The Great Ballistic Rally in Gold and Silver – Phase 2

  • Commodities Analysis
  • Editors Pick

The gold and the Silver market remains under pressure. Late last week, gold and silver looked like they could breakout to the upside. This is a very crucial time not only for precious metals but equities and other key asset classes. The entire market structure has problems; inflation is skyrocketing much faster than the government and the FED will admit. There is no sign that they have a fix which we already knew. Eventually, this has to work in favor of gold and silver. Commodities and precious metals tend to produce better real returns during periods of high inflation.

As mentioned in my earlier post, the Phase 2 rally in gold and silver would commence in the mid of May 2022 and I expect there would be a major rally in Silver (more than gold) on display. Silver has been an under-performer in this so-called commodities supercycle to date. Then would be the time for silver to take center stage.

Gold is headed for the longest run of gains in more than a month as investors sought safety in the haven asset amid disappointing economic data. After falling more than 2 million ounces off the mid-April peak, global gold ETF holdings ticked higher late last week as equity markets came under further selling pressure. Nonetheless, around 5 million ounces of new ETF holdings created so far this year likely remain underwater at gold prices around current spot levels. This will remain a major overhang in the coming weeks the interplay between potential ETF outflows and Asian physical dip-buying keeping prices in a range averaging between $1,850 an ounce and $1,800 an ounce in the coming weeks. Upcoming economic data and the next Fed meeting will still way heavy, but gold has remained resilient, and the U.S. dollar fell hard this week.

Central banks are raising their gold buying targets. India’s central bank’s gold reserves are up 9.4% on year at 760.4 tons, Bloomberg reported. The Reserve Bank of India boosted its gold holdings by 65 tons in the year ended March to 760.4 tons, according to the central bank’s annual report. NOTE: The central bank boosted its gold reserves for the fourth year. Czech central bank also wants to sharply raise gold holdings to 100 or more tonnes. The biggest fallout from the Ukraine war is that even the smallest nation is increasing gold reserves. Other than most African nations, every central banker is trying to diversify away from the US dollar.

Silver Demand and Supply Trends to Watch

Silver has a distinct duality pricing function that, at times, may be contradictory due to its industrial component and its monetary role.

In this report, we provide our current outlook for silver. Ultimately, we believe recent market dynamics are creating short-term headwinds for precious metals from a monetary standpoint, but those trends could reverse – and silver supply constraints are likely to become more relevant in the face of sustained demand, with notable momentum in silver’s industrial uses related to the green energy transition.

Silver’s Behavior Since COVID

Silver bullion posted a 47% gain in 2020 (see red oval in Figure 1) and has recently been in a holding pattern. Despite this, silver traded in the range of $22-$28 in 2021, and its average price for the year reached a nine-year high of $25.14.

Since silver’s outperformance in 2020, the global macroeconomic environment has changed dramatically and become increasingly volatile. Markets continue to grapple with the impacts of the COVID pandemic, geopolitical concerns have increased substantially, and the recent sell-off of stocks has not yet found a stopping point. Rising interest rates have created a headwind for precious metals assets, particularly gold and silver.

More Volatile than Gold

Silver’s response to current macroeconomic challenges has been to follow its traditional pattern of reacting with more volatility than gold. Silver is down modestly YTD; priced at $23.35 per ounce on December 31, 2021, it was $21.72 as of May 23, 2022, a decline of 7.02%. Gold, by contrast, gained 1.38% YTD through May 23. Both are strong showings, given the S&P 500 declined 16.65% in the same period.

Figure 1. Silver Price vs. Gold Price (2000-2022)

Silver Price vs. Gold Price

Source: Bloomberg. Data as of 4/30/2022. Included for illustrative purposes only. Past performance is no guarantee of future results.

But to fully understand our current positive outlook for silver, we should revisit the supply-demand dynamics of the silver market — the fundamental relationship that directs long-term pricing trends. To assess these dynamics, we looked to the annual silver outlook published by the Silver Institute and Metals Focus in April, the World Silver Survey 2022.

Although the risk-off tenor of the moment may be a headwind for short-term silver pricing trends, over the longer term, we believe silver supply constraints will become more relevant in the face of sustained, growing demand.

