Big Silver-Stock Potential

Adam Hamilton     February 7, 2020     2689 Words


The silver minersí stocks are looking interesting.  While they really lagged silverís surge on goldís bull-market-breakout rally last summer, their upleg since remains intact.  Gold stocksí own upleg peaked in early September.  And silver itself remains wildly undervalued relative to gold, overdue to mean revert dramatically higher.  When that happens during goldís next upleg, the silver stocks have big potential to soar.


Like the global silver market is vastly smaller than goldís, silver stocks are a proportionally-little fraction of the precious-metals miners.  As a small subset of a usually-ignored contrarian sector, the silver stocks often languish in obscurity.  For decades there wasnít even a silver-stock index, making sector analysis difficult.  Thankfully that changed in April 2010, when the first silver-stock exchange-traded fund launched.


The SIL Global X Silver Miners ETF has maintained a first-mover advantage ever since, functioning as a silver-stock index despite its flaws.  This week SILís net assets ran $525.4m, 3.6x bigger than its next-largest competitorís.  All 3 silver-miner ETFs trading in the US only have $763.6m of capital.  Compare that to the 11 US-traded gold-miner ETFs, which command net assets a massive 27.3x bigger at $20,849.1m!


Every few months I analyze the latest quarterly results of the major silver miners included in SIL.  Thatís where this sector benchmarkís limitations really become apparent.  With Q4í19 results still coming out over the next month or so, Q3í19 remains the latest reported quarter.  And that continued to show major silver miners increasingly diversifying into gold production.  Recent yearsí low silver prices necessitated this.


SILís top 17 silver miners dominating this small ETF at 93.9% of its total weighting averaged just 40.4% of their Q3í19 revenues from silver!  The majority of their sales came from gold, with some base metals mixed in.  Goldís far-superior cashflows have greatly helped traditional silver miners weather their metalís long slog deeply out of favor.  But lower silver exposure also retards these minersí sensitivity to silver-price moves.


The more gold the major silver miners produce, the more they trade like gold stocks amplifying that metalís trends.  The secular yellowing of this sector definitely casts a pall over silver stocksí potential.  But most investors and speculators still remember these companies as primary silver miners.  And since there arenít many major silver miners left anyway, capital will pour into them again as silverís next upleg powers higher.


Iíve written much about major gold stocks in recent months, and despite remaining really undervalued relative to gold they are wavering technically.  The leading and dominant GDX gold-stock ETF peaked in early September, and hasnít been able to regain those highs since.  Thatís despite gold surging to new secular highs of its own on geopolitical fears, the US-Iran conflict flaring and Chinaís coronavirus outbreak.


Usually the silver stocks mostly follow the gold stocks for several reasons.  Again the majority of the big silver minersí revenues now come from gold.  And silverís primary driver is gold, silver only powers higher when gold itself is.  Finally the traders interested in silver stocks are a subset of the contrarians interested in gold stocks.  So for the most part, silver and thus its minersí stock prices are effectively slaved to gold.


Thus I donít write about this small realm often, since silverís fortunes are directly dependent on goldís.  Generally as goes gold, so goes silver and its minersí stocks.  But SILís recent performance has really diverged from silverís, goldís, and GDXís!  Iíve been watching this chart superimposing SIL over silver with growing interest recently.  The silver stocks are faring much better than they ought to in this situation.



Back on September 4th, a silver-stock upleg peaked in concert with silver, gold, and the gold stocks as measured by GDX.  SIL crested at $32.22 that day, driven by silver hitting $19.59.  While the major silver stocks had blasted far enough to catapult SIL 46.6% higher in 3.3 months, that was a disappointing silver-stock upleg.  In that same short span silver itself soared 36.6% higher, so silver stocksí leverage was terrible.


Naturally silver stocks are far riskier than silver itself, bearing all kinds of operational and geopolitical risks in addition to silver-price risk.  Thus silver stocks are only worth trading if their gains amplify silverís when it enjoys bull-market uplegs.  A case in point is this silver-stock bullís maiden upleg mostly in the first half of 2016.  SIL skyrocketed 247.8% higher in 6.9 months, leveraging silverís advance in that span by 6.1x!


Given the risks inherent in highly-volatile silver and its miners, I need to expect leverage running at least 3x to deploy capital in this sector.  Silver stocks were so disappointing when the precious-metals sector peaked in early September because SIL had merely amplified silverís own gains by 1.3x.  Thatís nowhere near enough to compensate traders for the minersí serious additional risks beyond their underlying metalís.


Silver crested then because gold did, which in turn peaked because speculatorsí gold-futures positioning had grown excessively bullish.  After studying and trading silver for decades, Iíve found it mostly acts like a gold sentiment gauge.  When gold is consistently rallying, traders increasingly flock to silver forcing its price higher.  But these capital inflows wane when gold tops out, and reverse to selling as gold retreats.


