of silver coins to trade for essentials after societal collapse.
– Financial Times