SILVER SET TO SOAR / MACLEOD FINANCE

Silver set to soar

Rumours are that Trump will put tariffs on gold and silver. But the real problem is a developing EFP crisis, similar to that seen post-covid. Silver stands to benefit more than gold.

ALASDAIR MACLEOD

Introduction

Bullion bank analysts will tell you that the threat of tariffs against Mexico (silver) and Canada (gold) is driving precautionary flows of bullion from London to Comex warehouses. 

This is evidenced by substantial premiums on Comex futures over spot prices in London, leading to large bullion shipments from London. 

But as this article demonstrates, this is a weak argument for what is actually happening: an acceleration of physical deliveries on Comex, highlighted by the potential consequences of Trump’s polices for the dollar and the entire fiat currency system.

Put another way, futures are being converted into bullion at a rate which is beginning to alarm the highly leveraged bullion bank community.

Because it has been left behind, silver appears to be a greater beneficiary from these developments than gold, at least in the short-term. 

We start by looking at silver’s technical position.

As the chart of spot silver illustrates, silver first broke out above the $29 level established in August 2020 when gold rose to new highs in the wake of covid lockdowns, and the exchange-for-physical crisis in gold and silver that followed it. 

But while gold has subsequently risen since then by 33%, silver has only managed a 5% net increase. 

And the gold/silver ratio has risen from 71 to 90 currently, reflecting this underperformance by silver relative to gold over the last twenty-nine months.

Silver has recently found support at the 250-day moving average. 

And if silver breaks above the 55-day MA (currently at $30.36) the price projection reflecting the 2020 move takes it to $45 minimum, probably quite quickly on the basis that the move out both in time and extent should be similar to its post-covid rally.

But so far, with the gold/silver ratio having risen to 90, silver has not delivered the performance bullish traders might have expected. 

This article aims to assess whether silver will return to its normal relationship with gold whereby it normally rises almost twice as fast.

The background

According to the Silver Institute, demand for silver has continued to exceed mine and scrap supply for the seventh consecutive year, after allowing for net purchases of exchange-traded products — ETPs. 

This assumes the current year is a continuation of this established trend. 

The position is shown in the report below prepared by Metal Focus for the Silver Institute. 

The accumulation of net demand over supply between 2019—2024 was over a billion ounces. 

And total supply is barely changed since 2019 at about a billion ounces annually. 

However, industrial demand has grown most, by 36% since 2019, a trend which is likely to accelerate particularly with the Indian government stimulating private sector voltaic production as a matter of policy.

The increase in physical investment is also driven by India and to a lesser extent China, with demand from the US and Europe declining. 

There are likely to be some errors in these tables, particularly in the estimates for 2024. 

But taking these into account, it is clear that there must have been a drawdown of above-ground stocks not included in Metal Focus’s figures. 

And sure enough, this is reflected in the LBMA vault holdings in the chart below.

Since April 2021 until last December, vaulted silver in London declined by 353 million ounces and in Comex warehouses by a further 60 million. 

Between them they accounted for about 63% of the 2021—2024 supply deficit.

London’s figure for January is likely to have dropped significantly due to shipments to Comex warehouses, whose stocks have increased by 24 million ounces so far this month, almost certainly through Comex’s exchange for physical (EFP) facility. 

This transfer has led to exceptionally high effective lease rates as the premium on futures over spot has soared over 10% from time to time.

This is a carbon-copy repeat of the disorderly market conditions following covid lockdowns, which coincided with the sharp rise in silver’s price. 

Between March and August 2020, silver soared from $11.75 to $29.90 as shown in the first chart above.

Could we be on the verge of a similar move? 

The chart tells us not to rule it out. 

But a word of caution: the market’s explanation is that Trump has threatened 25% tariffs against Mexico which mines 200 million ounces (25% of global mine output). 

If this was to occur, then supplies of physical to Comex could face some disruption. 

But Mexican mine supply does not feed into Comex directly, being refined internationally where it loses its identity of origin. 

Therefore, the excuse for why silver bullion is being shipped from London through the EFP market must be little more than a minor marginal Mexican story.

Furthermore, since 5 November when Trump won the presidential election Comex warehouse silver stocks have increased by 31 million ounces, while stands-for-delivery totalled 58 million ounces. 

This suggests an alternative reason for the EFP crisis: Comex shorts are faced with an unexpected demand for physical and cannot ship in bullion fast enough from London to cover it. 

This interpretation supports the view that silver prices are due to go higher and probably quickly at that.

The short-term vulnerability to this argument might come from the Trump administration making it clear that it does not intend to extend tariffs to commodity imports. 

This would be an opportunity for Comex shorts to pounce on the longs, triggering stops, and create an avalanche of falling prices. 

But as we have seen, total market liquidity between London and Comex bullion stocks has fallen due to Comex’s stand-for-deliveries — it is more a case of rearranging the deck chairs on a sinking Titanic than the end of a bullish argument. 

And it is remarkable that the gold/silver ratio at 90 times is already very high, confirming that silver’s price is already out of whack.

The position in gold has similarities, with the EFP market apparently spooked by threatened tariffs against Canada, which is a significant gold supplier. 

The reasons stated above in the case of silver similarly rule out the consequences of tariffs aimed at Canadian gold. 

The tariff argument only holds water if Trump introduces a universal tariff against gold and silver imports, which seems highly unlikely. 

His rhetoric has been aimed at imported goods, not commodities — though action against fabricated commodities such as Chinese steel cannot be ruled out.

Despite these arguments, Comex open interest has increased rapidly since 27 December, when the EFP squeeze on gold began in earnest, as the next chart illustrates.

Despite gold appearing overbought measured by Comex open interest, there is a danger, so far as markets are concerned, of the EFP crisis escalating in both gold and silver. 

That being the case, an indication from Trump that he has no intention of tariffs on precious metals would almost certainly create a painful sell-off of gold and silver futures in the short term. 

However, this is not yet a public issue so is unlikely to attract his attention.

Gold has been shipped mostly from London in significant quantities since the presidential election to the tune of about 10 million ounces (311 tonnes). 

Stand-for-deliveries have totalled 4.46 million ounces (138.8 tonnes). 

But the increase in net gold stocks sourced from London is probably in expectation of a continuation of the rising trend of stand-for-deliveries. 

And it is easier to airfreight gold out of London than to ship far volumes of silver.

Summary and conclusion

The risk/reward outlook for gold and silver prices in the next few months is governed by the following factors, which assess market-related aspects alone:

· Rumours of Trumpian tariffs on gold and silver bullion appear to be groundless. 

But enough traders have bought into this story that a denial of it could bring about a sharp short-term reaction. 

Such a statement from a president who is currently in the business of trade tariff threats rather than clarifications appears unlikely, unless forced to do so by an intensifying crisis.

· The ongoing raid by Comex on London’s bullion vaults is explained by accelerating stand-for-deliveries, whereby expiring futures contracts are used increasingly as a source of scarce bullion supplies. 

It is squeezing the bullion establishment which takes the short side in the market, while drawing down on London’s limited liquidity. 

Reflected in high EFP premiums, this is leading into a market crisis for bullion bank traders, whose short positions are highly leveraged in terms of the underlying bullion that they are now being forced to deliver.

· Market imbalances, which have built up over time are likely to be exposed. 

This is obviously the case with respect to silver, which according to Metal Focus’s estimates is heading into its seventh consecutive year of supply deficits.

· Given acute shortages of silver and a gold/silver ratio of 90 times, this crisis appears to offer greater upside in silver than gold, at least in the coming months.