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Wall Street Bets on silver squeeze as gold eases

wall st sign

Precious metal markets were mixed in January, with gold down marginally, while silver rose. While long-term drivers remain supportive, the current euphoria in financial markets, an increase in bond yields, and rising optimism regarding a huge economic stimulus package from Washington, have acted as short-term headwinds for precious metals, which remain in a consolidation phase. 

Summary of market movers:

The USD gold price fell marginally in January, ending the month at USD 1,863.80 per troy ounce (/oz) 

Silver ended the month above USD 27/oz, rising by more than 3%, with the gold to silver (GSR) ratio finishing January at 68

Risk assets continued to rally, with equities and cryptocurrencies hitting all-time highs 

A mania in meme-stocks and rumours of a short squeeze in silver captured market attention in late January, with volatility surging in select company share prices 

The announcement of an additional AUD 100 billion in Quantitative Easing (QE) from the Reserve Bank of Australia (RBA), and a decline in iron prices may mark a top in the Australian dollar, which traded as high as USD 0.78 in January 


Full report - January 2021

The price of gold eased marginally in January, falling by 1.26% to end the month at USD 1863.80/oz. Silver fared better, rising by 3.5% to USD 27.42/oz, with the GSR falling to 68 by the end of last month, after starting the year at 71. 

Multiple factors contributed to the soft start to the year for gold, including the change in the White House, and Democratic Party wins in the Georgia Senate election runoff, which raised hopes of a circa USD 2 trillion economic stimulus package.

This was enough to see yields on US treasury securities rise by almost 25% (from +0.93% to +1.15% on the US 10 year) by mid-January. Real yields increased as well, though are still negative, with these moves in the bond market coinciding with an approximately 6%, or USD 110/oz fall in the USD gold price intra-month. 

The chart below highlights this, showing movements in the USD gold price (gold line) and the real yield on a US 10-year treasury (black line), across the course of January. Note that yields are inverted on the chart, that is, a falling in the black line means real yields are rising, and vice-versa.

line graph

Source: The Perth Mint, World Gold Council, US Treasury

The other factor holding gold back in January was the continued euphoria building in financial markets, with the Citigroup Panic/Euphoria model hitting all-time highs in January 2021. 

Furthermore, a range of metrics from stock market capitalization to GDP ratios, to price/earnings and price/sales ratios for the S&P 500 suggest the US stock market is now as or more expensive than it has ever been, with investment legend Jeremy Grantham warning investors last month that markets have now “matured into a fully-fledged epic bubble”. 

Signs of excess, which are no doubt temporarily limiting the safe haven appeal of precious metals, weren’t limited to traditional asset classes. Cryptocurrencies also hit all-time highs, with Bitcoin trading above USD 40,000 per coin in early January, though it did pullback as the month unfolded. 


Wall Street Bets, Gamestop and the silver squeeze

The most eye-catching development in financial markets in the first few weeks of 2021 was the rise of Wall Street Bets (WSB), a reddit sub-thread of retail investors that discuss investment opportunities in financial markets. 

Over the course of January and early February, a number of people that were members of WSB encouraged the broader group to aggressively buy shares and call options on listed companies that hedge funds were shorting, meaning the hedge funds would benefit if the stock prices fell. 

The idea was that by aggressively buying shares and options, the WSB could force a “short squeeze” and a “gamma squeeze” (note we have links at the bottom of this article for those who’d like to read more about these terms) combined. 

This would see financial institutions that were either short the shares in those companies, or who had sold call options over those companies need to aggressively buy stock as well, to manage their risk.

And for a few short days, the strategy “worked” spectacularly. 

The most high-profile company caught up in this was GameStop (ticker: GME), which over the course of January rose from below USD 20 per share to more than USD 450 per share (based on intraday pricing). A very select group of people purportedly made millions from the price spike in GME through the use of derivatives.  

Sensing an opportunity to make vast gains in a short period of time, as well as get one up on hedge fund and institutional investors, the WSB group has supposedly grown to more than seven million members. In many ways this should not have been unexpected, given the tailwinds that have driven this phenomenon, including:

Many people with excess time on their hands due to COVID-19 lockdowns and higher unemployment 

“Free” money from government stimulus checks

“Free” trading on certain investment platforms 

Rising inequality and frustration with “elites”, particularly those in financial markets 

Toward the end of last month, the attention of the WSB community turned to precious metals, with an attempt to create a silver squeeze generating lots of attention in financial markets and the news media.

