them? Today we’ll explore those questions.
As you will see, the various precious metals ETFs don’t necessarily move together. Anyone who forgets this fact is taking unnecessary risk and possibly missing some potential gains.
First let’s see where we’ve been …
The most popular ETF proxies for gold and silver bullion are SPDR Gold (NYSE:GLD) and iShares Silver (NYSE:SLV). Over the four years ending 12/31/2010, GLD jumped 113 percent and SLV surged 118 percent.
Both ETFs more than doubled during this period. And they were as volatile as ever, falling hard in the late 2008 financial crisis. Nonetheless, the long-term trends were definitely bullish for both. The gains were of similar magnitude, though SLV did a bit better.
Gold and silver have also done well this year. But this time I see something different. In the first four months of 2011, GLD was up a healthy 9.8 percent. SLV? Its gain in the same period was a staggering 55.3 percent!
In other words, this year the silver ETF is outperforming the gold ETF by more than five to one! Does that make sense?
Certainly it’s no surprise to see precious metals in a bull market right now …
U.S. government debt is spiraling out of control, the Federal Reserve is printing dollars like crazy, and demand from the emerging markets is causing a run on all kinds of natural resources. Inflation talk is everywhere! Yet it’s unusual to see silver performing so much better than gold.
To track the historical relationship between the two metals, let’s take a look at …
The Gold/Silver Ratio
When SLV was launched in April 2006, the gold/silver ratio was about 47:1. You needed 47 ounces of silver to buy one ounce of gold. It stayed in fairly close range between 45:1 and 57:1 for the next two years.
In October 2008, when the banking system was on the edge of collapse, the gold/silver ratio shot up to 83:1. Why? Because investors were willing to pay a premium to own gold rather than silver. Gold was perceived as the more valuable commodity as it was less vulnerable to falling industrial demand and is often considered a global currency.
Over the next two years the gold/silver ratio never went below 58:1, but then it began dropping steadily as silver rallied. Now it’s down near 33:1, which is close to being a historical extreme. The ratio has dropped from 83:1 all the way to 33:1 in just two-and-a-half years. That’s a significant change over a relatively short time.
All prices — stocks, bonds, commodities, whatever — are ultimately determined by the balance of supply and demand. Financial markets exist because they are a good way to find that balance. A change on either side of the equation will affect the price.
Silver has many industrial uses in addition to its long-standing monetary role as the “poor man’s gold.” Worldwide supplies haven’t grown much and demand for silver is healthy.
Still, the current rally looks more than a little overdone. The availability of SLV and similar ETFs makes it easy for speculators to pile into this relatively small market. The result is a price spike.
Last weekend Barron’s reported that per-share SLV trading volume actually overtook the venerable SPDR S&P 500 ETF (NYSE:SPY). Whatever you think about stocks or silver, this is simply ridiculous!
Silver is a niche market. The S&P 500 is, by definition, THE market. No matter how you measure it, trading volume for these two instruments shouldn’t even be close.
This tells me that the SLV rally is getting absurdly speculative. Can it continue? Of course. I’ve found over the years that momentum can carry an ETF far higher (or lower) than most people think possible. Picking a top in a market like silver is tough.
I also can’t help thinking back to 1979-80. Billionaire brothers Nelson Bunker Hunt and William Herbert Hunt tried to corner the silver market, driving prices from $11 an ounce up to nearly $50. In January 1980, the exchange tightened margin rules.
The Hunt brothers were unable to make their margin calls. Panic ensued and silver prices plunged. Investors who showed up late for the party were wiped out.
Even though the exchange is again tightening margin rules for silver, I’m not predicting a repeat of 1980. I don’t think anyone has today’s silver market cornered. I do believe, however, that at this point the risk in SLV, or anything else silver-related, is very high — unacceptably high.
Would it make sense to go short in silver? There’s an ETF for that: ProShares UltraShort Silver (NYSE:ZSL). Be very careful: ZSL is a pretty risky trade, too. The 2x daily leverage makes an already-volatile market even crazier.
When silver crashes this time (and it will, sooner or later), look for the media to blame ETFs like SLV and ZSL. They’ll be wrong, of course; the 1980 fiasco proved that silver can soar and crash even without ETFs in the mix.
Bottom line: If you want to own a precious metals ETF right now, I think those that follow gold are likely to be a much better value than silver ETFs. Gold is by no means a low-risk market. But compared to silver, it’s an island of stability.
Related Tickers: ProShares Ultra Silver (NYSE:AGQ), ETFS Physical Silver Shares (NYSE:SIVR), PowerShares DB Silver (NYSE:DBS), SPDR Gold Trust (NYSE:GLD), iShares Gold Trust (NYSE:IAU), ETFS Physical Swiss Gold Shares (NYSE:SGOL), Market Vectors Gold Miners ETF (NYSE:GDX), SPDR Gold Shares (NYSE:GLD), iShares Silver Trust (NYSE:SLV), ProShares UltraShort Silver (NYSE:ZSL), PowerShares DB Gold Double Short ETN (NYSE:DZZ),
Global X Silver Miners ETF (NYSE:SIL).
Money and Markets (MaM) is published by Weiss Research, Inc. and written by Martin D. Weiss along with Nilus Mattive, Claus Vogt, Ron Rowland, Michael Larson and Bryan Rich. To avoid conflicts of interest, Weiss Research and its staff do not hold positions in companies recommended in MaM, nor do we accept any compensation for such recommendations. The comments, graphs, forecasts, and indices published in MaM are based upon data whose accuracy is deemed reliable but not guaranteed. Performance returns cited are derived from our best estimates but must be considered hypothetical in as much as we do not track the actual prices investors pay or receive. Regular contributors and staff include Andrea Baumwald, John Burke, Marci Campbell, Selene Ceballo, Amber Dakar, Maryellen Murphy, Jennifer Newman-Amos, Adam Shafer, Julie Trudeau, Jill Umiker, Leslie Underwood and Michelle Zausnig.
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