Silver: The Bi-Polar Metal

Both industrial and precious, Silver offers unique investment characteristics...

OFTEN CALLED the "Poor Man's Gold", silver is in fact poised to outperform gold according to "Silver Guru" David Morgan of The Morgan Report and www.silver-investor.com.

A silver investor from the age of 11, David Morgan started investing in the stock market while still a teenager. Armed with degrees in finance and economics – as well as engineering – he considers himself a big-picture macroeconomist whose main job is education.

A dynamic, much-in-demand speaker, David's educational mission also makes him a prolific author. In addition, his articles have appeared in The Herald Tribune, Barron's and The Wall Street Journal.

Looking ahead, "The amount of silver mined meets industrial and investment demand. We've reached equilibrium," Morgan explains here to the Gold Report. But the end of supply deficits doesn't mean the end of price appreciation...

The Gold Report: You stated last June that silver will outperform gold by about 30%. What will be the catalyst?

David Morgan: Well, there's several. Silver is the bipolar metal, as I refer to it occasionally, because it's both an industrial metal and a monetary metal.

If you look at the industrial side, it's very bullish even in these recessionary times, meaning that silver needs to be used in all kinds of industrial applications. There might not be as much manufacturing on a global basis as there was during the times when the economy was doing better from 2000 to 2007. However, a lot of manufacturing is still taking place. As it occurs, there's a tradeoff, with less manufacturing in some sectors and more in others. The amount of cell phones in China and India continues to grow. Another one would be solar energy, which is projected to increase rapidly over the next decade.

There's a big impetus by several governments, again on a global basis, to install more green energy. Solar is at the top of that list. Silver plays an important part in that story. On top of that, you've got water purification, which is something I was talking about many years ago and continue to because silver is a very unique biocide. Due to that, the EPA has actually okayed silver's use in bottled water, which very few people know about.

Then, of course, in food processing, the unique properties of silver are used in meatpacking plants where you'd have silver tip appliances like the saws and cutters, etc., because for sterilizing purposes they do not spread any bacteria. Some of the new packaging plastics have a bit of silver in them on a microscopic level. Once the food is packaged and you have the silver in there, it's going to prevent any kind of spoilage or bacteria growth. On top of that, you've got other applications like the radiofrequency identification tags, and on and on the list goes.

The other side is investment demand. Here is where I think there's a little confusion on this subject, because a lot of the main studies in silver just emphasize investment demand as coin demand. It is talked about as being 5% of the market. If you look at 660 million ounces of silver being mined presently, and you take 5% of that, you're looking at 33 million ounces. An accurate number for coin demand is somewhere between 30 and 40 million ounces on an annual basis, but that's coin demand only. What very few of these studies really emphasize, which is really a big part of Silver Investment demand, is how much of the commercial bars are used for investment purposes.

Let's look at the largest silver ETF (SLV). It holds roughly 300 million ounces of silver in commercial bar form. But it's all for investment purposes. So, there's more to the investment story on silver than most people realize.

TGR: Why aren't we seeing the pressure in the market yet with all the industrial demand?

David Morgan: I would say the pressures are there right now. Have they started to build up yet? Perhaps. They're not as strong now as they will become over the next few years. As there is more and more silver demand on the industrial and on the Silver Investment side, the price is going to go up.

You've got to look at where Silver is at right now. It's certainly off the $21 nominal high that we saw many months ago. We're still hanging around $18 compared to the $5 or less it was based at for almost 20 years. That's quite a run, and even in inflation-adjusted terms, it's a pretty good return on your money. Is it going higher? Yes. When is it going to start? I'm not sure. It's going to be in this idling period for a while.

The dynamics are so strong that I don't see it continuing all year. I believe strongly that the closing price in December 2010 in silver is going to be above the $21 level. In other words, silver will be making a new high this year.

TGR: Don't you think that silver production has ramped up to meet the current and potential future demand coming within the next year or two, save a crunch by an industrial giant like China?

