There’s been a lot of talk around precious metals lately, and it’s an asset class that needs to be examined closely due to its historical nature.
Following the Covid crash and subsequent government action, there has been unprecedented monetary easing in most of the developed world. Central banks have been flooding the market with liquidity with rate cuts and increased quantitative easing, and in certain cases (such as the US) we’ve even had helicopter money being deployed. These are extreme measures for – admittedly – an extreme situation. The combination of the negative demand shock together with the supply chain disruption brought the world to uncharted territory, and governments were very quick to react.
If we look at the big picture, what’s the end result of all this action? Having dropped sharply in February and March 2020, asset prices shot higher and never looked back, with many major equity indices registering new all-time highs and reaching lofty valuation levels.
Interestingly, it wasn’t just equities other risk assets that exhibited this massive strength; we also saw commodities taking off. Comparing to the Q1 2020 Covid-driven lows, we have seen (to name a few):
- Corn rising well over 100%
- Copper rising over 200%
- Lean Hogs rising over 300%
- WTI (if we ignore the temporary negative prices) rising over 300%
- Lumber rising over 600%
These are incredible moves which can severely affect the ultimate price of many goods and services, and they should not be taken lightly. The Fed seems to believe that the inflation we are seeing will be “transitory”, but I think that they may be underestimating the extent of the upcoming damage.
As the Fed expands its balance sheet exponentially, the Dollar loses ground and any USD-denominated assets will have a natural tendency to see their price inflate higher. As commodities shoot higher, so should precious metals – at least in theory. In practice, however, it’s been a mixed result:
- Palladium has been very strong and is hitting new all-time highs at $3000.
- Platinum is not hitting new all-time highs, but it’s still well over 100% higher from its 2020 lows.
- Gold is only around $200 higher from the February 2020 lows, and still around $300 from its all-time highs.
- Silver has done well since mid-2020 but it’s still way below its 2011 highs of $50.
On a comparative basis, gold and silver still seem to be underperforming other precious metals (and most commodities), and there’s potentially a good reason for that: many people use gold & silver price as an indication as to whether central banks are losing the monetary inflation battle. It’s no surprise that governments have historically used any means possible to keep gold price contained. These efforts can have a short-term effect, but in the long run the vast monetary supply expansion will always lead to an inevitable precious metal rally. That’s just basic economics, provided that supply and demand for the metals remains broadly constant.
Gold and silver supply has been pretty stable for a number of years now, and that’s not expected to change significantly in any way. Demand, however, has been rising – especially in physical. The recent #SilverSqueeze Reddit movement has been trying to push silver price higher in 2021, and they are trying hard to bring its price to what they believe to be a “fair” level.
They tried in early 2021 and failed, primarily because they used the SLV ETF which is not backed by allocated physical silver. In fact, we saw clearly that this strategy was deeply flawed, as the SLV price plummeted on the 2nd February 2021 even after there was a day of record silver demand. The gold & silver futures market is huge, representing vastly bigger amounts than the actual physical metals available, and it’s been a useful tool in the banks’ efforts to contain the price of gold & silver. We are now seeing the second wave of #SilverSqueeze, and this time round they are probably approaching the task in a much more effective way i.e. by buying physical silver and 100% allocated ETFs like PSLV.
Where does all this leave us? I think that Gold and Silver are undervalued compared to commodities – particularly silver – and they have potential to outperform in the next weeks and months. Gold and Silver miners also represent a way of getting long exposure to the metals, with higher volatility. It’s worth noting that gold & silver miner free cash flow is now at multi-decade highs, and a further rise in metal prices will only solidify this situation.
Technically both metals and miners look like they are consolidating before another thrust higher, so it could be a good idea to start accumulating longs (as I have personally been doing over the past weeks). The main risk to this thesis is a strengthening Dollar and rising real yields, but if any of these two scenarios materialise, they will likely only provide short-term price drops.
Gold is currently trading within a corrective descending channel and inside a resistance zone.
Silver, following its strong move higher from the March 2020 lows, is now trading within what seems to be a wedge, and I think that the most likely scenario is that it will get resolved to the upside. If this happens, there should be very little resistance towards the next area of interest at around $35.
Silver Miners (“SIL”) is also inside what looks to be a bullish flag and a break above would target the $75-$80 area.
Finally, Gold Miners (“GDX”) looks most bullish of them all, having been within a corrective channel for months but finally breaking out in April 2021. We are also seeing what seems to be a retest of the upper trendline of the channel, which usually is extra confirmation that the breakout is real.
So, what are the key takeaways from the current situation in precious metals and miners?
- We are finally starting to see inflation following the massive monetary easing, and this is already manifesting itself in many commodities.
- Gold and silver have been underperforming and should outperform in the following weeks and months. Silver usually outperforms gold in bullish markets, so it probably has even greater appreciation potential.
- Miners seem to be comparatively cheap, with very good prospects as metal prices rise.
(Disclosure: I am long gold, silver and gold & silver miners).