Sunday, September 11, 2011

Silver Prices

Before we can give a proper update on the price of silver, two issues must be addressed.

First, if you are invested in a sector mired in a bear market you just cannot make money.  No matter how glossy the presentation or how popular the fund manager, gravity will win every time. As an example we will examine the common motive of the already-wealthy investor: "Not losing money". It is shocking how, time after time, this quest for certainty and safe harbor paradoxically yields the opposite results.

Our observation is this: Investors trade in their objectivity for perceived safety in the care of popular managers. A sharp dresser explaining yesterday's market can be tempting; he oozes certainty as he lays out what happened in history. But try and ask what he sees coming tomorrow.  Ask about the economic factors facing major demographic groups.  How about an opinion on the way capital flows will be affected by these groups as they respond to their newly-realized conditions?

The trick to making money in markets is attaining, if only for a split second, that aforementioned "total objectivity".  The market does not care about glossy presentations or the popularity of managers. This market is an adversary that must be taken seriously.  After all, it is the only enemy of which we are aware that at times has sent bright men jumping from tall buildings when they could not face defeat.

Once pure objectivity has been obtained in a state of true humility you will be in a position to see where capital is likely to flow.  The reason that this state must be obtained is because all other states are driven by the desire to be more secure, wealthier, safer or smarter.  Every time these desires drive a trade your risk of losing increases dramatically.

The second issue we need to cover is the difference between nominal and real prices.  We will keep this section short as this topic has been covered several times already on this site.  New readers are encouraged to use the search box at the top right of the screen to catch up.

Nominal prices are totally and completely irrelevant in making investment decisions.  We are exclusively concerned with real prices.  As we will explain, silver is a screaming buy right now and could be cheaper today than when we were discussing it at $9/oz.  Novice traders embrace total and complete ignorance when they make statements such as, "I will buy silver when it comes down in price a little, it is too high."  While it could come down in price the logic is flawed as a metric for making investment decisions.  These investors are headed for eventual losses; economic discussions in their company should be politely avoided.

Consider the following silver chart covering the past 18 months:
The rise to $50/oz represented an excessive spike and made a pullback likely. Notice that after briefly crossing $50 the price fell relentlessly for days.  The COMEX raised margin requirements 5 times in an effort to force liquidation of paper silver long positions.

When you purchase a futures contract to hold 5,000oz of silver only $21,600 in cash is required for the initial contract.  This provides roughly 9x leverage in that particular market.  If you have $21,600 in your account and the exchange raised the initial margin requirement to $25,000 per contract you have to either post $3,400 to your account or sell the contract.  Imagine if they do that 5 times in 8 days.  What effectively happens is all weak hands are forced from the market.

Here is a 5 month chart of silver:
Silver remains in a major long-term uptrend.  The price of this tracking stock could retreat to roughly $23/oz without disturbing the trend that is in place.  Within that trend we see a strong bullish pennant formation.  This occurs when a trading range develops and becomes tighter and tighter until it breaks either higher or lower into a new short term trend.  Silver is currently trying to break that pennant and at this time it appears to desire higher ground.

Remember our example of how the exchange raises margin requirements to manipulate the price of commodities.  Silver has begun to test its old highs with half of the leveraged removed from the trade.  As they continue tightening silver requirements consider that eventually they will achieve a 1:1 ratio with cash and we will effectively be dealing with a physical market.  

Silver mining stocks are perhaps even more compelling at this time.  Due to the byproducts found in silver mining some producers are operating with a negative cost of production per ounce.  We have covered how to buy metals so many times that you should know what to do.  You can also ask your highly compensated stock broker or wealth adviser what to do in the sector.  If he suffers from denial and continues to persuade you to consider bear market sectors try our search box at the top right of this page.

1 comment:

Romocop said...

From an AP news story on a recent surge in foreclosures, demonstrating most excellent cigol:

"A pickup in foreclosure activity also means a potentially faster turnaround for the U.S. housing market. Experts say a revival isn't likely to occur as long as there remains a glut of potential foreclosures hovering over the market."