David Morgan: Yes, I do. This isn't opinion. This is based on some of the best studies on silver, which I have subscribed to for years. The amount of silver on an annual basis mined meets the silver demand on an annual basis for all industrial and investment demand. We've reached equilibrium. That wasn't the case for 15 or 16 years when there was a deficit and it took the silver above-ground stockpile from 2 billion ounces to roughly half a billion ounces of silver.

Over the last few years, the big ramp-up in the commodity boom has taken a lot mining activity to much greater levels than it was about a decade ago. And because of that fact, there's been a lot more silver coming out of the ground on an annual basis and a lot of it's been because of the base metals boom. Anyone that studies silver even slightly these days knows that about 70% of silver comes from a result of mining other metals like lead, zinc, copper or gold. I expect actual silver mining to increase with the primary silver producers over the next couple of years. I'm not so sure that it will on the non-primary mines and some of these other large base metal miners that produce a great deal of silver. In fact, these huge mining houses actually produce the most silver, even though it's not their primary metal. There isn't a huge demand for all the base metals, but it's still there.

As you say, China's the driver, so it's hard to predict because there's a good case being built that China is ahead of itself. There's going to be a decrease in their productive capacity for a while. They've basically overextended their credit system as the United States did several years ago. We may have a pause in the market on that side. Longer term, I think we're going to have to see more demand on both sides. I don't think that the mining activity can keep up over the next decade. I think if you look out over a 10-year timeframe, the amount of investment and industrial demand for silver will be greater than an increase in the mining activity that's available over the next 10 years.

TGR: According to very recent reports, China is still experiencing a 12% per year growth rate. This has to apply some pressure at some point to silver.

David Morgan: You've got to look at how that number is derived. The Chinese are starting to do what the US is doing. In other words, China is not a consumer economy where 70% of the growth of the economy is based on consumption, but it's much more based on consumption than it was a decade ago.

What I want to point out is not that it's really become a consumer society, but it is trending that way or more so. How much funny money was put into the system by the Chinese to get that growth rate? That's where you really have to think about common sense economics. If you go back and look at the US and you've got to print $5 of funny money to get $1 of GDP growth, how much real growth are you getting? You are seeing the same thing now with China as they're throwing out a lot of funny money into their system in order to produce that 12% growth rate.

You got to look behind the numbers sometimes to see what's really going on. Unfortunately, that's the case for the Chinese right now. There are areas that they probably overbuilt. They've got excess capacity. In other words, they've basically caught on to the Keynesian system, where top-down control of the economy is going to do great according to the political powers, but in the long term is fatal. In some ways, they're very free market and in other ways they're a very controlled economy. I don't want to sound like I'm talking out the both sides of my mouth. It's actually a fact. That's true of the US as well. There's a lot of management to the economy and there are some pockets that are truly free market, but not much in either case.

TGR: When is the best time to get into Silver Investment?

David Morgan: From the standpoint of the actual metal itself, any time is the right time as far as I'm concerned. You don't have to worry about market timing. I mean, $18 silver is obviously more than it was 10 years ago when you could probably get it at around $5. Again, I believe it's going far higher. It's something tangible, something real and something outside the financial system. When you own silver coins or bars or both, you actually have real money that's recognized worldwide. If you own the real thing, don't worry too much about the price. Buy the real thing. That's where you start your precious metals investing.

TGR: Why is there so much concern about the silver-to-gold ratio?

David Morgan: I think that too much emphasis is put on the ratio. It's a metric that many follow to value the Silver Price relative to gold. It's useful in trading between the two metals, which I have taken advantage of a few times during this bull market. It's something that can get overblown and no one knows what the correct ratio is.

When you get silver really moving and the euphoric panic part of the market engages, it tends to really move faster than gold because it's a smaller market and you have a lot of money moving into the market. That's where you see silver overtake gold on a percentage basis. So we could be 60-to-1, 50-to-1, 40-to-1 and stay 40-to-1 for a long time. Then when then market goes into this panic buying mode we could go from 40-to-1 to 20-to-1 and then 10-to-1, as an example. That whole process from a 40-to-1 ratio to a 20-to-1 ratio might take two to three months. Again, is there an exact perfect ratio for silver to gold? No there isn't. The ratio does suggest that silver is still undervalued relative to gold.

