It all started with a scandal.
Now something amazing has started in the silver market.
The silver price took nine long months to crawl from $18 to $20.
It then jumped by 50% to hit $30 in just three months.
Last year it finished the year up by more than 68%, leaving most other commodities for dead.
This is not normal! What the heck is going on? And how does it lead to a precious metals producer in North Argentina with 11.2 million ounces in silver reserves that I believe is undervalued?
If you haven’t been keeping up with silver lately, there have been some important stories. These stories have led to a huge move in silver which could continue into 2011. What exactly happened?
A few months ago, Bart Chilton of the Commodity Futures and Trading Commission (CFTC) said he “believes that there have been repeated attempts to influence prices in the silver markets”. JP Morgan and HSBC now potentially face class action lawsuits alleging that they had forced silver prices down for their own benefit.
Compared to gold, the silver price had been pretty flat for a year. But once the cat was out of the bag, the silver price went off like a rocket.
Silver price has gone through $30 again
I reckon it still has a long way to go yet. But the important question is how do you profit?
On the Australian Stock Exchange we only have a few small silver companies, and none are producing yet.
But eighty percent of the world’s silver comes from mines that produce silver as a by-product after something else, such as copper for example.
So, one good way to profit from high silver prices is to invest in a company with the highest proportion of silver in their deposit possible.
And to profit straight away from today’s high price means picking a company already producing the stuff.
Why am I so bullish on gold’s cheeky little cousin?
We all know the gold price has climbed steadily for years. Paper money’s value is based purely on the bond of trust we have in Central Bankers. But this bond has been broken. Gold functioned as money for thousands of years, and after forty years off-duty is returning to this role. It is ‘remonetising’.
So what about silver? It should be doing the same.
And now it is. The market manipulation has been uncovered. The silver price is now jumping like a kid on red cordial.
But how far can silver go? Well, for the last few thousand years the gold price has been fifteen times more than the silver price on average. This wasn’t by design, and was probably because gold is fifteen times rarer than silver in the earth’s crust.
This fifteen to one ‘gold-to-silver price ratio’ stayed true through history right up to start of the start twentieth Century. Then as Central Banks grew in power, silver was kicked off the podium and lost its importance. It soon became a shiny financial relic from a ‘less educated’ time.
So the relationship between the gold and silver price broke down completely. So much so, that silver has been around seventy times less valuable than gold for the last few decades. This belittles silver. It’s like seeing an old mate queuing up at the soup kitchen.
But all this is changing. Silver is back on its feet and fighting. This ratio is falling like a stone. Silver’s price jump means it is now just forty-five times less valuable than gold.
Gold to silver ratio returning to former glory?
But the silver price would still have to triple to more than $90/ounce to get this ratio back to fifteen to one.
Is this really possible?
As you should know from our financial advice disclaimer ‘previous performance does not guarantee future returns’.
Just because it happened in the past, it doesn’t mean it will happen again.
But if you take a quick look at the silver market today, it looks like it could happen.
There are only 1.2 billion ounces of silver bullion in the global ‘stockpile’.
This means there is only $33 billion worth of silver available. I’ll put that in context. The value of the entire global silver stockpile is less than Woodside Petroleum’s market cap.
Considering how many buyers there are worldwide, THIS IS TINY!
Silver is being bought by the ute-load with each paragraph you read. For example, silver coin sales have gone through the roof. The US Mint, Canadian Mint and Perth Mint are all setting new record silver sales each month. I’d say our own Perth mint is doing well pretty well. Fifty percent of the silver supply is used by industry.
With the world gone digital, the days of its use in photography is in its senior years. Medical industries are now behind a lot of demand for silvers unique antibacterial properties. It is used in bandages for example. And as so little silver is needed in each product, the silver price is irrelevant. The same huge demand will still be there if the silver price did indeed triple.
The important point is that none of this silver used in industry is recycled. It gets chucked in with the rest of the medical waste. Who would want to pick through that stuff? So all this silver slips through the cracks in the system: never to become bullion.
The real game-changer is the money going into Exchange Traded Funds (ETFs). Incredibly these hold about 60% of the world’s silver stockpile already.
There’s really not much silver out there left to buy, and the ETFs are quickly buying what’s left. They snapped up another 1.5% of the global stockpile in November alone.
It would take less than two years to mop up the rest at that rate.
With this sort of demand, the silver price is not going to fall any time soon.
To make the market even tighter, silver has an unusual supply problem. Eighty percent of silver supply comes as a by-product from mining companies producing other metals. Silver is not their main concern, or source of revenue. When demand increases, these producers don’t give a monkey’s. The supply will not change.
I think long-term the price goes up from here. In essence, silver is entering a bull market that will put gold’s to shame.
Dr. Alex Cowie
For The Daily Reckoning Australia