Gold and silver: More trick than treat

(MENAFN- OMC) Carsten Menke, Head Next Generation Research, Julius Baer
While the fundamental backdrop in the gold and silver markets has changed markedly over the course of the past year, it fails to fully explain the price pressure the markets have been facing as of late. Flows have moved back into the driving seat of the markets and breaking below key levels – USD 4,000 per ounce of gold and USD 50 per ounce of silver – could cause additional selling pressure. Short-term price risks seem skewed to the downside, but the longer-term outlook remains compelling. Specifically for silver, we do not believe it is yet cheap, either in absolute terms or relative to gold. That said, should prices break decidedly below USD 50 per ounce, a buying opportunity might be opening up.
Most of this year has been much more trick than treat for gold and silver. Selling pressure persists, pushing prices towards USD 4,000 and USD 50 per ounce, respectively. The fundamental backdrop could hardly be more different from what it was this time last year. Back then, expectations were firmly pointing to lower US interest rates, a weaker US dollar and political interference with the US Federal Reserve. Today, it is the opposite. While it is important to acknowledge this change in the fundamental backdrop, it fails to fully explain the price pressure the markets have been facing as of late. As it was the case last year, flows have become an additional factor pressuring prices. The key levels to watch are where the markets are today – USD 4,000 per ounce for gold and USD 50 per ounce for silver. Decidedly breaking below these levels could cause additional selling pressure, most notably from physically backed products, which remained very resilient as of late. Short-term price risks seem skewed to the downside, but we still see a compelling longer-term backdrop. Both gold and silver should be supported by concerns about the indebtedness and interest-rate burden of the United States. While gold also benefits from central-bank buying as a strong structural source of demand, this is not the case for silver. We stick to our views: Constructive on gold and Neutral on silver. Some investors may start to see today’s silver prices as a bargain, but we do not believe it is yet cheap, either in absolute terms or relative to gold. The gold/silver ratio has risen above 75, which is somewhat higher than the median-level since 1985. In our view, a level above 80 would make silver attractive and only above 90 would be a bargain. As outlined previously, silver’s price performance is all about investors. The structural-deficit narrative can only materialise if investors continue to accumulate it. Thus far this year, many of them stayed on the sidelines – in particular the more speculative ones. As a case in point, physical volumes on the Istanbul exchange, which had become a speculation hotspot around the turn of the year, are down 90% from their peak. What would lure investors back into the market? Clarity and conviction about a less aggressive US Federal Reserve. The outlook for US monetary policy is the single most important factor for silver at the moment. While we expect one more rate hike this year, we project none next year as energy price pressures ease. Should silver prices break decidedly below USD 50 per ounce, a buying opportunity could be opening up. That said, this would be much more of a short-term tactical trade, a treat, rather than a longer-term buy-and-hold position.
 

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