Silver's Epic Mean Reversion / Commodities / Gold & Silver 2020

Silver is poweringhigher in a new bull market after getting clobbered in March’s stock panic.  Investors have been flocking back to silverin the aftermath of that ultra-rare extreme-fear event.  That brutal selloff also utterly wiped out speculators’upside bets in silver futures, giving them massive room to buy back in.  After being pummeled to record-low levelsrelative to gold, an epic silver mean reversion higher is underway.

A couple weeks ago, I wrotea popular essay “Big SilverBull Running!”.  It explained what happenedto silver in this recent COVID-19 stock panic, and why silver soared in itswake.  Sucked into that blinding fear maelstrom,silver was thrashed to a miserable 10.9-year low.  This metal plummeted in a near-crash, fueledby speculators’ fastest long purge ever witnessed!  That exhausted their selling, totallyresetting longs.

That meant these super-leveragedtraders’ capital firepower was fully available to buy back into silver.  And much more bullish than that, strong andrelentless silver investment demand emerged since that mid-March collapse.  That’s evident in the soaring silver-bullionholdings of silver’s leading exchange-traded fund, the SLV iShares SilverTrust!  This dominant silver ETF is thebest daily proxy for global investment demand.

The remarkable capitalinflows pouring into silver through that major SLV conduit from American stockinvestors were explored in depth in that recent essay.  But with surging investment demand as evidentin SLV’s holdings its primary thesis, I only had room to tangentially touch onanother very-important bullish silver factor. That’s silver’s relationship to its overwhelmingly-dominant primary driver, gold price trends.

This white metal hasalways tended to mirror andamplify whatever is happening in the yellow one.  Silver effectively acts like a gold-sentimentgauge.  Traders’ enthusiasm for silvermounts when gold is rallying on balance, leading them to bid silver higher well-outperforminggold.  Since the world silver market istiny compared to gold’s, worth just a small fraction in any given span, capitalinflows fuel outsized silver gains.

But when gold is generallydrifting lower, or grinding sideways long enough to shift sentiment to bearish,silver is abandoned.  Speculators andinvestors alike are only interested in silver when they expect gold to continuematerially advancing.  With silver joinedat the hip with gold psychologically, it tends to leverage significant goldmoves by 2x to 3x.  And where silvertrades relative to gold is analogous to its valuation.

The best time to buysilver is when it is abnormally-inexpensive compared to prevailing gold levels.  That can be measured through a simple constructcalled the Silver/Gold Ratio.  Butdividing silver prices by gold prices yields tiny hard-to-parse decimals like0.0089 this week.  So I’d rather use an inverted-axis Gold/Silver Ratio instead, which yields the same data in a much-easier-to-understandformat like 112.1x.

The recent stock panic’s extraordinarily-extreme impact on silver is really illuminated by this SGRproxy.  This chart shows how silver hasfared relative to gold over the last decade-and-a-half or so.  When this SGR line is rising, silver is outperforminggold.  The opposite is true when the SGRfalls, gold surpasses silver.  This chartis jaw-dropping, revealing exceedingly-anomalous SGR levels which are wildly bullishfor silver!

When silver plummetedto that extreme 10.9-year secular low of $11.96 on March 18th during the stockpanic, the SGR soared to 124.1x!  Inother words, it took 124.1 ounces of silver to equal the dollar value of asingle ounce of gold.  That radical collapseliterally forced the SGR off the charts!  For over a century, about 100x was the ultra-rare SGR edge-caselimit.  Now all the long-term SGR chartshave to be redrawn.

Our daily silver andgold data extends back to June 1969, an immensely-long 50.9-year secular stretch.  Before March 2020’s stock panic, the worstSGR witnessed in that past half-century was 100.3x way back in February 1991.  That only lasted two trading days before silvermean reverted back higher relative to gold. Our monthly silver and gold data runs much farther back to 1915.  The SGR hit 97.3x in 1940 and 1941.

