Why silver will rocket

These days it seems everyone is a gold bug. Three years ago when I first recommended gold as an essential part of every portfolio I felt very alone indeed. However now you can't pass a newsstand with out seeing a cover story on the allure of gold, particularly since the price has leapt from $280 an ounce to around $425.

But gold isn't the only metal that should be of interest to the private investor. What of its poor relation, silver? Silver is rarely mentioned as an investment in its own right but there is an excellent case to be made for it being an even better investment than gold.

Like gold, it has long been in a bear market and at $6.96/oz is trading at a fraction of its all time high. But that shouldn't be the case for long. Take silver's relationship to other assets. The gold/silver ratio (the price of gold divided by that of silver) has hovered around 40 since 1900. Today it's in the 60s. Then there is the Dow/silver ratio. This bottomed at 18 times in 1980 (it took 18oz of silver to buy one share in the Dow) and the long-term average is 80. Today it is around 1500. So if you believe in the long-term inevitability of this kind of number reverting to the mean which I rather do - there is obviously scope for gains in the silver price.

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If you'd rather leave the ratios to the technicians and mystics, consider instead silver's fundamentals. Last year was the 14th in a row that demand outstripped supply. Inventories are constantly being depleted (under 70% of the silver used last year was newly mined) but mine output is not yet rising in response. Low prices have discouraged new exploration and production. So, supply is very tight indeed.

Could more be mined? Of course it could. The silver market like all commodity markets is nothing if not cyclical. Rising prices lead to increased production and then falling prices. But it takes anything from 5 to 15 years to explore a mine and get cost efficient reserves into production And in the meantime demand shows little sign of slowing. Silver has a huge number of industrial applications and despite the commonly expressed argument that the advent of digital photography will destroy conventional photography (which makes up about 20% of silver demand) this is not nearly as serious a threat as first thought. Not only is the conventional market still growing but digital technology turns out to be rather less permanent than one would like: if you want to print something and keep it for ever you have to do it on silver backed paper.

If you add all this to rising demand for silver jewellery in the likes of China (the affordability gap between it and gold has grown) and the emergence of safe haven buying in the face of a persistently fragile global economy, it seems pretty clear that the fundamentals of silver and its price just don't match.

Need more? How about this. Warren Buffet and Bill Gates are rumoured to hold large amounts of physical silver and both of my favourite hedge fund managers have been buying recently. I bet they know what they're doing.

Sadly there's a catch in the silver story getting exposure to it. If you want to hold gold you can pop out, buy an ingot and use it as a doorstop until you need it. If you want to hold physical silver to the same value you're going to have to move the car out of the garage for it. If you can't do that you will have to dabble in the futures markets (see www.lme.co.uk for an introduction to these markets) or spreadbet on the silver price. Otherwise there are a few pure equity plays including Silver Standard in the US and Canada listed PAN American Silver and Hecla Mining. One word of warning however; like all metals markets, the silver market is volatile so don't bet your pension on it.