Why the silver price looks like it could fall by 20%

I’m getting increasingly worried about silver.

Just three years ago it launched itself majestically towards the $50 mark like a rocket-powered astronaut.

Ever since it’s been lurching about like a directionless drunk.

Now – and not for the first time – it’s staring over the precipice at $18.

The question is – it is going to topple over?

Silver – a great investment story, but never quite delivers

Silver investors are a funny bunch. Just as silver is ‘gold on steroids’, so silver investors are ‘gold bugs on steroids’.

Unlike namby-pamby gold buyers, who’ve sold off their gold exchange traded fund (ETF) hoardings – NYSE:GLD – by 40%, silver investors hold on and tough it out. The equivalent silver ETF has seen outflows of little more than 10%. They’re more committed.

Many are patriotic Americans who remember the old silver dollar with affection. Money was honest then. An ounce of silver for a day’s work. They believe in their metal. It’s just a matter of patience. Time will out.

They point to the fact that silver, historically, is money. That it means money in some 90 or more languages – shekel in Hebrew, argent in French, plata in Spanish. They point to the fragility of the current financial system and say the answer lies in hard currency.

Then they play their other trump card. Silver is finding more and more uses: as the world computerises itself, it will need endless silver. New discoveries are being made all the time about its ability to combat infection, odour, fungi, bacteria – the undead, even – so it’s finding more and more applications in medicine, biotech and clothing. The world needs more silver.

Then they play a third trump card. There’s a massive short position in silver on the futures exchanges – it amounts to more than annual global production. That silver cannot be delivered. Sooner or later, we’ll get the mother of all short squeezes and silver is going to go to the moon.

There’s a fourth trump card. Large silver discoveries are a thing of the past. Most silver occurs with lead and zinc, but investment in lead and zinc mining has gone the same way as Nick Clegg’s popularity. All sorts of shortfalls in both base metals are projected in the not-too-distant future. The same should also apply to silver.

And there’s even a fifth trump card. There is about 16 times more silver in the earth’s crust than there is gold, but gold is currently around 70 times more expensive than silver. If their prices moved to reflect their relative scarcity (as has been the case in the rather distant past), and the gold price remained unchanged, then silver would be nearly $80 an ounce.

There’s even more to it than that. Pretty much all the gold that has ever been mined still exists, but the silver has been consumed. So silver – say its most extreme believers – could actually go to parity!

Like the irresistible salesman with the shiny white teeth, like the adverts for EuroMillions, silver promises riches beyond the dreams of avarice – but it rarely delivers. And the silver investor walks away shaking his head wearily, incredulously, like the England player who’s just missed a penalty.

Silver is at risk of plunging another 20%

As I’m fond of saying, the more times a price tests a level, the more likely it is to go through it.

Over the last 12 months, silver has tested the $18-19 area time after time. It can only take so many tests. If it breaks down below, we’ll fall another 20% to $14 or $15 before you know it.

The key area is the red zone in the chart below, which shows silver since 2010.

Silver price chart

That would be painful for silver investors.

On the other hand, if silver can manage to meander sideways over the summer months, then it will actually get through that large blue trend line I have drawn off the April 2011 high. That will be some small solace to silver investors.

So what looks most likely?

You would expect to see a bigger washout before the market makes its final low. ETF holdings show that the diehard bunch that are silver investors are holding on still.  Perhaps a fall to $14 would see that wash-out.

For now though, it’s all about the $18 level. The big positive is that June is the weakest month in the year for silver. Professional traders look for a June low to buy that silver. Perhaps the low for the year is what we’re seeing at the moment.

I know the chief executive of one large silver mining company stops selling his silver in June for this very reason. If he can, he’ll do his selling earlier in the year and later.

Silver’s time will come again – of that I’m sure. The story is too good for it not to. But we may have to wait quite a while. If there’s one thing silver likes to do, it’s frustrate. And short-term traders in particular should keep an eye on that $18 mark.

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  • PatrickC

    As one of the long-term holders it is sadly true and something I have been anticipating for a while. But on the other hand I will be buying more so actually … good! The aspect that concerns me is when the great reversal will actually happen. The powers that be will stop at nothing to keep things as they are; as outlined in http://www.salientpartners.com/epsilontheory/emails/The_Minsky_Moment_Meme.html .
    There is another aspect to this which is how much the published $ spot price of PMs represents the highly leveraged “paper” price or the bullion price. If there is a run on the former to clean out the system then I suppose we are looking at much lower values. At some point the two will need to dichotomize.

  • Oscar Foxtrot

    Interesting analysis Dominic. I am still cost averaging into silver. Silver is relatively cheap, still falling in price and out of favour. In my contrarian book that sounds like the perfect time to buy.

  • DAS1951

    The Hebrew word for silver is NOT shekel, but “kesef” (from the biblical Ksaph כְּסַף)

    Kesef also means “money” in modern parlance.

    Your misunderstanding may have arisin from the fact that the shekel was an ancient silver (or maybve even gold) coin and measure of weight:

  • vince.c

    I’m very pleased with this article by Dominic because it will keep investors away. Using freely available historic prices, research and charts it might appear that the floor is about $18.15 and silver has repeatedly refused to go below that. It could therefore be argued that silver has hit its floor and is now set to go on a long bull trend. I’m starting to buy and will keep doing so. Still don’t quite understand why Dominic is bearish.

  • Borderer

    Dominic might want to talk to his colleagues at the Fleet Street letter, who are tipping physical silver and silver miners!

    So Moneyweek is bearish and their sister publication is bullish. At least one of you will be right.

    Once again, voodoo graphs and charts and no fundamental analysis at all. This is getting boring Dominic.

  • dialucrii

    I completely agree, to continually attempt to pass comment on the likely movements of precious metals without considering the very obvious and now mainstream issue of manipulation in the PM markets is nothing short of ridiculous. Dominic alludes to the draining of 900 tons out of the golf ETFS last year as demonstrating the less stoic nature of gold investors versus that of silver investors, rather than the more Likely explanation that the ETF gold was required to help meet the dramatically increased and greater-than-annual-mine-supply physical demand for gold (even on conservative estimates) from the east, which otherwise would have pushed the gold price up substantially.

    Dominic, please comment on the huge corners held by JP Morgan in both gold (long) and silver (short) as revealed by the COT reports for many months now and explain to your readers how these markets can move any direction other than that which they want it to?

    The price of an asset in a free market simply does not drop in the face of dramatically increase demand as we have seen in these markets. Nor does a for- profit seller sell billions of dollars worth of an asset in one go during illiquid trading hours.

    I enjoy your wit and writing style but your insistence upon avoiding getting your hands dirty and addressing these issues renders your articles on PMs no better than Mystic Meg’s horoscopes.

  • Borderer

    PostScript to my post above. Bought silver miner on Fleet Street Letter tip. Up 16.2%