So in the 105 years leadinginto March 2020, the SGR had briefly challenged 100x precisely twice.  And I’ve seen multi-century silver and goldcharts cobbled together despite data becoming increasingly sparse the fartherback in time peered.  They imply thiscrazy 124.1x seen in mid-March was an apocalyptic all-time-record low insilver relative to gold!  We just witnessedsomething so extreme it has never happened before.

Speculators’ most-extremesilver-futures long dump ever fueled silver’s near-crash, which obliteratedthis white metal to its most-extreme lowest levels ever compared to prevailinggold prices.  Silver had never beencheaper relative to gold!  Thiswildly-unprecedented anomaly is incredibly bullish for silver.  All past low-silver-price SGR extremes havebeen followed by massive mean reversions higher in subsequent years.

The last modern examplecame after the previous stock panic in October 2008.  These ultra-rare selling events spawn suchoverwhelming fear that they suck in everything else including gold andsilver.  In the same single-month spanwhere the flagship US S&P 500 stock index plummeted 30.0%, silver collapsed32.6%!  That catapulted the SGR to 84.1xthat month, which was a 13.6-year SGR high or silver-to-gold low.

Financial markets abhorextremes in long-term relationships. They not only never last long, but prices almost immediately start meanreverting back towards normal ratios after they are dragged way out ofwhack by anomalous shocks.  And there isnothing more extreme than ultra-rare stock panics.  The epic fear necessary to fuel them is sofar beyond normal that there have only been 3 in the last 113 years!

The incredible carnagethe frantic stock-panic mass selling inflicts on silver only lasts as long as peakfear in stock panics.  And that is reallyfleeting since extreme fear quickly burns itself out.  Once that initial overwhelming wave of fearpasses, silver immediately begins mean reverting back higher absolutely andrelative to gold.  Silver bull markets growenormous after stock panics, mean reverting before overshooting.

The Silver/Gold Ratio,and indeed many long-term price relationships, are like pendulums.  Equilibrium is the long-term average, analogousto a pendulum hanging straight down at rest. The farther a pendulum is pulled to either side, the extremes, thefaster and more forcefully it swings back down into its arc’s bottom mean.  But its kinetic energy, like momentum in the markets,propels the pendulum to the opposing extreme.

In the years leadinginto late 2008’s stock panic, the SGR averaged 54.9x.  That was right near the long-term secular meanas well, which ran 54.5x between 1970 to 2007.  So for many decades both gold and silverminers used an SGR of 55x to convert byproduct production of their secondarymetal into equivalent ounces of their primary one.  When a relationship exists for decades, there’sgood fundamental reason.

But like that pendulum,silver prices relative to gold’s didn’t just stop near 54.9x after silver’s super-lowextremes during 2008’s stock panic.  Insteadthey kept powering higher long after the mean, overshooting proportionally to the opposing one!  If you pull a pendulumto the left, it’s going to swing back to roughly the same height on the rightbefore running out of steam.  Silver’s lastpost-panic bull market was huge.

In absolute termssilver more than quintupled out of its stock-panic lows, skyrocketing442.9% higher over the next 2.4 years into April 2011!  Silver far outperformed gold in that post-panicmean reversion and overshoot, with the panic-bottom 84.1x SGR blasting throughthat longstanding 54.9x mean to soar way up to 31.7x when that post-panic silverbull ultimately crested!  Silver’s potentialafter stock panics is epic.

Investors flood backinto silver for years after these ultra-rare extreme-selling events deeply scarthem psychologically.  A stock panic istechnically a 20%+ S&P 500 plummeting in 2 weeks or less.  Falling that fast spawns such mind-bogglingfear that the total decline is often around a third in about amonth!  When stock investors suddenly andcatastrophically lose that much of their wealth, they are forever changed.

They remember the wisdomof prudently diversifying their stock-heavy portfolios instead of foolishlybeing all-in stocks.  So they gradually increasetheir virtually-nonexistent pre-panic allocations in gold and silver over the subsequentyears.  The precious metals are fantasticdiversifying assets because they tend to rally on balance when stock marketsare weakening or expected to.  Silver canbe more attractive than gold.

