A Further Correction In Silver Price Would Be A Scale-Down Buying Opportunity

December 1, 2019

Summary

  • Silver and gold ran out of upside steam in early September.
  • Silver did not accomplish what its yellow cousin did.
  • Lower highs and lower lows could lead to a deeper correction.
  • A volatile year on the horizon in 2020.
  • USLV and DSLV to turbocharge trading opportunities.

When digital photography changed the fundamental equation for silver, many analysts believed that the price of the precious metal would never recover. However, demand for silver in computers, cell phones, solar panels, and many other industrial applications rose to more than compensate for the loss from photography. Silver spent most of its time below $6 per ounce between 1989 and 2003. For a lot of that period, the price was below $5 and even ventured below the $4 level. Silver reached a low of $3.505 per ounce in 1991.

At the turn of this century, the price was between $4 and $5. However, all the concerns over industrial demand quickly disappeared from 2006 through 2011 when silver rallied to a high at $49.82 per ounce, just 54 cents below the all-time 1980 high. Each year, investment demand and herd behavior determine the path of least resistance of the price of the precious metal.

Meanwhile, silver corrected back down to $13.635 in late 2015. The price of silver has not traded below that level since 2009 or under $10 per ounce since 2008. The last time silver was below $6 was way back in 2004. After reaching a high at just over $19.50 in early September, the price was back below $17 at the end of last week. There are lots of reasons why we could see increased price variance in the gold and silver markets in 2020. The most direct route for a risk position in silver is via the futures and futures options on the COMEX division of the CME or in the physical market for bars and coins. For those looking for leveraged tools that turbocharge the percentage price action in the silver market on the up and downside, the Velocity Shares 3X Long Silver ETN (USLV) or its bearish counterpart (DSLV) provide an alternative.

Silver and gold ran out of upside steam in early September

Gold reached a high at $1566.20 on September 4 on the active month December futures contract. The price of the yellow metal corrected to its most recent low at $1446.20 on November 12, a decline of 7.66%. Silver reached $19.75 on the December futures contract, and the more volatile precious metal fell to $16.615 on November 12, a drop of 15.87%, more than double the move to the downside in gold on a percentage basis.

Source: CQG

The daily chart of December silver futures shows that the market has made lower highs and lower lows since the September 4 peak. At just under $17 per ounce on November 29, silver is a lot closer to the low than the high since early September. However, the $17 per ounce level has become a pivot point for the silver futures market since early November. Price momentum and relative strength indicators are both below neutral readings. Daily historical volatility has dropped to 10.20% from over 24.50% on November 13 as the market has been in a trading range around $17. The total number of open long and short positions moved from 229,450 contracts on November 4 to 206,469 contracts on November 27. The recent decline in the open interest metric could be because of the roll from December to March futures in the COMEX futures market. The gold futures market also experienced a decline in open interest over recent sessions as gold futures roll from December to February contracts.

Silver did not accomplish what its yellow cousin did

The gold market broke out to the upside in June when the price rose above the level of critical technical resistance at the July 2016 high of $1377.50. Gold blew through that level like a hot knife goes through butter and reached the $1560 level.

Meanwhile, silver rose to a high at $19.75 on the December futures contract and $19.54 on the continuous futures contract over the same period. The July 2019 post-Brexit high in the silver market continues to stand as the level of long-term technical resistance on the upside.

Source: CQG

The monthly chart illustrates that silver stopped short of the 2016 peak at its most recent early September high. While gold rose above the technical level, silver did not challenge then July high, which stands at $21.095 per ounce. Gold broke out on the long-term chart and remains above its breakout level. Silver fell short, and the price has backed off with the action in gold.

Lower highs and lower lows could lead to a deeper correction

The monthly silver chart shows that the precious metal put in a lower high. We could see further corrective price action in the silver futures market over the coming weeks. The short-term technical support level in the silver market is at the recent $16.615 low. Below there, the 2019 low and technical support is at $14.245 per ounce.

Meanwhile, the long-term technical picture in the silver market continues to suggest that the path of least resistance for the price of silver remains higher.