Whilst there are a number of reasons to remain confident in the outlook for silver in the months and year ahead, the silver squeeze narrative is at best a distraction, and at worst a risk for investors, at least in the short-term.

Firstly, it needs to be stated that liquidity in the global silver market, and precious metal markets generally, is an order of magnitude more significant than liquidity in any of the individual stocks caught up in the recent WSB mania. That makes it a much harder market for anyone to “squeeze”, especially retail investors with smaller amounts of investment capital. 

Secondly, whilst some investors have bought into a narrative of commercial banks being short silver, they are typically only looking at futures market data, which is public information updated on a regular basis, to draw that inference.

Those investors, and certain sections of the precious metal community that relentlessly promote this narrative are completely ignoring the fact there is a large over-the-counter (OTC) market in precious metals. Given this fact, whilst certain financial institutions might be short silver (or gold) futures, they may well, and indeed are most likely long those precious metals in the OTC market at any given time.

Thirdly, it is worth pointing out that whilst there may be shortages of silver in specific form (i.e. small bars and coins) and in specific locations, that in no way evidences a shortage of silver itself. 

Fourthly, it is worth pointing out that at present, managed money positions in the silver market are net long, with data as at 26 January showing a gross long position of 67,430 contracts and a gross short position of 23,110 contracts. 

This means that on balance speculators are betting prices will rise rather than fall. That rather destroys the WSB narrative of hurting hedge funds by buying silver, given the hedge fund community would benefit from a rising silver price. 

As a final comment on this phenomenon, while undoubtedly some of the WSB community will have purchased silver (either in bar, coin, ETF or derivative form) in the last week or so, we also think there is a good chance most of the increased buying has actually been driven by existing silver investors. 

It also looks like the price spike in companies like GME is well and truly over, with the share price closing just above USD 92 on Wednesday 3 February, down more than 80% from the highs seen during this phenomenon. 

Is the Australian dollar topping out?

The AUD rose by 40% from just below USD 0.56 to almost USD 0.78 between late March 2020 and early January 2021, with the move driven by a range of factors, including a strong bounce in commodity prices over this time period.  

The broader ‘risk-on’ appetite which has dominated financial markets since governments and central banks began to deploy record levels of stimulus in response to COVID-19 has also helped the AUD, which is treated as a proxy for risk, and is highly correlated to moves in emerging markets.

Whilst some forecasters think the AUD will head to USD 0.80 or higher, there are some signs the currency will instead weaken, with the RBA decision to increase its QE programme by AUD 100 billion helping push the currency lower so far this week.

To add to this, iron ore prices (which had effectively doubled from lows seen last month) are also beginning to fall, with declining profitability in Chinese steel mills, declines in demand, and a robust supply profile suggesting further risk to the downside.

Should that eventuate, it would serve as a headwind for the AUD, and possibly help put a floor under precious metal prices for Australian investors. 

Outlook 

Moving forward, there are some risks to the outlook for precious metals. ETF inflows have slowed (for gold) considerably, as has central bank buying, though both are still positive, whilst consumer demand in key markets like China, India and other parts of Asia and the Middle East will take some time to recover fully.

The potential for the USD to rally after a more than 13% decline over most of 2020 could also be a short-term headwind for precious metals, with the dollar index up 2% since early January. 

Finally, silver’s correction in the past 48 hours despite the silver squeeze and WSB narrative also suggests the precious metal market may consolidate for a while longer, even if the longer-term strategic case for investing in these metals remains undiminished.

The x-factor for gold, and indeed for financial markets as a whole, is COVID-19. While everyone hopes that we have seen the worst and that 2021 marks the beginning of a ‘post COVID’ world, there are no guarantees.

Mutations are beginning to develop, while meaningful parts of the global economy remain locked down. Even the best-case scenario, which would see a successful rollout of vaccines around the world, represents an enormous logistical and political challenge, with global economic output unlikely to catch up to its pre COVID-19 trajectory for years.

Markets are pricing in a best-case scenario right now. If the situation deteriorates, expect risk assets to suffer, policy makers to deploy even more stimulus, and safe haven assets like gold to catch a bid.

Combined, these potential tailwinds indicate that precious metal prices are likely to remain biased to the upside for some time to come. Most importantly, from a portfolio management perspective, assets like gold in particular continue to offer unique diversification benefits to investors, which should see investment flows supported going forward.

