Silver : The New Gold
Gold is a way of going long on fear.
Warren Buffet.
According to him, betting on gold is like betting on fear. If people are afraid, they buy more gold driving the prices up, and you make money, if people are less afraid, you lose money. But why is gold considered such a haven in bad times?
Starting with the most fundamental question
What factors determine the value of a commodity (or anything for that matter). Scarcity, usefulness, and longevity. Gold has two of the three properties. It sure is used in many places like electrical equipment, but it is generally too expensive as raw material and, therefore, substitutes have been developed. The two major uses of gold are Jewelry and investment.
Talk about longevity; there is perhaps nothing better than gold as a store of value. It’s one of the world’s oldest currencies. It is widely available enough to trade but is finite in supply, so it’s rare enough to be considered valuable. Unlike some metals, it is not corrosive, making it durable. In fact, until a few decades ago, gold was used as a standard to back currencies. Paper money was just a “promise” to pay the bearer an equivalent amount in gold. But in 1971, the united states abandoned the gold standard, and the world switched to something known as fiat currency. Precious metals like gold are considered a hedge against inflation, meaning their value rises with the rising cost of goods and services.
Why do we need physical gold?
If you are buying it for investing, why would you want to pay the extra few percent making charges that jewelers often charge? Why would you take the risk of taking care of that expensive gold chain you just brought and are never going to wear? Here is where sovereign gold bonds come into the picture. The central government issues these, and like all other bonds, these are also debt instruments. If you buy these bonds, the government will give you a certificate guaranteeing an equivalent amount of gold. You will also earn yearly interest. At the end of the maturity period, you’ll get back your investment at the current market price of gold. Say, for example, you brought 10g worth of gold bonds in 2012. Gold was then trading at 2854/g. That is, your initial investment was worth 28,540. These bonds matured in 2020, and the current market price is 5541/g. This means that you’ll get back the 10g of your gold (now worth 55410). The cherry on top is the extra interest that the government gives you annually, exempt from tax. All this without the hassle of safekeeping! You can also invest in equity securities, known as gold Exchange-traded funds (ETF). Just like you buy a share in a company, you can buy a share in that security, backed by gold. This gives the liquidity of stocks and the simplicity of gold investments.
When the COVID 19 pandemic hit, people started looking for a safe haven to park their money. Due to the pandemic, the demand for Jewelry in the two largest consumers (China and India) dropped by around 30 percent, and gold prices hit a low of about 39000 Rs / 10g. Investors generally have two safe havens; Treasury bills and precious metals. But recently, the yield on treasury bills was close to zero. As a result, people started buying gold driving prices up. As of 31st July, gold was trading at 55,700 Rs/10g. That is a whopping 40+ return within over half a year.
It turns out, there is an outperformer. In March, Silver was trading at around 37000 / kg. It rose to 65000 in August. That is a 75% return! So why is it that in the same period Silver appreciated at almost twice the rate of gold. Is Silver proving to be the new gold?
Unlike gold, Silver is quite versatile
Less than half of it is used for Jewelry, and like gold, the demand for Silver in Jewelry took a toll because of COVID19. One of Silver’s primary uses is in photovoltaic cells in solar panels, and the demand for solar panels is projected to increase multiple folds as we switch to cleaner and cheaper energy sources. Another major use is in the automotive industry, where every electrical action in a car (power windows, starting engines, adjusting seats) has silver-coated connections. The increase in the demand for automotive vehicles, especially the electric one, would lead to a further increase in the demand and prices of Silver.
The most impactful, immediate cause of the sudden rise in silver prices is the fall in the supply of Silver. Mexico and Peru are the two leading silver producers, accounting for 40% of the world’s total production. These mines hav been shut due to the rapid spread of COVID 19.
At the beginning of the pandemic, the gold to silver ratio was about 120, but now it has dropped to 83. Both gold and Silver are rising because of the increase in demand, but Silver is rising more steeply because of the rise in demand coupled with the decrease in supply So for investment purposes, Silver just might be the new gold!
