Why Silver Is Close to Breaking Out

It’s been a tough year thus far for silver (SLV) as it’s massively underperformed gold (GLD) and remains flat year-to-date, but the relentless bid since the mid-March low suggests that we might finally be seeing a change of character here. Heading into June, silver was up by more than 55%from its March low, and a sharp retracement would have been entirely normal after a rally of this magnitude.

While it looked like we were going to see a sharp retracement as of mid-June, it’s now looking like silver is going to finish the month near its May highs. This is a sign of extreme strength, and often the best indication that an asset wants to go higher medium-term is not how it goes up, but how it sells off. This favorable technical picture is corroborated by a complete disinterest from small speculators in the silver trade, with exposure remaining near 1-year lows. Let’s take a closer look below:

(Source: Author’s Chart, CFTC.com)

The most powerful bull markets are those that begin with a complete dearth of interest from speculators, and it looks like this might be what we’re seeing from the silver market. As we can see in the chart above, which compares the silver price (grey line), with long contracts held by small speculators (blue bars), we continue to see a significant divergence between price and long exposure. If we look at the left of the chart and the last two times silver was trading above $18.00/oz, we had small speculators hoarding silver contracts with an average exposure level of over 57,000 contracts on a trailing 1-month basis.

This time around, however, we are sitting at the same levels for silver, and long exposure continues to remain well below 40,000 contracts, coming in at 37,000 contracts last week. This means that higher prices are not making small speculators more bullish, as we have 30% lower long exposure among small speculators even though we’re trading at the same levels.

(Source: Author’s Chart, CFTC.com)

Typically, this is a great sign for an asset class, and it increases the probability that dips will be bought. In fact, it’s the exact opposite situation we had compared to January of 2020 and August 2019 when sentiment was a massive headwind with exposure at multi-year highs while price rallied. While there are no guarantees, I would expect any 12% pullbacks in silver to continue to get bought up as long as this positive divergence remains in place.

The best situation for the silver bulls would be a move through $19.00/oz, a new weekly high, but long exposure in the metal remaining below 40,000 contracts on a trailing 1-month basis. Let’s see what the technical picture looks like:

(Source: TC2000.com)

As we can see from the chart above, silver currently looks to be building a sloppy cup and handle base from its mid-March lows, and this pattern would remain healthy as long as the bulls continue to defend the $16.00/oz level on a weekly close. However, we have strong resistance in place at $18.95/oz on a weekly close, and this could continue to be an issue over the next month or two while silver fills up its tank to prepare to break out through this significant resistance area.

Therefore, I believe investors looking to add positions in silver would be wise to look to add exposure to silver between $16.80/oz to $17.20/oz, as this handle could take a little longer to build before we see what seems to be an inevitable breakout. If this breakout doesn’t materialize, buying in the lower area of this handle will provide much lower risk, which would confirm that this pattern is deteriorating on any weekly close below $16.00/oz.

So, what’s the best way to play silver?

(Source: TC2000.com)

While a pure-play on silver is certainly an option, I prefer to buy leading silver miners vs. the metal as they have much less resistance overhead. There is one name currently leading the metal as it broke out to a new multi-year high last month and is massively outperforming silver, up 20% year-to-date. This company is Pan American Silver (PAAS), one of the largest silver producers, and analysts expect that the company can increase annual earnings per share from $0.41 to $1.65 between FY-2019 and FY-2021.

Given Pan American’s relatively low costs of $10.00/oz, the company will do exceptionally even if silver does not break out this year, meaning that investors get leverage on the silver price without the risk if it continues to consolidate. In summary, as long as the bulls can continue to defend $16.00/oz on a weekly close, they will remain in control. This massive divergence in small speculators’ long exposure and the silver price continues to be a bullish development, and as long as it remains in place, I would not be surprised to see silver head north of $20.00/oz in the next nine months.

Disclosure: I am long PAAS, GLD

Disclaimer: Taylor Dart is not a Registered Investment Advisor or Financial Planner. This writing is for informational purposes only. It does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Taylor Dart expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing.

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The iShares Silver Trust (SLV) was trading at $16.78 per share on Tuesday morning, up $0.13 (+0.78%). Year-to-date, SLV has gained 0.60%, versus a -4.14% rise in the benchmark S&P 500 index during the same period.

SLV currently has an ETF Daily News SMART Grade of B (Buy), and is ranked #20 of 34 ETFs in the Precious Metals ETFs category.