How is Silver $21 in This Environment?

I was recently asked this question and wanted to address it further and more in depth than Twitter allows for.  Rewind back to Spring 2020 when COVID struck.  Markets were crashing, everyone was in a panic over this unknown illness suffocating people to death, Supply shortages had people panic buying toilet paper, the Fed dropped rates to 0 and resumed QE and Government embarked on a round of massive spending programs and stimulus, literally handing people money. Every gold bug alive, myself included, took one look at these actions and correctly predicted that “this was going to cause inflation.” While we were right about the Macro implications, our choice of investment vehicle to play the coming inflation wasn’t as successful as we had hoped.

 

So where did we go wrong? Well for starters, we were right, initially.  Gold and Silver sniffed out this massive money injection and moved quickly after the panicky, margin-call-selling in the markets subsided. Only 6 months after margin calls took gold down to 1400 and silver to 12, gold rocketed up 50% and peaked at 2100, while silver moved up 150% to 30. Notice, the metals made their moves higher before other commodities like lumber started having crazy moves higher. The soaring moves in commodities like lumber and energy were mostly due to supply constraints, with a bit of “more dollars chasing even fewer goods” thrown in.

 

Gold is not subject to the same situations as other commodities. We NEED energy like oil and nat gas. Lumber and copper are needed for construction and homebuilding. Most commodities, in one way shape or form, are NEEDED as the primary driver of demand. While gold has some industrial uses, it is not the biggest factor in the demand for the metal. Investment demand drives the price of gold, and that is a function of desire, not a need.

 

Notice how I didn’t include silver in that. While Silver does follow gold in periods of panic and inflation fears, as it did in 2020, as it did from 2009-2011, and as it did in the 1970s, it’s primary use is industrial more so than investment demand. Silver has a bit of an identity crisis in that regard. Platinum and palladium are precious metals and industrial metals. They have never had a monetary purpose (despite calls to make a trillion-dollar platinum coin to pay off the debt). Gold is a precious metal and a monetary metal, with some industrial uses. Silver is a precious metal, an industrial metal and a former monetary metal, that gold and silver bugs like myself believe will one day begin to trade again on the merits of its monetary purposes.  As the more attainable metal to the most amount of people between the two, the emergence of silver as the “money of the people,” seems to me, a logical conclusion.

 

I believe this is what we will see one day in the future. As the saying goes, “Gold is the money of kings, silver is the money of gentlemen, barter is the money of peasants and debt is the money of slaves.” When the “kings” of today, the Bezos’s, the Musks, the Buffets, decide they want gold, there will be no more left for the rest of us. And that is where silver comes in. This is my belief and I believe many gold bugs have a similar mentality towards this.

 

But what I believe and what every other investor in the market believes is not the same. My belief is not fact. And this is the very reason why I don’t focus too much on what I believe to be the correct interpretation of the macro data and outlook. What I find important isn’t necessarily what the majority of investors will find important. My forecasting of the data into a future outlook may be very incorrect, and even if it is correct (as it was concerning 2020’s action’s causing inflation) my interpretation of this into an investment thesis and the correct investment vehicles may not be the choice other investors are focusing on. (Again, as was the case in the last few years. Despite the fact that we’ve seen the highest inflation since the 1970s, gold and silver’s price action didn’t follow the same path as many expected.)

 

What was the reason for this? It could be a number of factors. First, in 1980 when gold and silver rocketed up massively, we were 9 yrs removed from the gold standard. It was fresh in people’s minds, a time when the US dollar was backed by gold and how quickly and terribly things had gone wrong in that short period of time, with inflation reaching over 15% causing the Fed to raise rates to 20% to fight it (You think 6.5% mortgage rates are bad? Imagine paying 20% of the loan amount in interest every year! BEFORE any amount is applied to the principle!) 52 years later, and it’s far from fresh in people’s minds. In fact, there aren’t very many people alive who remember a time when Dollars=Gold. You’d have to be 80 yrs old today to have spent just 10 yrs of your adult life under a gold standard.

 

Another reason could be the market quickly looking down the horizon at the inevitable. When inflation comes, interest rate hikes come with it, and as markets are forward looking, what’s GOING to happen tomorrow is more important than what was happening yesterday or today. In the grand scheme of this inflation period, yes, the fed was slow to react.  Yes, they predicted it would be transitory and it hasn’t been.  Yes, they underestimated how bad it would be. But from the time inflation started to really pickup, it didn’t take nearly as long to turn off the spigot and suck up some of that extra liquidity we printed as it has in the past. Remember the cries of those who said they wouldn’t ever be able to taper without catastrophic consequences, let alone raise rates? They tapered their balance sheet increases, hiked rates to 4.5% and are now decreasing their balance sheet all with unemployment at the lowest levels in decades. I hope people now see that these “catastrophe” calls by many in the gold community were made out of either stupidity, sensationalist “fear porning”, straight up propaganda, or a combination of the three.

