Silver in Meltdown Mode; Is It a Buy?

By George Leong for Investment Contrarians | Aug 2, 2012

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In early 2011, silver was the toast of the town, as speculators ran up the price to the $50.00 an ounce level on speculation that the world economies would continue to expand. But, straddled with the eurozone debt crunch and slowing in Europe and China, silver quickly fell.

The price of the white metal has steadily declined over the past 15 months. As you can see on the chart, the upward move in prices leading up to $50.00 was overextended and vulnerable to selling pressure that drove the metal to just above its multi-year lows.

Chart courtesy of www.StockCharts.com

The long-term chart of cash silver from 2003 shows the metal managing to trade above its 50-day moving average (MA) at around $25.00. The price is currently stuck below its 50-day MA of $27.76, as well as its 100-day MA and 200-day MA of $29.31 and $30.81, respectively.

Since May, trading has been lackluster. There is decent downside support around $25.00 on the bottom end and just over $35.00 on the top end based on technical analysis.

Silver is down 15.6% since the start of the year and is underperforming gold.

Yet, over the past 20 years, silver has largely outperformed gold, as shown in the following chart that indicates returns to July 1, 2012.

If the metal can hold, we could soon see another rally back above $30.00 towards $35.00. Of course, this would depend on the global economies picking up.

I would rather be in gold, which is used mainly as a hedge against risk and for jewelry.

Silver is used in numerous industrial and electronic applications; hence it’s more of a trade with the direction of the global economies. The same goes with copper. I would not be a buyer of the white metal now unless I wanted to trade the sideways channel, buying the metal towards $25.00 and selling into strength in the low- to mid-$30.00 level.

Looking at it from another angle, the fixed exchange rate between gold and silver was 15.5:1 in the nineteenth century, but it moved much higher to average 47:1 in the twentieth century. The spot gold price was $1,599.06 on Wednesday, compared to $27.30 for spot silver. This equates to a current gold-silver ratio of 58.6, which means the price of gold could fall further to the average—implying a price of $1,283, down another 19.8%. Of course, silver prices could be undervalued based on this ratio and head higher.

At this juncture, I would be hesitant to buy long silver stocks, but would be more interested should prices fall to around long-term support around $25.00.

Tags: China, gold, price of gold, silver, technical analysis