Since those normal precious-metals upleg toppings in early September, silver has ground sideways to lower.  While silver surged with gold starting with the latterís late-December downtrend breakout, silver didnít follow gold to new upleg highs.  Silverís rallies on that flaring US-Iran conflict in early January and the Chinese coronavirus outbreak in late January proved very muted compared to goldís major new highs.


Silver was right back to lagging gold again, a vexing trend that has endlessly frustrated the silver-stock traders in recent years.  With the white metal really underperforming the yellow one, silver-stock prices shouldíve mirrored silverís disappointment.  But they didnít.  As this chart shows, the major silver stocks as measured by their leading SIL benchmark are continuing to gradually climb in an extended upleg!


Unlike the GDX major gold stocks which failed to eclipse early-Septemberís original peak, the SIL major silver stocks hit new upleg highs in late December.  As silver surged on goldís downtrend-breakout rally starting on Christmas Eve, SIL blasted up to a new upleg high of $33.32.  That extended silver stocksí upleg to 51.6% gains over 7.0 months, making for greatly-improving 2.1x upside leverage to their metal!


Silver stocksí upleg remains intact, with SIL meandering higher mostly within trend since last summer.  So from a current-technicals standpoint, the silver stocks are looking better than the gold stocks these days!  Thatís really unusual, and suggests enthusiasm for and capital inflows into the traditional major silver minersí stocks are stealthily mounting.  That portends a flood of buying as silverís next bull-market upleg begins.


Arguably silver stocks deserve to keep advancing relative to the metal they mine, because their original upleg was prematurely killed by gold at such anemic gains.  They still havenít reasonably reflected silverís full advance between late Mayís deep lows and todayís levels.  So a continuing catch-up rally is certainly warranted.  And silverís bull itself is likely to grow massively bigger in coming years for similar reasons.


Again technically silver is a leveraged play on gold.  Capital floods into silver when gold gets consistently bought.  Higher gold prices considered sustainable motivate investors and speculators alike to buy silver and its minersí stocks.  Silverís tight technical relationship with gold over the decades is both indisputable and ironclad.  And todayís silver prices are wildly undervalued compared to current prevailing gold levels!


This next chart quantities silverís relationship with gold through the Silver/Gold Ratio.  As dividing silverís daily closes by goldís yields tiny hard-to-parse decimals, I prefer to consider this SGR in inverted-Gold/Silver-Ratio terms which is identical.  Ever since this silver bullís maiden upleg peaked in early August 2016, silver has been losing ground relative to gold on balance.  Silver psychology has been miserably weak.



In that first chart above you may have noticed SIL plunged in Q2í19, hitting a deep 3.3-year low.  That temporarily interrupted a longer upleg.  The reason the major silver miners plumbed such ugly depths is silver itself was collapsing while gold remained fairly stable.  Late last spring before goldís breakout to its first new bull-market highs in several years, traders were wholesale abandoning the precious-metals realm.


Silver plunged so fast relative to gold that the SGR hit an unbelievable 93.5x in early July!  That meant it took 93.5 ounces of silver to equal the value of a single ounce of gold.  That was an apocalyptic 26.8-year secular low!  Silver was languishing at its worst price levels compared to its primary driver in well over a quarter century.  Such monumental extremes are exceedingly rare, resulting from unsustainable psychology.


With silver stuck in the $14s and virtually everyone assuming it would keep spiraling lower, naturally the silver minersí stocks were shunned.  The major silver miners of SIL were still technically profitable, averaging all-in sustaining costs of $11.51 per ounce in Q2í19 while silver itself averaged $14.88 that quarter.  But margins were squeezed and these companies werenít earning enough to compensate for their big risks.


Yet history has proven that extreme silver levels relative to gold never last long.  The extreme fear and apathy plaguing silver was maxed out, everyone interested in selling soon was already gone.  With selling exhausted, buying soon had to return.  And it did as goldís late-June bull-market breakout fueled enough momentum to sustain a major upleg.  Silver rocketed higher at double goldís speed in the next 2.5 months.


Silverís relative outperformance blasted the SGR back up to 79.3x on that early-September day when the precious metals peaked.  Powerful mean reversions higher are normal for silver after it has been beaten too low relative to gold.  Had goldís own upleg ran a few more weeks before speculators expended their capital firepower and stopped buying gold futures, silverís outsized gains wouldíve continued blasting the SGR higher.


Since mid-December 2015 when todayís secular gold and silver bulls were born, the SGR has averaged 78.8x.  So silver price levels didnít even return to bull averages relative to gold before it prematurely killed silverís still-young upleg!  All silverís lost upside potential remains, as it didnít climb far enough relative to gold.  And since silverís upleg peaked, the SGR has again fallen off a cliff as silver lagged goldís upside.


Because silver sentiment stayed bearish, silver certainly didnít proportionally mirror goldís latest new highs on Chinaís coronavirus breakout.  So by late January, the SGR had collapsed all the way back down to 90.0x.  Thatís not far above last summerís extreme quarter-century-plus lows.  And remember they helped unleash silverís last upleg.  Silver still needs to mean revert far higher relative to todayís gold prices!