After stock panics,battered investors desperately want to be made whole again.  After a 33% loss, getting back to break-evenrequires a 50% gain!  And silver’s upsidepotential is much greater than gold’s simply due to the relative sizesof their markets.  Think of these likemarket capitalizations of individual stocks. The smaller any market, the faster prices can be bid higher on any givencapital inflows from investors.

The latest-available datafor both world gold and silver demand is full-year 2019’s.  According to the latest report from the WorldGold Council, global gold demand last year ran 4,355.7 metric tons.  That was worth $195.2b at 2019’s $1394 averagegold prices.  The Silver Institute’s latestdata pegs world silver demand at 991.8m ounces in 2019.  That was worth just $16.0b at last year’saverage silver prices running $16.18.

So the global silvermarket is only about 1/12th as large as the world gold market!  That means any given amount of capitalflowing into silver can exert about 12x the upward-price impact of that same amountmoving into gold.  That’s the major reasonwhy silver prices tend to amplify material gold-price trends by 2x to 3x.  Devastated stock investors following panicsalso like the relative perceived cheapness of silver.

With an ounce of silveror SLV share costing far less than on ounce of gold or GLD share, investorslooking to diversify in precious metals think they are getting more bang fortheir buck in silver.  They like to ownmore ounces or shares rather than less, which makes them feel like theirwealth has better potential to grow again. And once silver runs, investors love chasing winners so buying begets morebuying.

All thesepost-stock-panic dynamics that helped silver quintuple after that last stockpanic in late 2008 still exist today. And with that far-more-extreme all-time-record-high SGR inmid-March, today’s new post-panic silver bull has way more room to mean revertand overshoot to even-greater gains!  Ifinvestors continue migrating back into silver in coming years like after thelast stock panic, silver’s upside potential is epic.

Today’s secular goldand silver bulls began marching out of deep many-year lows in December2015.  From then until February 2020 priorto March’s extreme stock panic, the SGR averaged 79.0x.  That is really high historically, as silverwas languishing low and out of favor for much of recent years.  But there’s no doubt the panic-stricken SGRhas to at least shoot back up to that quasi-normal level in coming months.

With today’s prevailinggold prices near $1717, a mere mean reversion implies silver powering back upto $21.74.   That’s another 41.9% above current levels,which would make for a good upleg. Silver’s maiden upleg in this bull peaked at 50.2% gains, while itsmost-recent upleg this past summer ran out of steam at +40.0%.  But once silver regains that much ground relativeto gold, its momentum should carry it much farther.

A proportional overshoot,the SGR pendulum swinging back towards the opposite extreme, portendsfar-greater post-stock-panic silver-bull gains. Silver would blast so much higher in that scenario that it would dragthe SGR back down to 33.9x.  That wouldn’tlast long, it would mark the unsustainably-euphoric parabolic peaking of thissilver bull.  The last post-stock-panic bullshot the SGR even lower to 31.7x before failing.

At that same $1717 goldand this proportional-overshoot 33.9x, that implies silver soaring all the wayup to $50.65 before this new post-stock-panic bull gives up its ghost!  That’s certainly not unreasonable either, assilver peaked at $48.43 in April 2011 when that last post-stock-panic bull wentterminal.  That would make for a quadrupling out of March 2020’s extreme silver lows, a 323.5% bull run in coming years!

But running SGR mean-reversion-overshootscenarios off today’s gold prices is way too conservative as it ignores gold’sown bull market.  As I explored in anessay a few weeks ago, goldinvestment is soaring as well in this stock panic’s wake.  This is also likely to persist for years, drivinggold much higher.  Gold will prove waymore attractive than normal for years to come given the near-hyper-inflation gushingfrom the Fed.

In literally just 6weeks from mid-March to late April, the Fed’s balance sheet exploded an eye-popping52.4% or $2,261.2b higher!  This centralbank is printing money like there’s no tomorrow to monetize the colossalamounts of Treasuries the US government is issuing.  It is trying to fight the terrible depressionbeing forced upon us by governments’ own absurd draconian overreactions to theCOVID-19 pandemic.