Source: CQG

The quarterly chart shows that the price has trended higher since the December 2015 low at $13.635 per ounce. The silver futures market has made higher lows, but the failure to make a higher high in early September stands as a warning sign for the silver market. However, the open interest metric has been rising with the price, which tends to be a technical validation of a bullish trend in a futures market. Price momentum has crossed higher below neutral territory, which is a positive sign for the silver market. The relative strength indicator is at a neutral reading. Quarterly historical volatility at under 11% is at its lowest reading since 2002, when the price of silver traded to a high of $5.15 per ounce.

A volatile year on the horizon in 2020

All of the factors that caused the breakout to the upside in the gold market and rally in silver remain intact going into 2020. US and global interest rates have declined and are not heading higher anytime soon. While the markets are hopeful that the US and China will reach a “phase one” agreement on trade, it does not seem like a deal is on the horizon in 2019. Moreover, many issues continue to divide the negotiators. Iran continues to be a thorn in the side of the US and Saudi Arabia as US sanctions choke the Iranian economy. At the same time, there's no end in sight when it comes to the proxy wars between the Saudis and Iranians. Another deadline for Brexit has come and gone. The next movable line in the sand for the divorce between the UK and European Union is now at the end of January. The 2020 presidential election in the US will be a highly contentious affair. The incumbent president is likely to limp into the contest after Congress impeaches him, and the Senate acquits President Trump. The uncertainty of future US policy with Democrats embracing a progressive agenda could cause periods of fear and uncertainty in markets across all asset classes.

The bottom line is that 2020 could be a very volatile year in markets across all asset classes. Price variance creates an environment where gold and silver prices would continue to attract investment capital, pushing prices higher. I'm bullish for the prospects of gold and silver prices in the coming year, but we could see lots of two-way price volatility before the metals rally to higher highs than we witnessed in early September.

USLV and DSLV to turbocharge trading opportunities

The most direct route for a risk position in the silver market is via the physical coins and bars available from dealers around the world. The COMEX silver futures market offers a delivery mechanism making for smooth convergence with physical prices. Those market participants looking for leverage and action in the silver market could consider the Velocity Shares 3X Long Silver ETN (USLV) or its bearish counterpart (DSLV). The two products are only appropriate for short-term trading positions on the long or short side of the silver market as time decay is the price for their leverage.

USLV has net assets of $342.44 million and trades an average of 429,301 shares each day. DSLV’s net assets are $25.16 million, and 472,410 shares change hands on an average session. Both products charge a 1.65% expense ratio.

December COMEX silver futures rose from $16.615 on November 12 to $17.16 on November 19, a rise of 3.28%.

Source: Barchart

Over the same period, USLV moved from $75.87 to $83.40 per share or 9.92% as the bullish product delivered a triple percentage return compared to the silver futures market on the upside.

The price of December silver futures declined from $18.23 on November 4 to $16.615 on November 12 or 8.86%.

DSLV appreciated from $15.56 to $20.02 per share or 28.66% over the same period, which was slightly over a triple percentage gain as the price of silver fell. One thing to keep in mind about the USLV and DSLV products is that they only trade during the hours when the US stock market is open for business. Silver trades around the clock during the week, which could cause gaps or missed opportunities if silver reaches highs or lows when US markets are closed.

Silver is a highly volatile commodity, and we could see an increase in price variance over the coming weeks and into 2020. I remain bullish on silver, but that does not mean that the price is going to rise in a straight line. Given the historical trading patterns in the silver market, a rally could come from a lower level below the recent bottom at $16.615 per ounce. Trading rather than investing could be the optimal approach to the silver market over the coming weeks.

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The Hecht Commodity Report is one of the most comprehensive commodities reports available today from the #2 ranked author in both commodities and precious metals. My weekly report covers the market movements of 20 different commodities and provides bullish, bearish and neutral calls; directional trading recommendations, and actionable ideas for traders. I just reworked the report to make it very actionable!

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: The author always has positions in commodities markets in futures, options, ETF/ETN products, and commodity equities. These long and short positions tend to change on an intraday basis.

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Andy Hecht covers Commodities and Forex as one of the original contributing analysts at FATRADER.com. A former senior trader at one of the world’s leading commodities trading houses, Philipp Brothers (now part of Citigroup), Andy has worked and consulted for banks, hedge funds, and commodities producers and consumers around the world for over 35 years.

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