 

Or perhaps the reason we were wrong about gold and silver had nothing to do with any of these factors. Maybe we will never know why, and although that’s frustrating, it doesn’t really matter. All I’ve accomplished here by speculating, is wasting a ton of time writing about all the reasons we were wrong, when we could have just looked at price action and determined “we are wrong” and left it at that. We don’t need to understand the question when we already have the answer. I don’t know about you, but if I somehow found myself with the answer key to the calculus final back in high school, I’m not going to waste the test time trying to solve WHY the answer to problem 6 is B, I’m just going to circle “B” and move on.

 

This is why I focus on price action and not my opinion on Macro. 9 times out of 10, if you analyze price action in markets, the “why” becomes clear. The factors of the macro picture that are most in focus by investors begin to emerge and you will see why your view was incorrect. Analyzing price action as the “be all and end all” under the assumption that markets don’t do things for no reason has kept me from sticking to an incorrect viewpoint most of the time, and riding it all the way down. It’s kept me from fighting with the market, believing it was wrong or stupid and I am the “smart” one who is losing all his money. Remember, Wall Street is the most competitive industry in the world, with the smartest people on earth working in it because it pays better than more noble endeavors. If you seriously ever think you got it all figured out, or that the market is just wrong and little ‘ole you are the only one seeing it clearly, watch out, cause you’re about to lose a LOT of money.

 

There is another factor that gets brought up a lot I want to address to, and that is the constant references people will make to “reduced supply”.  On a regular basis, I will hear someone talk about COMEX inventories reaching “lowest levels since…”.  The implication being made is that this constant reduction in supply will lead to prices increasing. So, buy, right? That’s a no brainer! (Because the most competitive industry in the world will often give you a free lunch, “no brainer” like this one, right?) The “economics 101” implication here of supply down, price up is forgetting the other 50% of the formula there, demand. Supply down and demand up or the same, then yes, there is likely to be a rise in price. But that is not the case if demand is dropping along with supply.

 

But how could demand be dropping when the echo chamber of gold bugs have been claiming every day for decades that it’s not? Here’s an easy way you can determine if demand for an asset is dropping: Price is going down.

 

A few months ago, I pointed out in an article that sentiment being bad is not always a sign of a low and that “you should be buying.” In bull markets, bad sentiment is a great indicator for adding to positions for the medium to long term. But sentiment that is TOO bad may be spelling out that the market is turning from a bull market to a bear market, and in a bear market, really bearish sentiment can stay really bearish, get worse than you imagine and never see incredibly bullish sentiment levels even after huge rallies. You have a tendency to see highs and lows in sentiment remain in an overall higher range in bull markets, and an overall lower range in bear markets. Much like I have pointed out regarding RSI (staying 40 and above in bull markets 60 and below in bear markets) You aren’t typically going to see 0% bulls at lows in a bull market. It will bottom out before reaching that extreme. You also won’t typically see 100% bulls in bear markets. Short term tops will occur before that is reached.

 

In a similar way, in bull markets, comex supply tends to increase and it tends to decrease in bear markets. So, much like the misguided rants of the permabulls yelling that bearish sentiment is a reason to buy, when in fact, it is simply confirming that gold and silver are in a bear market, these same rants of “supply decreases” being a reason to buy, while supply continues to decrease along with price, are also misguided. They are not depicting a reason to buy, they are in fact, also confirming a bear market.

 

Here is a chart with the price of silver and the registered silver ozs in the comex warehouse. Notice first that supply was steadily increasing from 2018 after silver bottomed in 2016 at $14/oz. At the $14/oz retest in 2018, inventories were significantly higher. That right there was a clue on the trajectory of silver, as to whether or not that retest of 14 would fail and see a lower low. When silver skyrocketed in 2020, inventories did too. By the time silver retested 30/oz in Jan 2021, (Right around the time of the silver squeeze hype) Inventories had peaked and began declining ever since, and price has followed. Interesting that the drive to “squeeze” silver higher due to supply shortages came at the time when supply peaked and a 60% decrease of that supply since then has done nothing to “squeeze” price higher. (Or it’s NOT interesting, IF you actually understand that supply increases with demand and decreases with it as well. From that standpoint it would be obvious the peak in supply and price would come at a time when “silversqueeze” was on the news and trending on twitter.)

 

Here are a few more charts. These are the ones the “supply shortage, buy now” permabulls don’t want to include in their narrative, because then it begins to break down. The first is Gold from 1995 to 2013. Again, as gold approached its lows near $250 in 1999 and retested in 2001, Comex stockpile decreased with price, but supply was higher on the retest of $250 than it was in 1999 on the 1^st test of $250. It steadily increased from there for the next decade, along with a gold price that increased 8-fold in that time frame. And then came 2013, and the beginning of price breaking down and the bear market in gold. And look what Comex supply did! It decreased sharply right along with price!

