You don’t have to look far to find the bullish case for gold, but what of its bashful sibling silver?
Like the gold price, silver is heavily driven by speculation about the direction of the global economy and monetary policy. In silver’s case, industrial demand can also influence its valuation.
Silver’s marked rise in the last 12 months may be just the beginning of a prolonged silver bull market, driven by easing of monetary policy around the globe and greater physical demand for the metal in commercial applications.
When Fear Strikes, Gold and Silver Rise
Gold and silver typically act as safe havens in times of financial, economic, and/or political fear. Between October 2008, when the U.S. Federal Reserve made an emergency half-point rate cut, citing ‘intensification’ of the global financial crisis, and mid-2011, when market expectations about monetary easing began to recede, silver rose 5x from sub-$10 to $49/oz and gold 2.5x from the mid-700s to more than $1,900/oz.
This year, silver and gold have risen in tandem as the Fed and other central banks have reversed course and flagged a return to near-zero interest rates. On Nov. 15, silver stood at $16.90, up 18% year on year, and gold at $1,465, up 21%.
Just nine months ago, the Council on Foreign Relations Global Monetary Policy Tracker reached a 10-year high of +5.72, indicating market expectations of global tightening. By November it had plunged to -9.11, a sign that continued easing is virtually ensured.
Prominent gold/silver bulls have been arguing that certain indicators are lining up with the ones seen in 2008-11. Rick Rule, CEO at Sprott Holdings, has pointed out that U.S. 10-year yields are in negative territory after inflation, lowering the attractiveness of the bond relative to gold. Frank Giustra, ex-chair of Endeavour Financial, predicts gold will “blow through $1,900”, and possibly higher, depending on the rate at which countries compete to ease interest rates and devalue currencies.
When Precious Metals Rise, Silver Outpaces Gold
In a gold/silver bull market, silver prices have the potential to grow faster than gold. That’s because silver is undervalued in relation to gold and it is characterized by lower liquidity, making it more vulnerable to volatility.
The gold-silver ratio shows the ratio of the price of one gold ounce to the price of one silver ounce. Through the first 20 years of the twenty-first century, the ratio has averaged around 60:1. It was below average in the first decade of this century, hitting a low of 31:1, and has risen steadily since – peaking at 93:1 in July 2019 (the highest point since 1991) before dropping back to its current 86:1. Were the ratio to fall back to 60:1, then, based on the current gold price, silver would be priced above $24 instead of sub-$17.
The following graph provides an illustration of where the ratio sits today relative to the past. As you can see, silver is due to make substantial gains relative to gold — and we’ve seen this happen in the past.
Historical Gold-Silver Ratio
In the 1970s, a decade which began with the U.S. abandoning the gold standard, silver rose 35% faster than gold (31x vs 23x). Between 2000 and early 2008, the first of the two prolonged gold/silver bull markets so far this century, silver rose 4x compared to 3X for gold. Bull market number two then went into action between late 2008 and 2011, during which silver rose 5x to gold’s 2.5x.
Rick Rule often says bear markets are the authors of bull markets. Gold’s bear market of 2011-19 was very long and very deep, he says, so it follows that the recovery could be similarly long and deep. Expanding on that theme, we note the silver bear market was as long and significantly deeper – therefore, silver stands to enjoy stronger growth than gold in the impending bull market.
The Industrial-Demand Argument for Silver
Despite being categorized as a precious metal, silver is really a hybrid of precious and industrial metal. Industrial usage of silver accounts for roughly 60% of its annual demand, compared to 10% for gold.
Silver has been in a physical deficit in five of the last six years, according to The Silver Institute. The deficit could get even wider, given expectations of falling silver supply, coupled with the fact that silver is a key component in green products like solar cells and electric vehicles. Electric and hybrid vehicles will account for half of silver’s automotive use by 2040, helping to deliver substantial increases in silver offtake, according to Rhona O’Connell, a senior metals researcher at Thomson Reuters.
Keith Neumeyer, founder and CEO of First Majestic Silver Corp, is one of the mining industry’s most vocal silver bulls. Neumeyer says silver is ‘very misunderstood’ but that institutional investors are starting to wake up. Because of silver’s use in commercial applications like electronics, computers, and green technologies, he argues it is really a “strategic metal” that will be needed in enormous quantities going forward. Neumeyer further points out that mines are producing about 200Moz less per year than is being consumed (scrap silver satisfies most of the excess demand), and that this deficit will ultimately trigger higher prices.
Picture a silver coin — heads stands for macroeconomics and tails for physical demand. Now imagine you flip the coin and it comes up both heads and tails. That is potentially the situation silver finds itself in at the dawn of the new decade.
Miner Over Metal
Obviously increasing silver prices bodes well for miners with exposure to the metal, which by effect is better for investors. While investing in a surging metal can provide solid returns, there are no benefits of leverage.
When investors put their capital behind a miner of the metal, they can capitalize on operational and financial leverage as well as possible payouts that amplify the benefits of an increasing metal price.
Looking at the performance of silver miners relative to gold miners, it’s clear the value of gold miners have surged while silver miners have lagged. This is driven largely by the rise in gold prices relative to stagnant silver prices.
Price of Global X Silver Miners ETF to VanEck Vectors Gold Miners ETF
On a historical basis, silver miners now trade at a relative discount to gold miners. While we are starting to see a slight bounce-back, silver miners still have substantial upside from current levels.
This is especially true considering the strong bull-case for the metal outlined above, we expect to see silver prices strengthen and silver miners provide outsized returns for investors as we enter 2020.
To learn more about the Capital 10X’s top mining pick with silver exposure, read our review of Sierra Metals’ most recent quarterly performance or watch the interview with Sierra Metals CFO.
