iNVEZZ.com, Saturday 14 December:
The worst performing precious metal this year has been silver with the spot price currently down about 35 percent, versus gold’s 25 percent decline year-to-date. Actually the only precious metal in the black this year is palladium, up less than two percent. That’s a complete U-turn from 2012, when every constituent in the sector reported positive returns and silver was the best-performing precious metal.
Leon Esterhuizen, a precious metals analyst at the Canadian Imperial Bank of Commerce (CIBC), believes that the main driver of the collapse in the spot price of silver “is the view that gold has become very vulnerable to a possible improvement in the real interest rate environment in the US”.
Historically precious metals have had a strong negative correlation with US real rates, meaning silver performs well when the difference between interest rates and inflation is declining. When US real rates go into negative territory, precious metals perform exceptionally well because their holding costs turns negative and investors are literally “paid” to hold them, clarifies Esterhuizen.
This year US real rates, calculated by CIBC as the difference between 10-year T-bond yields and CPI inflation, turned positive for the first time in two years and that inevitably led to a sharp sell-off in the spot price of gold. “Silver, being almost tied at the hip with gold, tends to react the same in terms of direction, but with some added ‘gusto’”, adds the Canadian analyst.
Although silver has industrial application, Esterhuizen stresses that “it is investment demand that currently drives this price.” The precious metals expert notes that, in point of fact, the amount of by-product silver is enough to fully cover current total industrial consumption. Nearly 60 percent of silver supply comes from mining for other metals.
In the view of Leon Esterhuizen,” this is not a normal or usual supply-demand equation where marginal cost of supply determines the price—if investment demand declined sharply, by-product producers would not stop supplying the metal, but even low-cost primary supply may have to be shuttered.” Silver exchange-traded funds (ETFs) have proven to be most popular vehicle for investors to take long-term positions in the market since their introduction at start of the new millennium.
This is also where much of the analyst’s concern lies. While the collapse of gold can be attributed to a massive 35 percent reduction in ETF holdings, “silver ETF positions seem oblivious to the very low price of silver”, points out Esterhuizen (see charts below).
CIBC’s analysts then goes on to say that “herein lies both the key to investing in the silver market and the obvious significant risk of a dramatic capitulation or sell-down in the silver ETF if the silver price drops even lower”, potentially being dragged lower by US QE tapering. In other words, if silver ETF holders were to sell in the same way as their gold peers did this year, the downside could be substantially larger.
Given the hazardous ETF positioning and CIBC’s conservative view on gold over the short-term, Leon Esterhuizen expects the spot price of silver to drop $18 and potentially lower in the first quarter of 2014.