Long Silver, Short Gold Play Continues To Work Well

A few key pieces of information on precious metals caught my attention this week, which continues to support my thesis that 2013 will be a year where gold (GLD) will continue to underperform against silver (SLV). I wrote an article about this topic about a month ago. Let’s examine how gold and silver have performed in the last month.


As the chart shows, both are up, but silver is outperforming gold by a factor of 3. Let’s examine the key news that came out this week to see if this trend has legs.

First, the news on silver.

There seems to be a shortage of silver right now. This is not surprising. As industrial demand grows with the economic recovery in China, silver, a key industrial commodity, is in high demand. As reported by Seeking Alpha commentator Dave Kranzler:

I have a couple different business colleagues who have spoken with bullion smelters who say the market is in short supply right now. Furthermore, Swiss money manager Egon Von Greyerz stated yesterday that “we are now seeing very lengthy delays in getting physical silver.”

How have investors reacted to the anticipated increase in silver demand, and hence higher prices? As reported by ETFtrends.com:

The iShares Silver Trust has gathered inflows of more than $600 million so far this week, which represents approximately 6% of the assets under management in the fund, to lead all ETFs.

This has led to a sharp rally in silver, as is clear from the chart above. I continue to be bullish on economic growth, especially from China. As reported by Seeking Alpha:

Chinese Q4 GDP rises 7.9% Y/Y vs. 7.8% consensus, 7.4% prior. December industrial production +10.3% Y/Y vs. 10.2% consensus. December retail sales +15.2% Y/Y vs. 15.1% consensus.

China is the engine that has been driving world industrial growth. If the outlook is positive for China, I believe that it is positive for silver as well. So, I continue to be bullish on silver.

Next, the news on gold.

Gold demand in aggregate continues to be weak. A reported by Bullionvault.com:

Full-year 2012 gold data from Thomson Reuters GFMS yesterday estimated gold demand from all central banks, as a group, at a half-century high of 536 tonnes, up 17% from 2011.

Gold demand from Chinese jewelry manufacturers, however, showed the first drop in 9 years, while household demand in India – the world’s #1 consumers – also fell.

Global gold mining supply hit a new annual record, albeit only 0.2% higher from 2011 and barely 8% above the level of 2001.

This is a key point. The Indian government has been clamping down on gold imports to curb the current account deficit. The hope for gold investors has been that China will make up for the slack. That doesn’t seem likely given the drop in gold demand in China. India, of course, continues to remain week in terms of demand. Together, these two countries account for nearly half of worldwide demand, and weak demand there spells significant weakness for gold demand as a whole.

One silver lining (pun intended) for gold seems to be that the Central Banks are buying. However, that remains a relatively small part of the market, less than a third of total demand from China and India combined. So, while it will stem the bloodbath some, it will in no way reverse it completely.

In the mean time, gold supply shows no signs of dropping. When demand weakens but supply at worst stays flat, that’s a forbearer of weak prices.

To profit from these trends, I had earlier recommended buying puts on the ProShares Ultrashort Silver ETF (ZSL) and the Direxion Daily Gold Miners Bull 3x Shares ETF (NUGT). For details on the rationale, interested readers may find my articles here and here. The put on ZSL is up about 40% since I recommended it about 3 weeks back. The put on NUGT is flat since I recommended it last week. I continue to hold these two positions.

Seeking Alpha


About abwehra group

The Art&Science of Trading Gold
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