When most people think of precious metals, gold is what springs to mind. Silver, the less glamorous shiny metal, gets forgotten. If it is remembered at all, the temptation is to lump it in with the yellow stuff as the Kardashians of the financial world; pretty to look at and interesting at times, but fundamentally of no use to society. This is the case with gold, and I would therefore argue that investors should look at gold more as a currency than a commodity. Silver, on the other hand, does have significant industrial uses. Indeed, industrial applications typically take up around half of the annual global production.
Whether you believe silver is a decent long-term investment or not often hinges on which of these roles you focus on. If you accept that the global economy is improving, then silver’s industrial uses make it a decent bet for long term appreciation. If you view it more like gold, however, as a store of value in times of trouble, then you could argue that it will underperform other investments significantly in that scenario. So, which is it, commodity or currency? I would argue that it is both, but, in the current environment, a case can be made either way to buy the metal at these levels.
Let’s look at the industrial case first. Historically industrial demand for silver came mainly from the photography industry, where it was used in the manufacture and developing of 35mm film. It doesn’t take a genius to see that that area of demand is, shall we say, declining somewhat. As is the way of the world, however, as a door closes, so a window opens. Silver is used extensively in many new technologies and products, including photovoltaic cells used for solar energy production and in smart phones and tablets. Production in both of these fields, particularly consumer electronics, is sensitive to global growth and part of the recent fall in silver and other commodities is attributable to a perceived potential for slower economic growth around the world. Even slower growth is still growth, however, and demand can be expected to increase.
If you prefer to look at silver as a currency, or currency alternative, then the case is even stronger. Central banks, most notably in the US and Japan, have responded to the sluggish recovery by pursuing expansionist, easy money policies. This has the effect of devaluing currencies and, to some extent, encouraging inflation. With continued problems in Europe, gold and silver, when viewed as currencies, may be the best place to store value.
My Foreign Exchange background makes it hard for me to eschew some kind of technical analysis, even when looking at a fundamental case, so let’s take a look at a chart.
The above chart is for the iShares Silver Trust ETF (SLV). I know this will annoy the physical silver fans, but more on that later. For now, let’s just assume that it is a reasonable proxy for the silver price. The right hand side of the chart doesn’t look pretty. We are in a downward trend with lower lows and lower highs. What interests me, however, is that we are approaching one of the few recognizable support levels since the drop began. Going back to July and August of 2010, the level around $18 provided first resistance, then support on the way up. This provides a set-up that I look for in any investment, where the risk/reward ratio is in my favor. A break of that support at say $17 gives a reasonable stop-loss level, while the target price to the upside would be a return to the $32-33 level. Based on yesterday’s close of $21.02, this gives a downside of around 20% and a potential for around 50% profit.
With regard to the debate over ETF versus physical ownership, I will say this. If you are looking at silver as a commodity, to be traded on simple supply and demand, then using the ETF makes perfect sense. You have no storage or delivery problems and your trading costs will be relatively low. If, on the other hand, your purchase is based on silver as a currency and store of value, then physical ownership may make more sense. If buying the metal itself, however, beware. For some reason the silver market seems to attract shady characters with well honed, forceful sales techniques. Check out the broker with a simple online search, and don’t be convinced to use leverage to overbuy or pay the broker for storage. Either way, interest charges and fees will eat into any potential profit.
Whether you see silver as a currency or a commodity, a case can be made for buying it at these levels. It represents an opportunity for a risk controlled trade to those who view it as a commodity, or a hedge against inflation and global currency debasement if that is your concern. Remember, though, silver is not just a pretty face. Unlike a reality TV star, it has uses.