Jordan Eliseo
Manager – Listed Products and Investment Research 
The Perth Mint
4th February 2021


Disclaimer

Past performance does not guarantee future results.The information in this article and the links provided are for general information only and should not be taken as constituting professional advice from The Perth Mint. The Perth Mint is not a financial adviser. You should consider seeking independent financial advice to check how the information in this article relates to your unique circumstances. All data, including prices, quotes, valuations and statistics included have been obtained from sources The Perth Mint deems to be reliable, but we do not guarantee their accuracy or completeness. The Perth Mint is not liable for any loss caused, whether due to negligence or otherwise, arising from the use of, or reliance on, the information provided directly or indirectly, by use of this article. 

Further information

Short Squeeze
https://www.investopedia.com/terms/s/shortsqueeze.asp

Gamma Squeeze
https://www.swfinstitute.org/news/83341/what-is-a-gamma-squeeze-in-the-context-of-stock-trading

Silver gross short position
https://ycharts.com/indicators/comex_silver_combined_managed_money_short_positions 

Silver gross long position
https://ycharts.com/indicators/comex_silver_combined_managed_money_long_positions




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Why have silver prices spiked now?

stacked silver coins with a line graph above

The price of silver spiked in the first week of February to an eight-year high of more than AUD 38 per troy ounce.

As seasoned silver watchers know, gold’s little brother is prone to such rapid movements – both up and down again with lightning speed. Many investors will recall its extreme volatility exactly a decade ago. 

Silver peaked at a 31-year high in March 2011 as the cost per ounce approached 50 dollars in USD terms and more than AUD 43 per ounce. The main driver was safe haven demand caused by the financial shock at the downgrading of the US sovereign debt rating.

But the furore was relatively short-lived. Since 2015 silver has averaged nearer AUD 20 per ounce.

Another reason for silver’s volatility is that as well as its historical role as a jewellery and monetary metal, it is also an industrial metal. In fact, more than 60% of demand for silver can be industrial. 

When the world economy recovers from COVID-19 demand for silver could increase sharply. Applications are widespread throughout the solar, automotive, electronics, soldering and other sectors, including medicine and purification.

For some investors, this potential upside may already be factored into their precious metal investment strategy. 

But February’s spike in silver prices was in fact driven by something else entirely.

To help understand the sudden movement, let’s quickly recap what just happened to the price of GameStop stock on Wall Street.

A large online community of small retail investors in the US decided to ‘game’ a number of wealthy hedge funds who were ‘shorting’ the company’s stock.

Shorting is a risky method employed by sophisticated investors to make money from falling share prices.

In simplistic terms, they borrow shares in a failing company and sell them in anticipation of further declines. If the price does indeed fall, they buy them back at a cheaper price - returning the shares to the owners while pocketing a nice profit in the process.

Except that in the case of GameStop, the band of rebellious investors bid the stock price upwards – by an astonishing 700% in a matter of days – squeezing the short sellers who suffered losses estimated in the billions of dollars.

Silver, it appears, has become the next target for this group of online investors, many of whom are driven by the desire to get even with banks and institutional investors whom, according to their personal beliefs, have manipulated markets for years.

Driven by chatter in their online echo-chambers, it is not just bars and coins that shot up in value. ETF and shares in silver producing companies also felt the effects.

At the time of writing, however, the push already seems to be dwindling. Silver is currently hovering at around AUD 35 per ounce.

While the extraordinary action in the US in relation to GameStop has financial authorities scrambling for a response, it is unlikely the attempt to short squeeze silver will have nearly such significant effects.

The Perth Mint has definitely seen a spike in demand for silver products, which is unsurprising given the level of attention the asset class is currently generating.

“Moving forward, there remain a lot of reasons to expect that the silver price will rise, and that it will continue to be a good investment,” said The Perth Mint’s Manager – Listed Products and Investment Research, Jordan Eliseo.

“Nevertheless, there is some risk, and investors should be cautious in believing one can permanently profit from a supposed short-squeeze in any asset, including silver.”


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Strong start to 2021 marked by leap in silver coin sales

an array of Perth Mint silver kangaroo coins

Summary 

Perth Mint silver coin sales rose by 23% in January, with more than 1.1 million troy ounces sold. The strong sales figures also represented a 32% increase relative to long-run average monthly silver sales 

The Perth Mint also sold 76,103 troy ounces of gold minted product in January. This number was essentially unchanged over the previous month, though does represent an increase of almost 60% relative to sales one year ago. 