TGR: Do you have a timeline for when Silver Price gains may overtake gold?

David Morgan: I don't have, but I'll be consistent. I've been asked this before and the answer has been probably 2012-ish. If you look at some of the analysts' work, they put timelines at sometime between 2011 and 2016. Basically, if you forecast, you should put a price and no timeline or time and no price. That way you can't get cornered. Who wants that? That's no value to anybody. But a guess is a guess. I don't think you're going to see a really big move in the metals until 2012 or later. However, I do expect both gold and silver to make new nominal highs this year and silver to outperform gold by 30%.

TGR: You stated in your April newsletter that you believe gold and silver are oversold now. You're building cash as you expect a big selloff to be coming soon. What aggressive moves of a speculative nature are you making with some of that cash?

David Morgan: I was referring to the big selloff in the general equity or general stock market like the S&P 500 or the DJI, not the precious metals. As a result of that big selloff, I would expect that metals and mining equities would be taken down. The metals and mining shares are not poised to move down by themselves presently. They're actually moving sideways and they're in a high-consolidation pattern that may briefly intensify.

TGR: David, this has been great. We appreciate your insights.

Ready to Buy Silvertoday...?

Gold, Silver & the Currency Crisis

How to defend yourself against a crisis in the value of money worldwide...

A PRECIOUS METALS aficionado armed with degrees in finance and economics as well as engineering, David Morgan created (and recently revamped) the Silver-Investor.com website and originated The Morgan Report, a monthly newsletter that covers – very broadly speaking – money, mining and metals.

A dynamic, much-in-demand speaker all over the globe, published in the Herald Tribune, Futures Magazine, Barron's and the Wall Street Journal amongst other, he considers himself a big-picture macroeconomist whose main job is education – including helping people understand money, the benefits of a sound financial system, and the importance of research and patience in investments.

Here David Morgan speaks to the Gold Report that "There's no asset better than gold if you're worried about a crisis hedge..."

The Gold Report: Your investment strategy has long involved finding undervalued or overlooked opportunities. What metals does that umbrella cover these days?

David Morgan: The byline of The Morgan Report is "Money, Metals and Mining" and I approach the market in that fashion and in that order. Mining – that's where you get the greatest leverage. And metals – are the best asset class, particularly the precious metals, during these uncertain times. From the metals-only perspective, I'm a top-down analyst. We determine supply-demand fundamentals, what would cause a price to be higher or lower or stagnant. With the precious metals, we look at some timing cues as well. And then we look for resource opportunities, not just in the precious metals or base metals, but throughout the sector, and we do a fair amount of work in the REE, the rare earth elements side. But overall we look for undervalued situations.

TGR: What looks undervalued these days?

David Morgan: Nickel is probably one that's pretty undervalued, although it looks to be breaking out now. If you study the London Metals Exchange (LME), you'll find pretty good inventory buildup in some of the base metals at this time – high enough to cause some concern on a short- or intermediate-term basis. Unlike wheat, corn, oats, cocoa or sugar, metals don't deteriorate. From an economic point of view, if you can buy any of the metals under or near the cost of production and store them, you'll make money in the long run. You might have to wait longer than you think because markets "can be irrational longer than you can stay solvent." But all that aside, I do see opportunities. If you want me to pick one, I'll pick nickel.

TGR: All the metals or nickel?

David Morgan: All the metals should go higher relative to the US Dollar, but I think 2010 will be very back-and-forth. Stress levels are high on both sides – the inflationary pressures for governments trying to print their way out of this mess and the deflationary side of the equation because so many countries are on the edge of default.

TGR: What key economic factors are you watching to decide which side of the fence you'll go to?