 

Here is another, showing registered ozs of Comex gold over a longer time frame. Again, supply was high when price was. Once price began to decline, so did supply. When price moved sharply higher in 2016, then declined again, supply moved sharply higher too, then declined again right along with price. Then it began moving up again around 2018, as gold began making higher lows and higher highs, confirming that a bull market was beginning, in the same way it confirmed the bear market in 2013, and is doing so again now.

 

I hate to have to say this, but it is unfortunately true. There are a lot of “bad actors” in the gold community. The least harmful of them (but still quite harmful) are the ones who are sharing bad information and have no idea what they are talking about. Others know better, they are spouting propaganda for the purpose of stoking fear and sensationalism to try and sell you something, or defraud you in one way, shape, or form.

 

I’ve been very busy recently, so I only caught pieces of this, but it seems the guy running Wall Street Silver has had a past (and present it seems) in fraud and manipulation. Unfortunately, I’m not surprised in the least to hear that a twitter account and webpage with a massive following, that mostly shares fear porn and the incorrect (lies) information I’m referring to, is involved with manipulating people. It’s really not the exception, it’s the norm. (Him, along with Bre-X and 90% of all Jrs).

 

Don’t “trust” anyone. Do your own research, audit everything you hear. As you begin to see what information does and doesn’t hold water, you’ll also begin to notice the same people saying it. The same people saying, “supply dropping, BUY!” are typically the same ones who are talking about bearish sentiment being a buy, talking about commercial short positions on COT reports leading to an “imminent short squeeze” that has never happened and will never happen. They’re the same ones predicting a comex default “any day now”, a major bank failure and contagion that will send the economy into a depression. The same ones who have had 10,000/oz gold targets (For over a decade), and the same ones who say the Fed can’t even taper QE, let alone end it, raise rates and REDUCE their balance sheet.

And yes, the bet I made in Nov 2021 that the Fed WOULD taper, because they literally said “we’re going to taper” was with that guy who runs Wall Street Silver. It was a ridiculous opinion for him to think they couldn’t or wouldn’t taper, that I believed at the time was sheer stupidity. In hindsight, I’m sure it was sensationalism to “build up the brand” so he had more people to manipulate and defraud. I was happy to take his $220 on behalf of my charity, the Meta C. Mergott Foundation. Better off in our hands than in his.

 

Now let’s look at some charts. First up is Gold. The major thing that stands out to me here is the deviation in price from the 200-day MA as we topped at 1950. We can see similar deviations over the past couple of years, higher or lower, saw a “return to the mean” with at least a test of the 200 day MA. Recently, we’ve seen price then revert back the other direction. This is typical in a choppy sideways market. We can see in this example of the bull market from 2000s to 2011 that extended deviations above the 200 day saw tests of the MA then continued higher. In the bear market of 2013-2016, they came back up to test the 200 day, failed and continued lower. This back and forth action above and below that we have currently is showing there is still some uncertainty amongst investors as to which direction to take, so this test here is important. A hold here or even slightly below this area could begin a “higher low” that sees gold start to trend higher again. Let’s not assume anything here. That could be dangerous. Let’s let price action do the talking.

 

On silver, in addition to 21 being the 61% Fib retrace from the 1993 low to the 2011 high, it’s also the 50% retrace of the 2020 low at 12 and the high in Aug at 30. Add to that now, that its also the 50% retracement of this move we just saw since the Sept lows at 17.50, up to the Jan highs just south of 25. 21 was where price stopped its decline multiple times before, and where price stopped its rally as it consolidated near lows this past summer and into fall. So, 21 here should provide some support initially. Also, looking at shorter term MAs, the 13 and 30, they have crossed lower and are beginning to deviate from each other by a decent margin, as is price from both of them. It isn’t an extreme amount, but it’s enough where we can begin to say that expecting further downside in the short term is getting pretty greedy, which is why we sold our puts Fri on SLV for a 165% profit (It was a small position. We had 1/3 of our cash position in the GDX puts and added about ½ of that into the SLV puts. But it’s better than the last 6 weeks being a zero-sum game.)

 

Onto GDX, we pushed through this top area of support at 27. We haven’t quite hit the 26-25 area yet, but the same deviations in price from the shorter term, 13 and 30 MAs is even more pronounced here on GDX than on Silver. Additionally, the same deep deviation between the 2 moving avgs is reminiscent of times when price returned to at least test the purple (13 day) EMA. That is about 7% up from here with the further downside targets only slightly lower than where we are. We’ve dropped 20% in 4 weeks and seen RSI go from 60 to 25 in the same time frame. So, although we can have a bit more downside, a bounce is due here. Even if we don’t rally much from here, we were holding puts that expire in 3 weeks that just now, are only $1 in the money. We don’t need a rally here to lose a lot of those gains, the time decay alone will kill us without any further declines. So, we exited at break even. We will watch VERY closely to see if this ends up a higher low onto higher highs, or a small bounce that is onto further declines.