So far in Q1í20, gold has averaged $1561.  If silver merely returned to that low SGR-gold-bull average at 78.8x, that implies silver at $19.81.  That would be a new secular high exceeding late Septemberís peak levels.  And with silver approaching the psychologically-heavy $20 level, thereís no doubt traders would flock back to silver stocks.  SIL would explode higher, hitting major new highs in this extended upleg.


If silver regained that 65.9x SGR seen in the summer of 2016 when this bullís maiden upleg peaked, that would yield $23.69 silver at this quarterís prevailing gold prices!  That would be a major new silver-bull high well above August 2016ís $20.56 bull-to-date peak.  The capital that would deluge into this tiny silver-stock sector at such silver prices would be massive, catapulting these stocks to amazingly-huge gains.


And even at such an SGR mean-reversion overshoot relative to this silver bull, this metal would still remain very undervalued relative to gold historically.  For many years the SGR meandered around 55.0x, so recent yearsí low levels were a serious anomaly.  That implies $28.38 silver even at todayís gold levels, let alone where gold goes in its next major upleg.  The SGR is likely to overshoot that historical mean too.


Because the world silver market is so small, this metal is the quintessential speculation.  Rarely silver enthusiasm morphs into such extreme greed and bullishness that its price rockets parabolic.  Much like the insane Tesla stock run this year, traders rush to buy high as they foolishly extrapolate such extreme gains into the indefinite future.  Silver last shot parabolic in a near-popular-mania in late 2010 into early 2011.


The higher and faster silver soared, the more investors and speculators wanted to buy it.  That forced the SGR as high as 31.7x!  At this quarterís average prevailing gold price of $1561, such bullish-extreme SGR levels would yield a silver peak of $49.24.  If silver powers back up to $30, $40, or higher later in this gold bull, the ultimate gains in the handful of major-silver-minersí stocks will likely prove life-changingly huge!


Contrarian traders who buy in low and are fully deployed during silverís rare parabolic ascents can multiply their capital many times over in less than a year!  These epic gains are why traders put up with silverís long dull years between such parabolic surges.  Silver stocksí upside potential is big, if not enormous, as silver inevitably mean reverts higher relative to gold.  Thatís almost certain to happen in coming years.


That being said, donít jump the gun on deploying.  Silver is effectively slaved to gold, and the situation in gold futures since late December has been even more extreme than it was in early September!  These hyper-leveraged traders are effectively all-in, with their long upside bets pretty much maxed based on precedent and their short downside bets as low as they get.  If gold rolls over into a correction, silver will follow.


A 10% gold retreat would likely force silver around 20% lower.  Considered from its upleg peak in early September, that would hammer silver back to the mid-$15s.  So if a gold correction is still coming, investors and speculators will enjoy far-better prices to deploy capital into the major silver stocks.  They and thus SIL could easily fall 20% to 30% from current levels.  So itís prudent to be patient and wait for now.


While silver remains wildly undervalued relative to gold, and the silver stocks are still cheap compared to even recent silver prices, silver is never immune to material gold selloffs.  But given this setup, silver will almost certainly well-outperform gold in its bullís next upleg.  And the resulting gains in the major silver miners should trounce those seen in the major gold miners.  SILís upside potential greatly trumps GDXís.


To multiply your capital in the markets, you have to trade like a contrarian.  That means buying low when few others are willing, so you can later sell high when few others can.  In the first half of 2019 well before gold soared higher, we recommended buying many fundamentally-superior gold and silver miners in our popular weekly and monthly newsletters.  We later realized big gains including 109.7%, 105.8%, and 103.0%!


To profitably trade high-potential gold and silver stocks, you need to stay informed about whatís driving broader gold cycles.  Our newsletters are a great way, easy to read and affordable.  They draw on my vast experience, knowledge, wisdom, and ongoing research to explain whatís going on in the markets, why, and how to trade them with specific stocks.  Subscribe today and take advantage of our 20%-off sale!  Get onboard now so you can mirror our coming trades for the next gold and silver uplegs.


The bottom line is silver stocks have big upside potential.  While their upleg last summer was truncated prematurely when gold initially peaked, that uptrend subsequently resumed.  SIL defied silver relapsing into again underperforming gold, making new upleg highs in late December.  So unlike major gold stocks, major silver stocksí upleg remains intact.  That implies tradersí silver-stock demand is stealthily mounting.


Greatly boosting this sectorís upside potential, silver is still wildly undervalued relative to prevailing gold levels.  Not far above last summerís quarter-century-plus lows, silver has rarely been cheaper relative to gold.  This extreme anomaly canít last, meaning silver has to far outperform gold in its bull uplegs to mean revert way higher.  Silver stocks will soar on that!  But gold likely still faces a correction before its next upleg starts.


Adam Hamilton, CPA     February 7, 2020     Subscribe