The minutes of the most recently concluded Federal Open Market
Committee (FOMC) meeting has attracted mixed reactions from the
investor community. The minutes hinted towards a possible decrease
in or even an end to the quantitative easing of $85 billion a month
by the Federal Reserve.
Precious metals, especially gold and silver received a solid
boost last fiscal year when the Fed announced an open ended
mortgage backed securities purchase program up to the tune of $40
billion a month known as QE3. While it is true that the move
resulted in rocketing gold and silver prices initially, the prices
now have fallen substantially, especially over the final quarter of
fiscal 2012.
Although both gold as well as silver do belong to the precious
metal asset class, investments in silver are quite different (if
not completely different) from that of gold which acts like a value
store investment proposition and an ultimate safe haven. (read Is
the Silver ETF Showing Technical Weakness?)
However, considering the investment case for silver, what makes
this white metal so unique as well as weird is its dual nature of
serving two purposes. Firstly, like most precious metals silver
investment is considered to be a store of value, and secondly, due
to its vast industrial usage worldwide silver also has a high
correlation to the broader economic sentiments.
What this means is that silver prices receive a boost every time
industrial activities pick up during positive economic conditions.
This is mainly because strong economic fundamentals facilitate
growth which in turn increases industrial production. Due to the
industrial usage of silver its consumption demand increases thereby
raising its prices.
Furthermore, the positive economic activities also cause the
capital markets to tread in an upward direction, consequently
increasing its valuation. Therefore it is prudent to note that
equities and silver do have somewhat of a positive correlation
among each other which actually increases during times of stock
market surge. (see Best and Worst ETFs to Start the Year)
Surprisingly, even gold has exhibited a positive correlation
with the equities, just like its white counterpart. The correlation
between gold and equities tends to increase during times of stock
market surge. However, the strength of this positive correlation is
stronger in case of silver than gold. One reason which explains
this characteristic of silver is its high volatility. SLV has a
volatility of 35.63%, compared to this GLD has a volatility of
17.5% and the S&P 500 18.52% in a similar time frame.
However, the positive relationship with equities and gold does
not hold true in times of stock market plunge. The reason for this
is the safe haven nature of gold investments. When equities go for
a toss, investors actually buy gold as a safe haven investment
thereby completely scrapping the positive correlation that these
two asset classes which were in place when the equity markets
surged.
Of course, silver being a precious metal is also bound to follow
suit, however, the magnitude of this inverse relationship between
silver and equities during a stock market plunge is much lower than
that of gold. This happens primarily due to the linear (i.e.
positive) dependence of silver prices on the broader economic
conditions as discussed earlier. (read Q4 ETF Asset Report: Broad
Market ETFs Reign)
The following representation quantifies the relationship between
the three entities completely supporting the inferences mentioned
in the above paragraphs. The iShares Silver Trust
(SLV), the SPRD Gold Trust
(GLD) and the
S&P 500 have been used as buffers for prices
of silver, gold and equities respectively.
Chart 1
Table 1
Data Points
|
GLD
|
SLV
|
S&P 500
|
Volatility
|
17.49%
|
35.63%
|
18.52%
|
|
|
|
|
|
GLD/SLV
|
SLV/S&P 500
|
GLD/S&P 500
|
Correlation
|
78%
|
29.23%
|
9.91%
|
|
|
|
|
1 year Rolling Correlation
|
GLD/SLV
|
SLV/S&P 500
|
GLD/S&P 500
|
Maximum Correlation
|
84.78%
|
53.86%
|
40.39%
|
Minimum Correlation
|
72.62%
|
5.73%
|
-20.32%
|
As is quite clear, the correlation between the precious metals
and equities tends to increase when the broad equity markets
witness a surge. As an instance, in the past three years, the
correlation between the precious metals and equities has surged
every time the equity markets have witnessed a bull run. The most
recent example being the equity market surge when the Federal
Reserve announced QE3 in mid September last year which also boosted
commodity prices across the board.
At this time the correlation between SLV and S&P had touched
a maximum of around 54% while the correlation between GLD and
S&P reached a high of 40.39%. On the contrary when the equity
markets witnessed a plunge during the latter part of the fiscal
year 2011 over issues surrounding the sovereign debt crisis, the
correlation between the precious metals have witnessed a plunge.
(see Gold ETFs Make 2012 Another Positive Year)
During these times, the correlation between silver and equities
reached a minimum of 5.73% while gold and equities were negatively
correlated (due to the ultimate safe haven nature of gold) with a
minimum correlation of -20.32%. However, the two precious metal
siblings also exhibit a strong bonding between each other. In fact
their correlation has never gone below 73% while reaching a maximum
of almost 85%
Nevertheless what is most noteworthy in this exercise is the
fact that the correlation between silver and equities has never
fallen below 0. In other words, at all times silver exhibits a
positive correlation with equities no matter how weak the positive
correlation is. Thus, although silver belongs to the precious metal
asset class, it has a soft corner for equities which makes silver
the ‘Equity’ like precious metal.
For investors seeking to play this intriguing precious metal the
following ETFs could be solid long term choices. This is especially
so in consideration of our bullish outlook for silver as indicated
by the Zacks Rank of 1 or ‘Strong Buy’, for each
of these ETFs.
iShares Silver Trust
(SLV) which tracks the
price of silverbullion is by far the biggest and the most popular
silver ETF. It has an asset base of around $9.9 billion and an
average daily volume of close to 11.5 million shares. The ETF
charges investors 50 basis points in fees and expenses and has
returned 5.77% for the one year period as on 31st
December 2012. SLV has a Zacks Rank of 1 or ‘Strong
Buy’.
Another ETF which tracks the price of silver bullion is
the ETFS Physical Silver Shares
(SIVR). However, one
thing that sets this ETF apart from its iShares counterpart is its
relatively lower expense ratio of 30 basis points. The ETF was
launched in July of 2009 and since then has been able to amass an
asset base of about $560 million. The ETF has an average daily
volume of around 246,000 shares. SIVR too, has a Zacks Rank of 1 or
‘Strong Buy’.
PowerShares DB Silver ETF
(DBS) is a futures
backed ETF which tracks the DBIQ Optimum Yield Silver Index Excess
Return. Like its counterparts, DBS has also managed to earn a Zacks
Rank of 1 or ‘Strong Buy’ for itself (read Zacks
Top Ranked Silver ETF: DBS). The ETF is pricey
with an expense ratio of 79 basis points given its futures backed
structure. It has an asset base of around $64 million with an
average daily volume of around 16,000 shares.
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PWRSH-DB SILVER (DBS): ETF Research Reports
SPDR-GOLD TRUST (GLD): ETF Research Reports
ETF-SILVER TRST (SIVR): ETF Research Reports
ISHARS-SLVR TR (SLV): ETF Research Reports
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