Perth Mint Depository holdings of gold and silver rose by 1% in January, continuing a period of inflows that saw holdings increase by 20% (gold) and 15% (silver) in the past 12 months. 

Perth Mint gold ETF holdings rose marginally, ending January just below 237,000 troy ounces. 

Minted Products

The Perth Mint shipped 1,162,884 troy ounces of silver coins in January 2021, an increase of 23.48% relative to sales in December 2020. Meanwhile, shipments of gold minted products were relatively unchanged in January, down just 0.92% to 76,103 troy ounces compared to the previous month.

General Manager Minted Products, Neil Vance, said maintenance issues that previously restricted manufacturing capacity had unwound during the month. “January was a better month for coin production at The Perth Mint. Even so, we are still selling everything that we can currently make in silver,” he said.

“We also focussed on re-building stocks of our main gold bullion coins following strong sales in November and December,” he added. 


Troy ounces of gold and silver sold as coins and minted bars December 2018 to January 2021

line graph depicting Troy ounces of gold and silver sold as coins and minted bars December 2018 to January 2021

The Perth Mint manufactures and markets the Australian Precious Metal Coin and Minted Bar program. Trusted worldwide for their purity and weight, the coins include annual releases of the renowned Australian Kangaroo, Kookaburra, Koala and Lunar series. For more product information visit perthmintbullion.com

The Perth Mint Depository

Holdings of both gold and silver in The Perth Mint Depository rose by 1% in January 2021, ending the month at 1.865 million troy ounces (gold) and 37.5 million troy ounces (silver).

Since June 2019, total holdings of gold and silver have risen by 37% and 19% respectively, as investors continue to build their precious metal portfolios. 

Total troy ounces of gold and silver held by clients in The Perth Mint Depository December 2018 to January 2021

Total troy ounces of gold and silver held by clients in The Perth Mint Depository  December 2018 to January 2021

The Perth Mint Depository enables clients to invest in gold, silver and platinum without the need to take physical delivery of their metal. Operated via a secure online portal, a Depository Online Account allows investors to buy, store and sell their metal 24/7. For further information visit perthmint.com/storage.

Perth Mint Gold (ASX: PMGOLD)

Holdings of Perth Mint Gold (ASX: PMGOLD) increased marginally during January 2021, increasing by almost 1,000 troy ounces for the month. The inflows saw total holdings in PMGOLD hit 236,786 troy ounces, or just over 7.34 tonnes. 

Monthly flows for PMGOLD and the yearly change in total troy ounces can be seen in the chart below, with holdings rising by more than 70% in the last twelve months. 

Monthly change in troy ounces held by clients in Perth Mint Gold (ASX:PMGOLD) December 2018 to January 2021

line chart depicting Monthly change in troy ounces held by clients in Perth Mint Gold (ASX:PMGOLD) December 2018 to January 2021
Source: The Perth Mint, ASX, Reuters


The value of PMGOLD holdings declined marginally to end January at just over AUD 577 million. The fall was due to the small decline in the AUD gold price over the month.  

Despite the small decline seen in January, the value of gold holdings backing PMGOLD has risen by almost 80% in the last 12 months.  

Manager Listed Products and Investment Research, Jordan Eliseo says, “Investors continued to allocate money to precious metals in January, with The Perth Mint seeing continued inflows into depository products and ETFs, albeit at a more moderate pace relative to the demand seen in 2020.”

Looking forward to the rest of 2021, Mr Eliseo said there a multiple tailwinds supporting investor demand for precious metals including the ongoing threat posed by COVID-19. 
  

“The global pandemic is still causing significant dislocation in the global economy. Accommodative monetary policy is another factor supporting gold and silver, with investors looking beyond traditional defensive assets given continued negative real yields on cash and many government bonds,” he added.



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Gold for financial advisors

Precious metal prices enjoyed another solid year in 2020, with the price of gold rising by more than 20% in US dollar (USD) terms, and approximately 14% in  Australian dollar (AUD) terms.

The solid price increases, coupled with the unprecedented economic challenge posed by COVID-19, and the fiscal and monetary policy response to the pandemic, saw a huge uplift in investment demand for gold.

This was best seen through the rise of gold ETF holdings, which increased by more than 30% globally in 2020. Financial intermediaries working on behalf of Australian investors were very much at the forefront of this demand, with Perth Mint Gold (ASX:PMGOLD), for example, seeing inflows of approximately 70% in 2020, helping make the ETF one of the fastest growing products on the ASX.

