Tarnished Silver: Ready to Shine

The now ten-year old bull market in precious metals has seen the price of gold move up well beyond it previous historical peak near US$875 reached briefly in January 1980. But silver has still not surpassed its all-time high of $50 an ounce -- and even remains well below its current cyclical high of $21 an ounce reached in 2008.

Even as investment demand for silver has soared, in part due to the introduction of silver exchange-traded funds in 2006, global macroeconomic trends have cut deeply into silver jewelry and industrial use while photographic use, once the largest consumer of silver, has continued to lose ground to digital photography.

In the next decade, a rebirth of silver industrial demand, thanks to the emergence and growth of a number of new end uses, will join continued strong investment demand to push silver prices sharply higher with the white metal gaining not only against the dollar and other old world currencies but also outperforming gold.

Meanwhile, silver mine production will remain relatively inelastic. To a large extent, silver is mined as a by-product or co-product of other metals (lead, zinc, copper, and gold) - and is dependent on mine-supply situation for these other metals and less on its own positive fundamentals.

Looking ahead, physical investment demand - for bullion coins like American Eagles and Canadian Maple Leafs, for small investment bars, and ETFs - will continue to expand as growing numbers of Western investors seek safe-haven and hedge assets.

At the same time, growing numbers of Eastern investors and jewelry consumers - in China, India and elsewhere - will also accumulate physical silver, reflecting rising personal incomes, silver-friendly government policies, and the maturation of precious metals market institutions and infrastructure.

The perception of silver as a cheaper alternative to gold - as "poor man's gold" as the metal is often called - and a growing recognition of the white metal's increasingly bullish supply/demand fundamentals will also foster rising investor interest around the world.

The biggest silver end-use sectors are first, jewelry and silverware, followed by electrical and electronics, where the metal's outstanding conductive properties are unparalleled. Both categories were tarnished by the global recession . . . but thanks to the economic recovery in the Asian economies and the tenacity of computer and consumer electronics demand everywhere, silver usage by these industries is beginning to pick up.

The really exciting news for silver, in addition to the strength of investment demand, is the advent of new industrial and commercial applications. Together, new applications may not amount to much this year or next . . . but within a few years the ounces will begin to add up and will make a meaningful bullish contribution to aggregate silver market supply/demand fundamentals.

Its outstanding qualities as an electrical conductor, its unique anti-microbial properties offering protection against infection and disease, its excellent reflectivity, make silver a 21st-century metal. Silver investors and analysts will be hearing more and more about solar energy, medical applications, antibacterial textiles, radio frequency identification devices, batteries, water purification, and culinary hygiene.

Very importantly, the quantities of silver used per solar cell, kitchen countertop, surgical appliance or bandage, fabric garment, RFID, plasma screen, and other emerging end-use products are infinitesimal -- measured in microns or nano-units. But, in not too many years, this will add up to millions of ounces a year in silver consumption.

The fact that silver content per product is so small means that industrial demand for silver in these applications is highly price inelastic -- so that even a doubling or tripling in the metal's price will have little significant impact on consumption. What's more, the rise in silver usage from these emerging industries should continue apace even if the Western economies remain lackluster - or worse - over the next five or ten years.

I believe the fundamentals now favor silver. These fundamentals are (1) the recovery of worldwide jewelry and industrial fabrication demand, (2) the emergence of significant new uses in the years ahead, (3) the inelasticity of demand relative to price in some end-use industries, (4) the inelasticity of supply, given that at least 70 per cent of silver mine output is a co-product or by-product of other metal mining, and (5) rising investor interest among both retail and institutional investors in the old industrial world and the newly industrialized Asian nations.

Based on silver's own improving supply/demand fundamentals, I expect higher silver prices in the months and years ahead. Consistent with my forecast of $2000 gold in the next few years, I expect silver to hit and surpass its 1980 all-time peak around $50 an ounce.

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