With cries of “hi-ho silver!”, a small but vocal army of silver bulls rejoiced as the white metal soared to 16-year highs in the first quarter of 2004. But like so many times before, the euphoria was short-lived.
Within weeks, silver had plummeted from a peak of US$8.50 per oz. back to US$5.50 by mid-May, unable to sustain a “parabolic” ascent in the wake of bad news out of China (slower growth) and the U.S. (impending higher interest rates).
The crash occurred against a backdrop of fresh evidence that the world is consuming more silver than it is producing. According to World Silver Survey, a publication of Gold Fields Mineral Services (GFMS), fabrication demand reached 859.2 million oz. in 2003 while supply from mine production and recycling totalled 787.2 million oz., representing a shortfall of 72 million oz.
Silver has been in this deficit position for 15 consecutive years, and for 15 years the silver faithful have been waiting for the resulting supply-demand imbalance to trigger a sustained rally.
The last false alarm came in 1997, when investment guru Warren Buffet spent US$650 million to buy 130 million oz. Silver shot up to $7.80 per oz., only to track downwards as fabricators balked at the high prices.
“Silver has a history of having these spike highs and spike lows and then settling down into a very moderate price for a long period of time,” says David Morgan, editor of the Silver-Investor.com newsletter. “Eventually the price will have to adjust up, and it will stay there. When exactly that will happen, nobody knows.”
What has bridged the gap between production and consumption in recent years — and kept the price from escalating — is a drawdown of existing stocks, the millions of ounces of above-ground silver held by banks, private investors such as Buffet, and Comex, the New York-based commodity exchange.
While the precise amount of these stocks is impossible to calculate, GFMS estimates they stood at 671 million oz. at the end of 2003, equivalent to about 40 weeks of consumption.
Despite this substantial inventory, some silver enthusiasts, led by U.S. investor Ted Butler, believe prices have been kept artificially low for the past 20 years by a group made up of bullion banks, brokerage firms and commercial traders.
To spur an investigation into these allegations, investors have written thousands of letters to New York’s attorney general and other authorities. The U.S. Commodity Futures Trading Commission (CFTC) alone has received more than 500 letters and e-mails accusing traders of keeping a lid on prices by manipulating the futures market.
“The commercial short traders have neither the means nor the motive to manipulate downward the price of silver over the long period alleged,” the CFTC said in a 9-page letter to silver investors recently posted on its web site (see related story on page 4, in the main section). “The detailed large trader data to which we have access and the various prices we monitor give us no reason to believe there has been a manipulation of silver prices, either up or down.”
Conspiracy theories aside, the silver inventory cannot last forever. GFMS estimates stocks have fallen by 50% from their level a decade ago. Eventually, the above-ground store will no longer be available to supplement production.
“We’re getting to the point where, if demand continues to be stable or moves higher, then the stockpile will be eaten away,” says Morgan.
There is little reason to believe exploration for more silver deposits will lead to a substantial increase in mine output (though a much higher price would encourage development of existing deposits). Silver rarely occurs by itself in nature but rather tends to be mined as a byproduct in other metals. The world’s top nine silver producers are all polymetallic miners, says Morgan.
Meanwhile, there is evidence to suggest that those holding silver bullion are unwilling to part with it at prices under US$5 per oz. According to CPM Group of New York, the net amount of silver sold by investors was 43.5 million in 2003, down sharply from 81 million oz. in 2002 and a peak of 221.6 million oz. in 1997.
There is also a short position amounting to almost a year’s worth of mine production on Comex, which will have to be covered if the silver price were to sustain a rally.
Providing demand for silver for jewelry, film and industrial applications remains robust, these factors are bullish for bullion and for companies who mine or explore for silver. Among the obvious stock picks, says Morgan, are
In 2003, Pan American produced 8.64 million oz. from mining operations in Mexico and Peru. By 2006, the company aims to be the world’s largest silver producer with annual production of 20 million oz. Its shares recently traded at about $12 in a 52-week range of $8.78 to $25.95.
Although it does not produce silver, Silver Standard has a portfolio of projects with combined silver resources of about 850 million oz. Taking advantage of the recent dip in the price, the company has invested 20% of its sizable treasury in physical silver and now owns 1.95 million oz. of the precious metal. Silver Standard recently traded at $14 in a 52-week range of $6.26 to $23.
Another intriguing play is
Among the junior silver plays are
— The author is a Toronto-based geologist and freelance writer specializing in mining and the environment.
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