Gold and silver
11 Jun 2020 | By Ned Naylor-Leyland

Served on a silver platter

As the banks collapsed in the throes of the global financial crisis, some investors dashed for cash while others got crushed by leverage. Real interest rates spiked and gold, silver and the mining equities fell hard.

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During that crazy spell of systemic risk during 2008, the gold/silver ratio – the amount of silver it takes to purchase one ounce of gold – rallied over 50% before it peaked at 84:1 with the announcement of quantitative easing by the US Federal Reserve (Fed) in early 2009. Over the following three years, the gold/silver ratio tumbled lower by c70% as investment capital percolated through the monetary metals space. Silver’s smaller size worked in its favour rather than against it, as it outperformed its golden peer.

All of that ended in 2012 as central banks began to promise stair-step rate hikes and the unwinding of swollen balance sheets. We entered a long grind higher for the ratio, as silver struggled against a nuanced macro set up, investors globally still preferring other instruments and sub-sectors in their alternatives bucket. History, it seems, it about to repeat itself.

 

The second mouse gets the cheese…

Silver’s eclipsing of gold is very typical when both metals are rallying, as they both move inversely to real interest rates, but the magnitude of silver’s price moves in percentage terms are often greater, both up and down. Indeed, silver is consumed in a number of ways in industry, such as in electronics, solar and medical instruments. This alone doesn’t drive price action as, like gold, silver is driven by real rates expectations (fears over the purchasing power of sterling, dollars and so on). Historically, silver is highly correlated to gold but the beta is variable. Silver’s return profile has the potential to be about the same as gold or up to 5x the gold price. However, given its absence from most benchmarks, it can take a little longer for capital to flow to the asset class and generally it moves after gold and major gold miners.

Fast-forward to 2020 and, in an echo of 2008, we saw a brutal deflationary deleveraging episode for about a month. Like in 2008 the gold/silver ratio rallied over 50% (up to 119:1) until the Fed stepped up and delivered a series of supportive measures to reflate and support a crumbling mainframe. We have every confidence that, as we saw from 2009-2012, this ongoing wave of policy response will drive investor allocations, higher spot prices for both metals and yes, material outperformance for silver over gold. The current set up with favourable macro and cheap silver versus gold is a most attractive proposition for those looking to the sector afresh, or even for the first time.

 

 

Silver set to take gold?

Having peaked at 119 in March, another dramatic collapse in the gold/silver ratio looks to be upon us – bear in mind the 20-year average is 66:1 – and we are positioned accordingly. Silver may be known as ‘the poor man’s gold’ (especially in Asia where gold’s high price point makes it extra attractive as a ‘Giffen good’ – a product that people buy more of as the price rises, and vice versa), but when fresh investment capital appears silver, in capital markets terms it is very much the sprinter to gold’s long distance runner.

And this race certainly won’t be a marathon; the monetary system seems to have turned the final corner, with the World Economic Forum now joining the clamour for a ‘reset’ amid sovereign nations seeking debt jubilees and cancellations. Silver is primed to benefit.

 

All data sourced from Bloomberg as at 9 June 2020.

 

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