Everything with GDX can be applied to GDXJ, but a bit more pronounced. Additionally, GDXJ is right at major support here at 33-32.50 so that reinforces the idea of a bounce coming in miners. SILJ looks terrible and is in utter collapse mode, down nearly 25% in 1 month. I certainly don’t want to be long here, but I’m not going to push my luck on the short side here either. We’re analyzing risk and reward and probabilities and despite poor price action, reward here for being short isn’t attractive vs the risk.

 

I haven’t posted GDX/GLD in a while. The daily chart looks similar to GDX. Big decline, deviations between price and MAs as well as the MAs themselves, a collapsing RSI a well. We are at the 61% Fib retrace of the move higher we just had. Right at a level rallies failed at this past Summer to Fall, so some level of support is anticipated here.

 

Flipping to the weekly, we can see RSI stopped dead on this Rally at 60, a typical sign in bear markets. But now we are at 40. It does seem like the market is a bit confused whether it wants higher or lower from here, so this is another reason to be careful assuming direction. We saw indecision on the rally with RSI failing at 60, its reasonable enough to assume indecision on this decline too and see a bounce here at RSI 40. But the overall picture is lower highs and (so far) lower lows. Miners continue to underperform the metal and that’s not what we want to see if we are bullish the overall sector and miners specifically.

 

Another note on being bullish miners and why and when we are. The point, the ONLY point to own miners for (that the market values) is their leverage to gold via increased profit margins. When gold is 1200 and a miner is producing for 1000/oz, an increase of 20% in gold to 1500 is an increase in the miners profit margin by 150% (assuming costs remain the same). THAT is the reason you got a 200% rally in GDX in 2016 and much more in some high-cost miners. HMY went up 1000%. AG rallied 8-fold. Because costs in 2016 were 1000/oz for the biggest miners and gold was 1050. It then went to 1375. The biggest producers, ABX and NEM saw $50 profit margins increase 650%. Miners with costs for gold near 1300 and silver near 18, went from $250 and $4/oz in losses, to $75 and $3/oz in profit in just 9 months (and a lot of people caught short in the process).

 

Reserves are nice, dividends are great, but the major moves, both higher and lower that have occurred in miners have a tendency to unfold over 1-3yr periods typically and they are a result of profit margins increasing or decreasing significantly. Majority of producers have been terrible investments. And why would they be good long term holds in a market that see margins increase from $100/oz to $1,000 and back again in just a few years’ time? This is the exact reason why I have focused my career in this sector on timing. Because there is a time and place for miners. Get it right, you got multi-bagger gains in a few years’ time. Get it wrong and you’ll ride them down sometimes 90%.

 

One final point, regarding the Patreon site launch. What was supposed to be Jan turned into Feb, then March. Unfortunately, its going to be April. Here’s why. I mentioned I just moved back to the city. The reason for this is because my girlfriend of 7 years, whom I very much wanted to marry, and I broke up. So, the move was not really planned or expected, nor have any of the other endeavors that come along with a separation after such a long time together. I JUST moved in and got settled and March is next week. There are still some personal things I’d like to have the time to focus on before launching and devoting my time to the site, and I will NOT launch this halfcocked. When we launch, it will be with guns blazing. Until then, articles will continue to be on this blog, short updates on Twitter and I will continue to use Twitter as a “free trial run” in terms of posting signals when the models depict bottoms, profit taking opportunities and trend changes, as well as any positions I purchase or exit, what they are, why we chose them in particular, the prices bought and sold for, all in real-time when we buy or sell them. Apologies, but 1 month delay turns into 3 very quickly when you’re running around making major life changes.

 

To sum up, don’t focus on the why, worry about what price action is telling you. You’re going to be wrong a LOT. Even the smartest guys are wrong nearly half the time, they’ve just learned to exit fast, take small losses, not dwell on it, and move on. Remember that silver and miners are not gold. Know what you’re buying and do it for the right reasons. Beware of almost everyone in the gold sector. Easy litmus test, if they never admit when they’re wrong, if they have never said sell or even “maybe its time to take some profits”, they probably aren’t being honest, for 1 reason or another. Supply decreases with demand in bear markets because, why wouldn’t it? Patreon site will launch April 1^st and will have more updates between then and now and market wise, we need to be VERY careful. Gold, silver and miners aren’t the only bear markets that COULD make a higher low and start turning up again. We can look at SPX and see a similar picture. Copper, the Euro, even Bitcoin. Don’t get complacent one way or the other. Be open to the idea that your opinion is wrong and be ready to react if it is.

 

-Jonathan Mergott