Those trillions of newdollars being paid directly to Americans through loans and grants are going to becompeting for vastly-slower-growing goods and services on which to spendthem.  That is going to really bid upgeneral price levels, unleashing stagflation fears among investors!  This near-hyper-inflation will make gold andsilver far more attractive and essential for portfolio diversification thanafter the last stock panic.

Only time will tell howhigh gold ultimately flies in this radically-unprecedented broken world, butafter that last stock panic in October 2008 gold powered 166.5% higher over thenext 2.8 years.  So a doubling out ofmid-March’s panic low of $1472 seems reasonable if not conservative.  $3000 gold is certainly achievable in comingyears!  But let’s assume gold somehowonly climbs 50% in this post-panic bull, hitting $2200.

At $2200 gold, a 79.0xsilver-bull-mean SGR yields silver levels of $27.84.  That’s 81.7% higher than this week’s silverlevels in a mere mean reversion.  If the inevitableovershoot fails early and just carries silver back up to its decades-old 55x SGRaverage, we’d be looking at a $40.00 silver target.  And at that full proportional mean reversionof 33.9x, $2200 gold would imply silver soaring to new record highs near$64.90!

While these post-stock-panicsilver-bull price targets are interesting, they really aren’t very important.  Even if you only think silver has thepotential to double or triple out of its recent stock-panic low, which wouldcarry it back up to $23.92 to $35.88, you should be establishing a material portfolioallocation.  Maybe that’s 5%,compared to the 10% to 20% every investor should always have deployed infar-less-volatile gold.

And if silver isstarting an epic mean-reversion-overshoot bull run higher out of themost-extreme SGR levels ever witnessed by far, the gains coming in the major silver miners’ stocks will dwarf silver’s!  They tend toamplify silver’s own moves by an additional 2x to 3x.  So about a month ago we started adding newtrades in fundamentally-superior silver miners in our newsletters, buying lowbefore they soar far higher.

This new post-panicsilver bull’s upside potential is amazing! Silver’s shocking all-time-record low relative to gold is just onefactor.  Speculators’ extreme silver-futureslong purge left them positioned to be huge buyers.  And investment buying has already been strongand relentless in the stock panic’s wake. Add gold itself heading way higher on big investment buying andnear-hyper-inflation, and silver looks incredible.

We do all the hard fundamental stock-pickingwork at Zeal, winnowing the silver-stock field to uncover the likely bigwinners.  And we’re currently still redeployingin these fundamentally-superior gold and silver stocks as their latest upleggrows, which are recommended in our popular weekly and monthly newsletters.  The unrealized gains in our new trades deployedsince mid-March are already running up to 60% this week!

To profitably trade high-potentialgold and silver stocks, you need to stay informed about broader market cycles drivinggold.  Our newsletters are a great way,easy to read and affordable.  They drawon my vast experience, knowledge, wisdom, and ongoing research to explain what’sgoing on in the markets, why, and how to trade them with specific stocks.  Subscribe today and take advantageof our 20%-off sale!  Get onboardso you can mirror our great new trades being layered in for silver stocks’ nextmighty upleg.

The bottom line issilver is due for an epic mean reversion higher relative to gold in comingyears.  The recent stock panicobliterated silver prices to their lowest levels ever seen compared to gold!  Historically, similar but milder silver-lowextremes were soon followed by massive mean-reversion-overshoot bulls.  After the last stock panic in late 2008,silver more than quintupled over the next couple years or so.

Silver’s new-bull-marketupside potential after this latest stock panic looks considerably bigger.  Silver-futures speculators’ mass exodus duringthe panic gives them vast room to buy back in. And investment-capital inflows have already been strong and relentlessin this panic’s wake.  Silver shouldamplify gold’s own post-stock-panic bull on surging investment demand for prudentdiversification and on Fed-inflation fears.

Adam Hamilton, CPA

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