David Morgan: The velocity of money. Enough money has been printed to have a hyperinflation in milliseconds, so obviously it's not a function of the size of the money supply. It's a function of the velocity of money or how quickly some of it – we don't know how much – starts moving out of a currency. We've already seen it, with India moving into 200 tons of gold, for example. That's very small relative to the amount of debt out there, but still it's a very strong signal to the markets about the fact that India values gold over US Dollars at this time, and believe me, they are not the only nation that thinks this way.

We could come to a situation of the straw that breaks the camel's back, some subtle tipping point that the market may not recognize initially. When the Creditanstalt bank went bankrupt, nobody said, "Oh, my goodness, that's going to take us down and cause a global depression." Yet most of us who study such things can point to that as a contributing factor to the Great Depression in the '30s.

You have to think of it in broader terms than inflation or deflation: are we in the grips of a currency crisis? That's when you don't trust the underlying currency. Judging from what we see in the mainstream press, it's pretty evident that other nations are questioning their trust of the US Dollar.

In economic situations such as this, history shows that there's a price to be paid by everyone. It's an issue of productive capacity. True wealth isn't money. Real money is a store of value component. To produce wealth, you have to produce something of value to the marketplace. The productive capacity of the United States has been in decline since 1974. The productive capacity of China has increased substantially from that timeframe to the present day. Today the problem is that the means of exchange is not trusted (longer term) on part of the producer – China in this example. That portends some very serious issues ahead.

TGR: Going back to the undervalued or overlooked resources, in this environment where we don't know whether to expect inflation or deflation, what sorts of investment opportunities are presenting themselves?

David Morgan: As far as I'm concerned, there's none better than gold if you're worried about a crisis hedge however it unravels eventually, either total deflation – a debt-liquidating depression or a hyperinflationary blow-off. Silver has done best in periods of high inflation.

People really get hung up on the inflation-deflation debate, but let's face it, in both cases there are so many similarities. High unemployment, declining productive capacity, distrust of government, more government interference, general malaise throughout the economy – a great deal of uncertainty.

I would ask anyone who's worried about this debate to put a silver coin or a gold coin in their right hand and their currency of choice in the left hand and ask themselves, which one has retained purchasing power over time? If you're going to have savings, do you want the kind that has stood the test of time for thousands of years? Or the type of savings that has always failed throughout recorded history? If you're not sure, divide it in half. Keep 50% of your savings in your currency of choice and the other 50% in the precious metals.

TGR: If people have cash ready to invest in equities or precious metals, would you say put all of your cash into precious metals now, and then liquidate as you want to invest in various equities? Or keep cash on hand just for equity opportunities?

David Morgan: You can buy the precious metals themselves at almost any time. That's a different asset class than the mining equities. The mining equities generally follow the stock market to a certain point. Then comes a point – which we haven't reached yet – when the mining equities start to take on a life of their own. In other words, you'll see Gold Mining and silver equities generally going opposite the general stock market. At this time I think mining equities will follow the stock market down. A week or so ago I posted an article on my website about Harry Dent seeing the stock market debacle starting at the end of February. I would not be real quick to jump into the mining equities right now. But if you're not invested in the physical metal itself, I would definitely buy some. I prefer a Dollar-cost-averaging approach to accumulating the precious metals.

And as far as selling the metal to buy equities goes, I would never do that. I'd do the opposite. If I have a big gain on a mining equity – say I made a three, four, five, 10-bagger – I usually turn that in precious metals. I'd rather turn paper into gold than gold into paper.

TGR: You were talking about currency of choice and in this case, gold. A lot of people now making a Gold Investment expect that at some point silver will stop trading as an industrial metal and start trading as a precious metal. A lot of people use the gold-silver ratio as an indicator of how rapidly silver can move up. Do you believe in that ratio and what it portends for silver?

David Morgan: There is a lot made of the silver-gold ratio. Silver probably will reach what I call the classic, or the monetary ratio, which is 16:1. It could even get down to the natural ratio, which at this time is about 10:1, but I don't see it getting to any better ratio than that. Of course, this implies that silver is undervalued relative to gold.

