2009 Silver Outlook

By Brian Dolan, Chief Currency Strategist

Currency dynamics

One thing to keep in mind when thinking about silver is that, like gold, it is also used as a hedge against the US dollar. Indeed, looking back to 2000, silver has a negative -80% correlation with the buck. In other words, when the dollar moves lower, silver tends to move higher at least eight out of ten times. Thus when the paramount reserve currency comes under pressure, investors seek out other alternatives - like gold and silver. As such any long trade in silver could also be viewed as a short against the USD, and vice versa. While the current economic environment has seen some of the traditional strong negative correlations between precious metals and the US dollar weaken, we would keep in mind that they can resurface at any time.

Fundamental view

Silver has seen appreciable gains since the financial crisis intensified in October 2008 when the precious metal was trading near $9.00/oz. Its strength has recently been pared after making a 2009 high close at $14.44 to just about the $12 mark recently. While solid demand from the ETF community has helped the metal remain firm, the weakening global economy has seen demand for products where silver is a component decline - thus capping prices somewhat.

Investor demand for silver remained robust through the end of last year with the ETF community holding a total silver inventory estimated at more than 6,000 tons. This is an increase from 5,290 tons at the end of 2007 and less than 4,000 the prior year. Physical coin demand has also been strong on the heels of the financial crisis as investors flock to physical store of value assets.

Industrial demand for silver has suffered as economic activity grinds lower around the globe and substitutes for the precious metal take market share away. Some traditional areas where silver has seen an appreciable decline are photography, jewelry and silverware. Jewelry and silverware sales have slumped as consumers the world over clean up their balance sheets and cut spending. On the photography front, silver has seen demand plunge as digital systems become the norm.

However, silver has seen demand hold up rather well in the electronics space and this should come as no surprise when we witness the +18% year-to-date outperformance in tech stocks versus the overall market. The ability of the tech space to withstand the financial crisis continues to surprise market participants (is an iPod a staple now?) and this coupled with what we expect to be firm demand from the investment community seeking a safe haven play as economic uncertainty prevails are likely to keep silver prices well supported over the balance of 2009.

Technical outlook

On the technical front, one of the clearest patterns that look to be playing out is a bull flag on the daily charts. The metal has consolidated lower as global stock markets rocketed higher off the early March lows and looks to be setting up for a sharp snap higher. Support in this bull flag formation comes in by $11.00 while resistance, and the potential breakout level, sits near $13.10. The measured move objective if the pattern plays out would be near $19.00.

Silver is likely to encounter some key Fibonacci resistance on any move higher. The first looks to be by $13.40 which is a 38.2% retracement of the March 2008 to October 2008 move from $21.31 to $8.46. The 61.8% retracement level is by $16.40 and should be a decent barrier. For support, we would also focus on the daily up-trend line currently near $11.50 and expect very good buying interest on moves into $10.00 -- the late December 2008 lows.

Disclaimer: The information and opinions in this report are for general information use only and are not intended as an offer or solicitation with respect to the purchase of sale of any currency or metal. All opinions and information contained in this report are subject to change without notice. This report has been prepared without regard to the specific investment objectives, financial situation and needs of any particular recipient. While the information contained herein was obtained from sources believed to be reliable, author does not guarantee its accuracy or completeness, nor does author assume any liability for any direct, indirect or consequential loss that may result from the reliance by any person upon any such information or opinions.