gold investment, silver investment

The Recent Price Action in Silver: Breakout or Fakeout?

August 13, 2013, 11:43 AM

According to Reuters, Fed stimulus has helped fuel the S&P's gain of nearly 19 percent in 2013. The Fed is seen as moving toward reducing its $85 billion in monthly bond purchases, causing some investors to take a step back from stocks.

The S&P 500 index dipped on Monday, extending losses from Wall Street's worst week since June last week. Yesterday, the Standard & Poor's 500 Index was down 0.12% and closed at 1,689.47 level.

And what has happened with silver in the recent days?

The white metal extended gains and soared more than 4% to a near two-month high, while recent strong U.S. and Chinese economic activities prompted some investors to buy silver as an industrial play.

Will this inverse very short-term relationship between the general stock market and silver last longer? After all, on average silver used to move in the opposite direction to what the stock market was doing – taking medium-term moves into account. Let’s take a look at the Correlation Matrix for more details.

Gold and silver correlation matrix

The correlation between silver and the general stock market is slightly negative in the very short-term (the 10-day column), but it’s positive in the (more meaningful) 30-day column. This means that even though the last few days were positive for silver and negative for stocks, a short-term rally in stocks would likely be seen along with a short-term rally in silver. If the move is significant, however, and it continues for weeks, the medium-term relationships are the ones that we need to focus on. These relationships are negative (90- and 250-day columns). These numbers simply mean that if investor sentiment gets more positive based on a significant rally in stocks, they are likely to drop precious metals investments as they feel that a hedge against a decline is no longer necessary.

Some Fed officials have said the U.S. central bank could begin scaling back its quantitative easing next month if the economy continues to improve. That’s why investors are now focused on the U.S. data which may bring some hints on when the Federal Reserve will start winding back its monetary stimulus.

Could this above-mentioned event trigger further growth in stocks? Will it result in lower prices in silver or will the white metal continue to rally? Before we try to answer these questions, let’s take a look at the S&P 500 Index chart to find out what the current situation in the general stock market is (charts courtesy of http://stockcharts.com).

Long-term S&P 500 Index chart - General Stock Market - SPX

On the above long-term S&P 500 chart, we see that the situation hasn’t changed much. After a small pause, traders and investors continued to buy, which resulted in yet another all-time high of 1,704.95 last Friday. In so doing, the S&P 500 crossed the level of 1,700 for the first time ever.

In the following days, some investors took profits, and this led to a corrective move. The correction is very shallow, however, and the S&P 500 index is still above the previously broken rising trend line based on the November 2012 January 2013 lows.

Please note that the RSI is no longer above the 70 level, and, from this point of view, the stock market is not so overbought anymore.

Let’s check if the short-time outlook is also bullish.

Short-term S&P 500 Index chart - SPX, Large Cap Index

On the above daily chart we see that prices climbed once again, resulting in yet another all-time high of 1,704.95 last Friday. Despite this growth, the higher price levels did not last long. The S&P 500 index gave up the gains and dropped a bit in the following days.

However, the corrective move is quite small at the moment. Although stocks moved back (intraday) below the May top once again, the breakout above this level has still not been invalidated.

From the short-term point of view, the outlook is also bullish.

Once we know the current situation in the general stock market, let's find out what happened during the last several days and check the current situation in silver. Let’s take a look at the daily SLV ETF chart.

Short-term SLV ETF price chart - iShares Silver Trust

Please note that in 2008 the corrective rally unfolded much faster than it did this week, but so did everything else in 2008. Relatively speaking, in the context of the current, over 2-year long correction, the current move up is quite similar to the pullback we saw on September 2008.

Back then the short-term downtrend was invalidated (the same has been the case recently). Silver moved to medium-term support before the local top was formed. At that time the 50-day moving average was acting as support. Right now, the 61.8% Fibonacci retracement level seems to be playing this role. That level also coincides with the 2008 high.

In 2008 the move to the medium-term support was what happened exactly before the final plunge. It was the first time when silver looked like it was about to take off, when the final plunge started.

Summing up, although we saw a small corrective move in stocks in the recent days, the previously confirmed long-term breakout was not invalidated. Thus, the outlook remains bullish for the general stock market. At the same time, silver moved higher to its highest level since the June 28 low. Despite this growth, the outlook is not yet clearly bullish for the white metals because a big move up in stocks is still likely to affect silver negatively and, moreover, the current medium-term decline is still in tune with what we saw in 2008.

Today's Market Alert includes the continuation of the discussion about the current situation on the silver market, as well as our comments on metals' and miners' strong performance relative to the USD Index in the recent days. What's the preferred action given the above? Sign up and find out. You might also be interested in our just-released monthly Market Overview report. If you sign up for these reports now, you'll be able to read two of them (the current and the upcoming one) for less than $10.

Thank you,
Przemyslaw Radomski, CFA

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Aug Market Overview

Gold Market Overview

For a long time, pundits talked excitedly about the rapid, V-shaped recovery. I never shared this view, finding it too optimistic and without basis in reality. Like Jeff Goldblum in Jurassic Park, I hate being right all the time, but it really seems that I was right about this issue. According to the July World Flash report by IHS Markit, we can read that "the new wave of infections has reduced the probability of a V-shaped cycle (...) and increased the risk of a double-dip recession (W-shaped cycle)."

What does it all mean for the gold market? Well, the fragile, W-shaped recovery is, of course, a better scenario for gold than a quick, V-shaped recovery. It means slower economic growth and longer recession, which would force central banks and governments to expand and extend their dovish stance and to provide the economy with additional rounds of stimulus. Music to gold's ears!

Read more in the latest Market Overview report.

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