When will silver take on this monetary aspect alone? That's part of what I'm writing for the March issue of The Morgan Report. It's basically looking at the silver market over the next 10 years. We have a 10-year bull market behind us and in my view we have several more years to go.

What happens is at the end of these great bull markets is you get into the euphoric or manic stage and this happens in almost all markets. You've seen it in the technology sector, when people were buying dot-com stocks that had no business plan and no equity, just an idea.

TGR: It was the new economy.

David Morgan: Yes. So that will take place. I think we'll see the biggest run up of all time in gold and silver, especially the equities, a euphoric state of panic buying driven by fear and greed. I'll probably face a lynch mob me when I say "sell," because no one will want to trade physical metal for paper currency and I don't blame them. Anticipating this, I've already planned some techniques to use to preserve our physical metal and still allow us to sell to a strong market, but those are days ahead.

When the panic hits, gold probably will go up to $2,000 and beyond – the average person will wake up thinking, "Oh, I've got to get gold equities; I listened to my friends and I thought they were idiots and now I see the light." Many will turn to silver because it'll still affordable relative to gold.

Significant money will move in to the metals. And because silver is cheaper than gold, a lot of it will go silver, which will cause the ratio to spike relative to gold. You'll see the ratio drop from 60:1 to 50:1 to 40:1 to 35:1 to 20:1, maybe to 16:1 or 10:1 because there'll be more money, relatively speaking, moving into silver than in the past. And since silver is such a small market, any small increase in buying power will send the price far higher.

TGR: The way you explain this, these ratios are really only short term.

David Morgan: It depends on where you start the line. One of my earliest lectures, which I still do from time to time, is about the gold-silver ratio. If you go from the 12th century, it's a 12:1 ratio, which was exactly the natural ratio at that time. In other words, 12 ounces of silver in the ground for every ounce of gold, and that's basically how it was mined up to about the 17th century.

So the market figured out that 12:1 ratio, and it held up for centuries. We got to the monetary ratio when England was having a problem similar to what the world economy is having today, and during the turmoil of a currency crisis Sir Isaac Newton told the Bank of England to go on a gold standard and they did. He said the correct silver to gold ratio in the new monetary regime was 15.5:1 – where the market was at that point. This ratio, roughly 16:1, remained static for hundreds of years.

So does it matter? Yes and no. Once silver was demonetized and deemed an industrial metal, there was no longer a tie to silver as money per se and so it was revalued. The important point is if silver is undervalued or not and if you think it is then obviously it represents opportunity.

TGR: The interesting thing when you bring up the histories of ratios is that silver gets consumed and gold doesn't. It's back to the silver as an industrial metal. Silver is also the by-product of mining for other base metals. You're projecting the economies are not growing over the short term. If silver is a by-product of base metals, should silver production decrease and would that have an impact on silver prices?

David Morgan: Yes, it should decrease and it could affect prices short term. The industrial demand on silver was roughly 35% of the total market in 2000. In 2010, industrial demand now is 54% of the market. The industrial demand for silver is not only the largest demand, but it's the fastest-growing. But that's really not totally true because since 2006 you've had a huge increase of commercial buying of silver because its investment demand has increased extremely quickly. Since the advent of the SLV, the silver ETF, and other silver ETFs, there's been a huge amount of money, relatively speaking, moving into the silver market as investment!

So you've got the industrial side. Regardless of mining activity being up or down, industrial demand is always off-taking silver and a lot of that off-take never comes back into the market. Recycling is significant, but it's not total. In some cases, it gets used and it's gone.

So that is an underlying eating away at the above-ground stockpile. When you throw an increased investment demand on top of that, especially in a small market, you can see an explosive situation approaching. Everybody wants to know when it will take place. I've said that the earliest it would take off in that manner is probably 2012 and I may be wrong. Markets do what markets do, but such explosive moves go in phases and we're still somewhat in the skeptical phase.