Silver Supply Headwinds in the Post-COVID Era

As expected on the back of silver’s price rise in 2020, silver mining rebounded in 2021 — but to a lesser degree than forecasted. Mine production was up about 5% in 2021 from 2020 levels. Recycling volumes grew by 7% as higher pricing attracted more scrap to the market. Still, Metals Focus analysts had predicted growth for mining supply to be higher, in the range of 8%. As shown in Figure 2, silver supplies have dropped into a deficit since last year, and Metals Focus analysts predict another sizeable deficit of 72 million ounces in 2022.

Figure 2. Silver Supply Dives into Deficit in 2021

Silver Supply Chart

Source: Metals Focus, April 2022. Included for illustrative purposes only. Past performance is no guarantee of future results.

In addition to a tighter silver supply, silver grades have been declining for several years. Ore grades depend on several things, including rising silver prices (which make it profitable to accept lower grades) and how the silver is mined. Going forward, mining companies will likely have to invest more in exploration and development in order to increase or even maintain supply.

Figure 3. Grades of Mined Silver Ore have Declined ~55% Since 2005

Grades Of Mined Silver Ore

Source: CPM Group. Average grade data on seven primary silvers mines unsubstantiated by SPM Group, 3/16/2021. Included for illustrative purposes only.

Byproduct prices are also a big input for total silver mining activity. More than 70% of silver mining supply is a result of byproduct mining. Higher prices for byproduct metals — lead, zinc and copper , for instance — drive higher mining activity for those metals, essentially subsidizing silver mining in the process. That impact has contributed to supply in recent quarters. But, it’s a tailwind to supply that is potentially at risk. If macroeconomic conditions soften in the medium-term and price support eases for those byproduct metals, the silver mining supply is also vulnerable. Without the subsidy effect of higher byproduct prices, the outlook for silver supply could be even weaker than expected.

Figure 4. Higher Prices for Byproduct Metals have Helped Silver Mining Output

Silver Mining Output

Source: Bloomberg, as of 5/13/2022. Orange = Copper Futures. Green = Zinc Futures (3-month contracts). Blue = Silver Spot. Gold = Gold Spot. Included for illustrative purposes only.

Miners must also contend with inflation, which directly impacts their fuel costs in production and exploration. If costs are expected to increase and silver miners aren’t sufficiently confident in higher silver prices, it’s difficult to envision a scenario where they are likely to ramp up mining activity substantially. There are also continued reports of worker shortages in silver mining as the tight labor market and waves of COVID outbreaks hamper operations in some locations.

These supply trends have already resulted in a drop in global silver reserves. In 2021, 122 million ounces (Moz) of silver were added to reserves, but 270 Moz were taken in production, as shown in Figure 5. Reserves dropped by about 4% to 3,412 Moz at year-end. Exploration and discoveries were also underwhelming in 2021. Globally, the total identified silver resources (excluding reserves) only grew 1% last year. At the same time, there was subdued merger and acquisition activity in 2021 in the primary silver sector, with only eight deals totaling just US$11 million.

Figure 5. Global Silver Mine Reserves Drop in 2021

Primary silver reserves declined as mining depletion exceeded additions.

Global Silver Mine Reserves

Silver Demand: Green Technologies Support Sustained Growth

While silver supply faces some constricting trends, the rebound in demand could prove sustainable, thanks to silver’s critical role in growing green energy initiatives.

Photovoltaic demand — silver inputs for solar panel production — is a prime example, growing 13% as a category in 2021 and contributing to a new record high for global silver demand in 2021. This rebound, even in the face of the supply-chain constraints that have plagued global manufacturing since COVID began, reflects the substantial green-energy investment that is underway.

We believe this trend could drive continued demand growth even if another manufacturing activity softens incrementally. Industrial demand overall accounts for about half of annual silver demand, and photovoltaic demand is about a fifth of all industrial off-take (and growing in share, since photovoltaic is growing faster than overall industrial use at large).

