Silver surges to 30 dollars on retail buying frenzy

In the week to January 26, the day before the short squeeze in the now famous GME and AMC tickers helped send the broader market lower and the VIX index sharply higher, the open interest in silver futures, the real target for this onslaught, was split as per the chart below. The bullion banks belong to the swap category and as of last Tuesday they held a net-short of 22k lots, a very manageable 20% of the daily turnover in Comex silver futures. Swap dealers offer hedges to all sorts of market participants, including producers and they often find themselves being long the cash market which is then being offset in the more liquid futures market.

The irony of trying to hurt the swap short is that a rally will put millions of dollars into the pockets of hedge funds and other large money managers who ahead of last weeks surge held 44.3k lots long, a long that since Wednesday have netted them a profit close to 900 million dollars. The biggest net short of 57.2k lots was held by producers and they are unlikely to buy back their short as they are hedging future production and will deliver physical silver against their short obligation. 

The surge in silver has left gold stranded and still trading within its established range. This development has resulted in the gold-silver ratio (Ticker: XAUXAG) collapsing to a 6 1/2-year low below 63 and well below the long-term average closer to 70. 

Apart from an unprecedented pick up in retail demand for silver coins and small bars, the biggest pickup in demand has come through exchange-traded funds. The number of shares in the largest ETF, the iShares Silver Trust (Ticker: SLV:arcx) saw its biggest one-day increase on Friday. The ETF is backed by physical silver held in vaults, meaning it needs to buy the precious metal when the number of shares grow. 

Silver has seen its fair share of market surges and short squeezes with the most famous being the Hunt Brothers attempt in 1979-80 to corner the market by accumulating billions of dollars worth of silver. The price saw a four-fold increase before collapsing straight back to the starting point after the brothers were sanctioned for market manipulation. 

Another major rally unfolded between 2008 and 2011 which resulted in the price almost reaching $50/oz before another spectacular collapse unfolded. The rally back then was driven by the aftermath of the global financial crisis which saw metals rally on a combination of  quantitative easing, surging demand from China and the weaker dollar. Silver in addition went through a period of tightening supply which all supported the rally before its spectacular collapse from where it has now managed to recover half. 

Last week we released our Quarterly Outlook and in it we described the reasons for our positive precious metal outlook: “Silver has returned to its long-term value against gold with the prospect of a further upside depending on the strength of both industrial and investment demand. The green transformation could spark a surprise in terms of industrial demand with the photovoltaic (PV) market expected to be strong as many countries embark on renewable energy projects. Based on our forecast for gold to reach $2200/oz, silver’s high beta should encourage a continued outperformance with the gold-silver ratio heading towards the low 60s during 2021, thereby driving the price of silver towards $35/oz.”

Conclusion: No matter if the “bullion bank short” is true or not, silver has by now received so much attention and interest that we are likely to see it as well as silver mining stocks and ETF’s trade bid for a while. In order to proper gauge the overall impact on the markets ability to function and with that also the speculation about a futures short squeeze, it is important to watch the spread between physical silver and the futures price. Any signs of stress with regards to shorts getting hurt would see the spread, also called the Exchange for physical (ETP) blow out. So far today, the spread has widened from around flat to a current futures premium of 45 cents/oz. Any further widening will point to stress in the market with increased need to borrow silver to cover short commitments.