For example, some of the people who bought gold above $1,000 are skeptical right now. They're not sure it's going to go to $1,200 ever again. I believe it will go far higher, but the longer it wallows between $1,200 and $1,000, the more likely these people are to listen to their friends, neighbors and brokers and say, "Gee, you know, gold isn't a good investment. I've held it for a year and it's gone nowhere. Put me back in the Dow or something." Even worse, if we do break the Dollar1,000 level, which I doubt but it could happen, they'll be very unsure and probably will sell back into the market, causing it to depress in price further for a short time.

TGR: How do you see nickel, which you brought up early on, play out in scenarios you've been talking about?

David Morgan: I believe all commodities are in longer-term trend upward. If you dig into the archives, I made a good call in the early 2000s on the Financial Sense Newshour with Jim Puplava. I said the new era is here. We're going from an era of having things we want to an era of having things that we need. Of course, we need food and shelter and raw materials. Those needs will continue. So do we need nickel in the future? You bet. It's used primarily in stainless steel. If you're going to build any food processing plant – and there are always more mouths to feed – you'll use a great deal of stainless steel. And that's not the only application.

You can play nickel, other metals or any commodity or stock short term if you wish, but I like to take the major trend and stick with it because that's where you could make substantial money. Certainly some traders can do extremely well. But really successful traders are very rare and most people don't have nearly enough discipline, because you have to be willing to take loss after loss after loss after loss. Even if they are small losses, psychologically that's very difficult. Most people are not suited for it. They can't handle the stress that comes with a trading strategy.

TGR: Some people suggest the equities because there's substantially more leverage, thus more upside than with the metals themselves. What's your feeling about equities?

David Morgan: We put out something in the rare earth elements (REE) area recently and it's a speculation, so it falls in the class of fun money or money you can afford to lose. It's a very hot sector right now. I believe it's fairly safe to invest in, as safe as you can be in a speculation. But overall, right now I think it's a good time to build cash. The next couple of months bear watching. I like the old adage: when in doubt, stay out. There's nothing wrong with staying out of this market right now and if the market tells us something we have techniques for getting in quickly.

TGR: But when you buy, you like the undervalued stocks.

David Morgan: We always like to buy bargains. I like to invest for value. If I find something worth $10 and can buy it on sale for $5, that's when I'm more interested in making the purchase. My timing is more of an intermediate-term basis. I cannot day trade; it just doesn't interest me. But longer term, yes, timing can definitely help you, but you have to really know what you're doing and no one can get it right all the time.

So for the average investor a Dollar-cost-averaging approach makes the most sense. Technical analysis is a very useful tool, but you can't rely on it 100% and I'll give you a quick example. There is no charting service or no human being that can make a 100% accurate case because you can't chart, for example, where a 9/11 event is going to take place. My approach is to hold about 75% of the total precious metals stocks through thick and thin. And the other 25% can be traded in and out of the market.

TGR: You suggested that you like to find $10 stocks that are on sale for $5. Do you have any companies that fit those criteria now that you're watching?

David Morgan: Not at this time, at least not at that big a discount.

TGR: Very good. David, I really appreciate your time. Once again, you've been a wealth of knowledge and insight.

How best to Buy Gold or silver today? "If there's an easier way, I've yet to find it," says one BullionVault user...

What’s Your Exposure?

Just holding cash still leaves you exposed to financial and inflation risk...

read more

Living Within Our Means

Answering debt with debt risks a fresh crisis this fall...

read more

Dollar-Cost Averaging Gold & Silver

How to build a position in gold & silver by turning dollars into metal each month...

read more

Precious Metal Mining Stocks

As gold & silver attract fresh investment, might mining stocks appeal over metal...?

read more

The Rules of Silver Investing

In a true economic collapse, gold would store great value, but silver might be used hand-to-hand...

read more

Junior Silver Mining Stocks

Getting silver out of the ground comes down to cash, grade, and cash...

read more

A Silver Panic to Beat 1980

"Get me anything but dollars..."

read more

The Gold/Silver Ratio

Tracking and trading the ratio of gold to silver prices...

read more

Next Page »