Figure 6. Silver Industrial Demand Tops Pre-COVID Highs, with Higher Photovoltaic (PV) Fabrication

Silver Industrial Demand

The outlook for green energy investment has only strengthened in the face of the Russia-Ukraine conflict, which is pushing global sentiment towards energy security and renewables. Vehicle electrification and renewable energy demand could have more staying power in an environment where developed economies are turning a corner toward weaker growth or even recession. Industry forecasts project that silver demand for electric vehicles is likely to eventually surpass the volume of silver used in photovoltaics. As Paul Wong discussed last month, silver prices have demonstrated a growing correlation to energy transition equities. According to Wong, “Silver pricing has become highly correlated (R-square of 0.82) with energy transition equities, as illustrated in Figure 7. This Energy Transition Index is comprised of 12 large ETFs in the energy transition space (solar, renewables, wind, carbon, infrastructure, uranium, etc.).”

Figure 7. Silver Correlates with Energy Transition Equities

Silver Correlation with Energy Transition Equities

The Energy Transition Story is a Large Force for Silver

The current environment may be dominated by risk-off behavior, but that’s not the primary factor for longer-term demand, particularly given its dual nature as a precious metal and an industrial metal.

We see the energy transition story as a large force for silver demand — this year and in future years. The geopolitical issues dominating the current environment only strengthen that trend, even as they weaken other components of demand. The pandemic and the war in Ukraine have both served to reinforce investment in energy-transition initiatives.

Silver is a critical component of electric vehicles (EVs), which are experiencing strong demand growth globally. EV sales are slated to represent >30% of total light-vehicle sales by 2030, mainly stemming from China, Europe, and the U.S. EVs are going to require a new set of manufacturing materials versus traditional ICE (NYSE: ICE ) (internal combustion vehicles) vehicles. Silver’s high conductivity and ductility make EVs more efficient by establishing lightweight but strong electrical connections between batteries and other car components. Battery electric vehicles use between ~25-50 grams of silver per vehicle.

At present, EV inventories remain backlogged. Ford announced in January that it would double production of its electric F-150 pickup truck to work through a three-year backlog. Tesla Inc (NASDAQ: TSLA ) reported that some models were backlogged until 2023, even after price increases. Solar panels have also been backlogged in recent months, according to some reports.

Figure 8. A Surge in EVs

EV Sales Chart

Positive Non-Industrial Demand Trends

Looking at non-industrial demand for silver, trends have been milder but positive. In photography — which represents a small and declining share of demand — there was a small post-COVID rebound related to the catch-up trend of X-rays in healthcare after lockdowns subsided. Jewelry and silverware are more closely tied to economic growth, and both rebounded substantially in 2021. The return of weddings and social events in India supported higher jewelry production. Italy and China also accounted for healthy rebounding demand for jewelry amid economic recoveries. Silverware also reflected these trends. However, jewelry and silverware purchases both remained below pre-COVID levels.

Physical demand for silver coins and bars is the most volatile category of demand (and hard to get real-time data for mid-year). Physical demand grew 36% in 2021 over the year prior, driving the category up to represent a full quarter of global demand for the year. Bar and coin investments have not retreated since 2016/17.

Figure 9. Silver Bar and Coin Investment Surged by 36% in 2021

Silver Bar and Coin Investment Chart

Why We Remain Bullish on Silver

From a pricing standpoint, silver is historically undervalued relative to gold right now and offers an attractive investment opportunity. We see a picture of silver fundamentals where supply trends cannot keep up with longer-term demand. Overall, the silver market has been in a physical deficit since 2019, and mine supply has been in decline since 2016. There has been a lack of funds going into mine development and the timelines from discovery to production have gotten longer. On the demand side, all segments of silver demand are rebounding, led by industrial, jewelry and physical investment. We continue to believe that silver is likely to benefit from supply constraints in the face of growing demand. We expect green technology and de-carbonization trends to continue and increase, even if economic growth slows globally.

Courtesy: Sprott Asset Management LP – Maria Smirnova

Silver – Is The Manipulation Finally Ending?

Andrew Lane –

By every comparative metric, silver is cheap. It is so cheap that no other commodity has such industrial importance yet still sits over 50% under its all-time price highs. And let us not forget this is in a macro environment of severe currency debasement where virtually all other commodities have posted multi-year or all-time highs in the last two years.