Looking ahead, there remain no shortage of challenges for the global economy, which will obviously impact the investment environment. Some of these challenges include:

    • Potential mutations of the COVID-19 virus and the logistical challenge of distributing vaccines globally

    • Signs of excessive speculation in financial markets, from Bitcoin to Special Purpose Acquisition Vehicles (SPACs), to record levels of call option buying

    • Record low real yields in many sovereign debt markets

    • Questions regarding the evolution of fiscal and monetary policy, with developed market governments and central banks sovereigns having already deployed unprecedented levels of stimulus in the last 12 months
Given this backdrop, there remain solid reasons to look at incorporating an allocation to gold in a well-diversified portfolio. 

Some of these include: 

1. Outperformance when real interest rates are low

One factor motivating financial intermediaries to look at incorporating an allocation to gold in client portfolios is the ultra-low interest rate environment, which at this stage looks set to be a feature of the financial landscape for the next decade at least.

As a zero-yielding asset, the opportunity cost of investing in gold is significantly reduced, if not entirely eliminated in environments where real interest rates on cash and term deposits are negative in real terms. 

Historically, gold has thrived in such environments, delivering average nominal gains of more than 20% per annum in years where real interest rates are 2% or lower.

2. Strong track record of protecting portfolios when equities sell off

Gold has historically been the best performing single asset class in environments where equity markets sell off sharply, with allocations to the precious metal helping to mitigate overall portfolio drawdowns. 

This can be seen in the chart below, which shows the performance of gold and of the Australian equity market, in the five worst calendar years for equities between 1971 and 2020, as well as an average across the five years. 

Gold and equities annual returns (%) in five worst calendar years for equities – 1971 to 2020

Source: The Perth Mint, The World Gold Council, Reuters 

Whilst the above chart uses calendar year data, analysis of the interplay between gold and equities on a monthly or quarterly basis demonstrates the same findings. 

Gold’s historical ability to protect portfolio drawdowns may prove particularly attractive to investors in the years to come, given traditional defensive assets like cash and bonds offer such low, and in many cases negative, real returns.  

3. Strong long-term returns

Over the last 15 years, the price of gold in Australian dollars has increased by almost 9% per annum, rising from less than AUD 700 to more than AUD 2,400 per troy ounce.

The precious metal has also outperformed most traditional asset classes and diversified investment strategies over this time period, as seen in the table below.

Australian asset class returns (% per annum) to end 2020


Source: The Perth Mint, World Gold Council

4. Protection against any fall in the Australian dollar

Gold, if bought in unhedged form, provides portfolio protection in the event that the AUD falls. For most Australian investors, this provides useful currency diversification, given the majority of their assets are domiciled in AUD, even if it means their gold position won’t perform as well in environments where the AUD is rising.

5. Simple and low-cost to incorporate into a portfolio

Gold is one of the lowest cost asset classes an adviser can include in a client portfolio, both from the perspective of management fees, and trading spreads.

Analysis of all the ETPs trading on the ASX shows that the average management expense ratio (MER) of the more than 200 products available to retail investors was 0.50%, whilst the average trading spread in December 2020 was 0.25%.

By comparison, Perth Mint Gold (ASX:PMGOLD) has a MER of just 0.15%, and had trading spreads of just 0.08% in December 2020, with both of these costs less than one-third of the average costs for the broader ETF industry. 

How to invest in gold

The Perth Mint offers a full suite of precious metal investment solutions, from traditional bars and coins, through to depository accounts and listed products. 

Most financial intermediaries typically look to invest in Perth Mint Gold (ASX:PMGOLD), which tracks the price of gold in Australian dollars. 


More information 

To access more information on the investment case for gold, download our SMSF Trustee Investment Whitepaper 

To find out more about Perth Mint Gold (ASX: PMGOLD), download our latest investment factsheet

To find out more about the various investment options The Perth Mint provides, visit our website


Disclaimer

Past performance does not guarantee future results.The information in this article and the links provided are for general information only and should not be taken as constituting professional advice from The Perth Mint. The Perth Mint is not a financial adviser. You should consider seeking independent financial advice to check how the information in this brochure relates to your unique circumstances.  All data including prices, quotes, valuations and statistics included have been obtained from sources The Perth Mint deems to be reliable, but we do not guarantee their accuracy or completeness. The Perth Mint is not liable for any loss caused arising from the use of, or reliance on, the information provided directly or indirectly, by use of this article.






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