Silver Investing—Decoupling of Precious Metals Price Movements from the Markets

The gold market is showing signs of decoupling from the American stock markets. Coupling refers to the fact that for many years, the price of gold has moved with the markets. Markets up—gold up. Markets down—gold down. And silver generally moves the same direction as gold. It is no secret that gold has moved up much more the first decade of the 21st century than the U.S. market indexes, but the correlation in price direction held very well on short term moves.

The reason for the coupling is that the stocks and gold are deemed risky, while bonds, especially U.S. government bonds, are deemed safe. When markets are perceived as risky, money flows out of the markets and gold and into treasuries. The decreased demand for gold and stocks results in a price decrease for gold and stocks. The increased demand for bonds results in a price increase, and a yield, or interest decrease for bonds.

In the late summer of 2011 the U.S. markets pulled back about 10% from recent highs. Volatility increased also.  However, the price of gold did not follow stock prices nearly as often.  As the indexes etched a chart pattern of lower lows, the price of gold etched a chart pattern of higher highs. During this time period U.S. Treasuries did very well, indicating that many still viewed them as safe. The fact that gold did well also indicates that more investors now view gold as safe. It doesn’t take many, because as an asset class, the gold market is very small compared to stocks and bonds.

How about the precious metals of platinum and palladium? These are industrial metals. By far the largest demand for these metals comes from catalytic converters in automobile engines. Therefore, these precious metals are tied to automobile production, which is tied to the economy. I believe the developed world will suffer a deep and long economic depression this decade and into the next. If that happens, demand for platinum and palladium will decrease, and so will price. They will remain coupled to the stock market.

Now for silver, the other precious industrial metal. Industrial demand for silver is much, much higher than that of gold. It is the combination of this high industrial demand, low supply, and the fact that price has been manipulated lower for two decades that leads me to believe that over the long-term; the price of silver will outperform the price of gold by about three-to-one from current prices.  However, as world economic conditions get increasingly worse, the price of silver could suffer for a period of time. In the short term, it is short term expected demand, that has the greatest effect on price. Industrial demand will shrink. Also, I am not at all confident that the price manipulation is over. That one-two punch could push prices into the cellar. I hope it does. I’ll convert gold bullion to silver because I buy silver bullion for the long haul.

On the other hand, the estimated value of all the silver above ground is only about $35 billion. Compare this to gold at around $10 trillion.  The tininess of physical silver stock makes price susceptible to manipulation. But it also makes it easy for investment demand to overpower decreased industrial demand and manipulation. If just a few billion dollars of physical silver was purchased and pulled out of circulation by investors who intend to hold for the long-term, there will be a real physical shortage for industry.

So which will it be? Long term depressed prices, or short term depressed prices?

If world economies merely slide into depression, I think the former scenario will hold; the price of silver and stock prices will fall while gold rises (decouples completely). However, if economies fall off a cliff, the latter is more likely. The price of silver may be confused for a few days, but will then follow gold up. Silver decouples and will then be driven by investment demand, not industrial demand and manipulation.

Even though I believe the most likely scenario is depressed silver prices for months, I’ll hold the physical silver bullion I currently have. But it’s time to lighten up on “paper silver” – mining stocks and stock options. There is no need to take the risk when “paper investments” in gold are less risky.

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