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Silver price forecast cloudier amid interest rate doubt, gold/silver ratio remains high

on Jun 5, 2023
  • Silver has fallen 10% in the last month, and is still 50% below its value from 2011
  • Gold has vastly outperformed silver over the last decade, and is not far off all-time highs
  • Market is expecting a slowdown in rate hikes, meaning metals market is intriguing going forward

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Silver, otherwise known as gold’s younger, flashier and more volatile cousin, has always been an interesting gauge of market sentiment. 

The world’s second favourite precious metal has pulled back 10% over the last month, affected by both movements around the expectation of future interest rates, as well as what appears to finally be a positive resolution to the US debt ceiling negotiations. 

Looking back over a longer timeframe, silver has been a poor choice for investors, yielding a slightly negative return over the past three years. Indeed, beyond a jump in Q2 of 2020, silver has been struggling for over a decade. That unique time period marked the roll out of stimulus packages by governments in response to the emergence of the COVID-19 pandemic, providing impetus for silver to jump upwards. 

How has silver performed compared to gold?

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It’s hard to talk about silver without looking at gold. Silver’s struggle from 2011 onwards has also coincided with the gold/silver ratio steepening, highlighting gold’s outperformance. Gold continues to tick along close to all-time highs, while silver is trading over 50% below the $48 level it came close to touching in 2011.

Going back further, silver’s decline compared to its shinier cousin is clear. The gold/silver ratio was 30 in 2011, meaning thirty ounces of silver could buy one ounce of gold. Today, it sits at 82, although that is down from a high of 114 in April 2020 (you may notice, March and April 2020 threw up lots of crazy financial readings, this being when the world suddenly realised this thing called COVID was a little more impactful than originally thought). 

Why would somebody buy silver instead of gold?

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This takes us to the question. If silver has underperformed gold for so long, why would someone invest in it? I wrote a piece on that very conundrum in January, so I won’t rehash it in detail here, but I’ll quickly summary the main points. 

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The first thing to note is that, despite the underperformance of silver, these two metals have a reasonably tight correlation and tend to trade in similar directions. It is just that gold has moved upwards more in the good times, and resisted pullbacks more successfully in the bad times. This is one theory that silver bulls abide by: the gold/silver ratio has been on the rise in recent years and will inevitably pull back in future. 

The other is volatility. Silver is far more volatile than gold and so has the potential sharper moves in either direction. Gold is notoriously steady, and especially over a short time horizon, its range of outcomes are tighter than almost any other mainstream asset. Silver’s volatility lends investors a greater chance of banking a more substantial short-term gain than would be on offer for gold. 

The other factor worth mentioning is that silver has more industrial use cases. Close to half of silver’s demand is derived from this utility – manufacturing, electronics, automobiles, solar panels and so on. On the contrary, gold’s industrial uses are minimal. Therefore, silver is more affected by changes in demand from the state of the underlying economy. While the store-of-value and uncorrelated theses excel in times of recession, industrial demand also drops and reduces the demand for silver. 

What next for silver?

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So, what next for silver? Like a lot of financial assets, the metal is currently in a curious spot. This is because the Federal Reserve’s interest rate hikes finally appear to be on the home stretch. Rates have risen from near zero to north of 5% over the last 15 months. 

These rate rises are designed to curtail spiralling inflation. Therefore, they attack the very heart of what has always been one of the most significant price drivers for precious metals. Traditionally, silver and gold are viewed as inflation hedges, as well as uncorrelated hedge assets. 

Last week, I compiled an analysis assessing why the market is starting to believe there is a genuine chance that interest rates are finally coming to a close. If this comes to fruition, and rates are paused at this month’s FOMC meeting, it would be the first time in 14 meetings that rates were not hiked. 

But while inflation may be down from 9.9% last summer to 4.9% as of the most recent CPI reading, it is still a long way from the 2% target. That means the picture is cloudy, and there are analysts on both sides of the fence when it comes to recommending what the Fed should do next. 

Therefore, not only are silver and gold at an inflection point, but the entire financial market is. And pause in rate hikes or no pause, the lagged effect of monetary policy means there could still be significant fallout from the rapid tightening still to strike the economy. Whether a soft landing is attainable or a hard recession inevitable remains to be seen, but both the scale and pace of the interest rate hikes has been severe. 

Not only is a pause in rate hikes on the agenda, but when backing out probabilities on Fed futures, the market is starting to think rate cuts are also becoming a more tangible possibility. This has the potential to reverse the narrative around retreating inflation, and could provide renewed impetus for both gold and silver going forward. 

But again, uncertainty remains high and it is difficult to foresee what will happen next. One thing is certain however: silver investors have been left in the dust by gold bugs over the last decade, and are even further behind the eight ball when compared to other asset classes such as equities and real estate. 


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