Tuesday, November 10, 2009
Why Is Silver So Cheap?
It is 5:48 AM and the Colonel had a pleasant surprise waiting for him in the break room. The coffee pot was brewing and there wasn't a soul around. I reached for my favorite "Caterpillar" coffee mug to find a note inside. It read, "Why is silver so cheap? - Dog".
Do you remember that we met "Dog" or Diogenes the Greek Miner this October (Dog in Search of an Honest Metal) ? At that time he was in search of an honest metal; one that was relatively free of speculation, a metal that responded to supply and demand fundamentals. That's getting harder every day in this world of easy money but our friend Dog claimed it was molybdenum. He pointed out that as a minor metal it wasn't traded on the big exchanges and thereby its price less influenced by market speculators. Tim Arnold of Eureka Moly LLC has informed the Report that molybdenum is expected to be introduced on the London Metal Exchange (LME) in February of next year. This will be an interesting turn of events, stay tuned.
In the meantime, I set out to answer Dog's latest question: why is silver so cheap? In a world of $1100/oz gold what should the price of silver be? I checked my models and here's the answer:
For $1100/oz gold the fair value of silver is $19.163 in a range of $18.394 to $19.933
My Gold/Silver model looks at the last 3-months of gold and silver COMEX futures data and applies a bit of old fashioned statistics to come up with these numbers. I just checked the COMEX and silver is presently trading at $17.410. That's not only below the estimated fair value of $19.163 it is well below the lower range of $18.394. Hmmm...I see what's catching the light of Dog's miners lamp!
"Hey, Colonel. How good are these high falootin' models of yours anyway?" You ask.
Of course, I think pretty good but am reminded of billionaire investor Warren Buffet's warning, "Beware of geeks bearing models!" To answer your question let's see how my oil/gold model is doing:
For $1100/oz gold the fair value of oil is $78.08 in a range of $71.56 to $84.60
This morning oil is trading at $79.91 above fair value but well within the estimated range. Here is a chart of oil versus gold (a larger and more readable chart is given at the bottom of the blog page):
The magenta line represents the "fair value" of oil with respect to the price of gold and the two aqua lines show the expected range. The squirrely yellow line connecting the dots shows the daily price data and the blue line is a 1-month moving average. The 1-month line is a good one to follow because it smooths out a lot of daily price fluctuation. The big white arrow shows there is currently momentum for both higher gold and oil prices.
OK, if you believe all that malarkey, here is a similar chart of silver versus gold. Holy cow, the yellow squirrely line is out-of-bounds and the white arrow shows a downward trend for the 1-month average! Now we see why Dog is barking.
The answer to "Why is Silver So Cheap?" is not clear to me. It is either a good opportunity to buy silver if you think gold is pressing ever higher or a sign we're reaching the top for precious metals. I claimed the latter a few weeks ago when gold was $1050 and got steam rolled by the glittering juggernaut. Maybe Dog will return soon with a clue.
How about one more chart? This one has some good news for the metal space. I look at copper price movements with respect to gold and copper is getting back some of its mojo. My charts take out "weak dollar" affects and show the relative performance of the commodity (copper) with respect to the reference commodity (gold). It looks as if copper price has a good future if gold trends higher. Yee-ha!
For $1100/oz gold the fair value of copper is $2.9435 in a range of $2.7713 to $3.1158
This morning copper is slightly above fair value at $2.9650.
Enough charts, let's walk the walk:
4-WD is OFF - the VIX or "fear index" is below 25, smoother road market conditions expected (what's this?)
Yellow light is ON for possible adverse regulation/legislation (mercury emissions)
Otherwise, all lights are green on the Eureka Outlook Dashboard (upper right, what's this?)
Oil is up 0.48 in early trading to $79.91 (December contract); Gold is up $0.3 to $1101.7 (December contract, most active); Silver is down $0.070 to $17.410 (December contract); Copper is down $.0250 to $2.9650 (December contract); Molybdenum is steady at $12.00
The DOW is down 8.08 points to 10218.86; the S&P 500 is down 1.95 points to 1091.13. The miners are unhappy:
Barrick (ABX) $42.80 down 0.47%
Newmont (NEM) $50.47 down 0.18%
General Moly (Eureka Moly, LLC) (GMO) $2.62 down 0.38%
Freeport McMoran (FCX) $82.07 down 1.36% (a bellwether mining stock spanning gold, copper & molybdenum)
Steel stocks are unhappy too, (a "tell" for General Moly):
Nucor (NUE) $40.65 down 1.76% - domestic steel manufacturing
ArcelorMittal (MT) $36.16 down 1.79% - global steel producer
POSCO (PKX) $116.07 down 1.42% - South Korean integrated steel producer
The Eureka Miner's Grubstake Portfolio is is down 0.77% to $1,269,792.20 (what is this?).