Mining silver isn’t that easy, and it tends to be a byproduct of other metals. It also comes out the ground at a ratio of under 10/1 against gold – another indicator that the current 84/1 metric is far stretched and silver should be more expensive. Silver’s existence is far less prolonged than gold, as it is consumed in industry, where gold tends to sit in vaults or is used as jewelry and recycled.

So given its importance in industry, the green future initiatives across the globe where masses of silver will be needed (for solar panels alone, the forecast numbers are more or less half a year’s production), and many other reasons, why isn’t the price of Silver higher? That’s because of the futures market.

Derivatives are essentially made-up instruments to trade a representation of any market. They are a paper price setter and are susceptible to mass rigging, often not allowing a fair value due to contracts being made of thin air. Gold and particularly silver have been victims of this manipulation for years, and this hasn’t been more prevalent than in the last two years.

Silver appears to have a rigged price ceiling of $30/oz that would have the paper shorts in serious trouble should it be breached. The CFTC even admitted live on air they were able to “tamp it down” and prevent a massive problem in February 2021 when the Silver squeeze movement attempted to run this price higher.

Much like the huge run that ended in August 2020, silver nudged $30/oz before being blatantly slammed back down, where we have since traded sideways in a range between $21-$28/oz. The premiums on buying silver from your well-established bullion dealer now sit at eye-watering levels, particularly in the UK. Buying a 1oz Silver coin, you are looking at a 50% premium. The paper price is not the actual price.

JP Morgan – a name hideously synonymous with metals manipulation continues to be fined for rigging prices in the futures markets. You or I would have had our trading licenses removed. Still, when penalties dished out by governing bodies are not proportional to the illegitimate proceeds made, they have little incentive to stop.

According to live statistics from the US Debt Clock, the paper-silver ratio sits at an incredible 344/1, with gold at 111/1. How can the CFTC claim its sole purpose is to allow free-market price discovery when you have a derivatives market with absurd figures like these?

Gold, claimed by the LBMA, sees 95% of its daily trading non-delivered. This means that forward contracts are settled for cash or rolled over. A day’s trading in London alone just in Gold totals the yearly production from mining it. The settlements for this would be logistically impossible to deliver, yet it never gets investigated.

Furthermore, derivatives give a reasonable indicator of the gulf in physical to paper. For many years, it has been questioned how much rehypothecating goes on in these markets. Put, the physical Gold and Silver available for delivery is minuscule in comparison to the paper contracts, each claiming to be backed against them.

The example of gold’s trading figures above reinforces this. Organizations have been able to loophole this by using leases and swaps. However, the last two years have highlighted the gulf in unallocated accounts. Claims for metals could be hundreds of times over. It seems whatever rules are imposed, traders have found a way to mask this deceit.

But do not despair because we appear to be very close to a defining juncture that somewhat ironically has been brought about by the US government. The sanctions imposed by the west on Russia have led to a major hurdle in the Forex markets for the US dollar.

The Russian currency is now sitting at much higher levels than before the invasion as they have demanded payment in anything other than US dollars. They have started the charge, which could lead to an enormous fallout of the US dollar coupled with inflation causing mass debasement and a current falling US dollar index all work in silver’s favor.

There isn’t a lot to eke out further lower at these price levels, but also falling open interest against a backdrop of rising price levels. Silver appears to have bottomed. Have the shorts begun exiting their positions and covering? Each day at the open for months, we have seen the silver gap lower only to be bought back in the following hour. This is textbook contract dumping.

Silver has also been in backwardation for nearly a month. Backwardation essentially means prices are being bid up against forwarding futures prices. This is almost an acknowledgment that delivery demand is being knocked upon due to there being a lack of faith that metals will be available in the forward months. This is a bullish indicator.

Finally, I was asked recently why I think that manipulation will end in metals, and my answer is twofold: Look at palladium which for years was the most shorted metal and when they threw in the towel it ended up trading to highs of five times its suppressed price, and secondly, nothing goes on forever. Silver is so cheap this should be used as an opportunity to stack more.

One day this house of cards event will come crashing down. We may be very close to this.

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