Silver dropped by more than 15% on the 11th of August – buy the dip?

August 18, 2020 14:30

On Tuesday of last week, precious metals, especially Silver, took a serious hit. Silver lost more than 15% that day.

That said, it comes as no big surprise that the Silver ETF 'SLV' fell 13.6%, seeing its largest 1-day decline since September 2011, while Silver, itself, saw its biggest intraday loss since the Lehman crash and the start of the Great Financial crisis in 2008.

But since its run from its March lows at 11.64, Silver has gained over 150%, trading close to 30 USD on the 7th of August, meaning that not only was a sharp bounce imminent – but also that we could see another sharp run to higher levels soon.

Despite the aggressive drop: precious metals still ultra-bullish

While it certainly remains to be seen whether we will get to see another leg lower which could push Silver prices down to 20 to 21 USD, we continue to remain positive for the months to come for Silver.

Gold also took a hit and dropped back below 2,000 USD, tumbling more than 5%, or dropping more than 100 USD per ounce, which was the most in one day since 2013. However, we don't see any reason why the sharp rise in precious metals, in general, and probably especially in Silver, won't continue.

The reason: the fundamentally positive picture hasn't changed a bit as the drop on Tuesday was mainly driven by the rise in US yields.

In fact, 10-year US Treasury yields rose, possibly, on higher-than-expected inflation data and resulting speculation that the Fed will raise rates or at least start to shrink its balance sheet in response to rising prices.

To us, this seems like sheer fantasy, as that would imply that the US economy is on a strong recovery path from the Coronavirus lockdown. But if that's the case, why are negotiations between Democrats and Republicans in the US on hammering out a stimulus relief package still ongoing?

It is clear that further fiscal stimulus will come sooner rather than later in one form or another because the US economy is not on an economic recovery path.

And it is also clear that such a relief package must somehow be financed – likely with freshly printed USD from the FED.

So, with the expectation that the US budget deficit will likely rise higher and hit 18% this year, a level not seen in 75 years, the sell-off of the US-Dollar will likely not only continue but probably even accelerate.

And since the US-Dollar is negatively correlated to Gold and Silver, a bullish run seems to be imminent for both – probably with Silver seeing an outperformance.

How to trade Silver in this environment?

We derive the outperformance potential in Silver compared to Gold from our expectation that the Gold-Silver-ratio will continue to trade back to its historical average between 50 to 60.

Since we expect a mid-term Gold price of 3,000 USD per ounce 6 months from now, a Gold-Silver-ratio between 50 and 60 suggests a Silver price in the range between 50 and 60 USD per ounce (3,000 USD / 60 = 50 USD respectively 3,000 USD / 50 = 60 USD).

A Long trade in Silver would then be taken with a break above 30 USD and a stop below the recent lows around 23.30 USD, giving us a risk-reward ratio of at least 1 to 3:

Source: Admiral Markets MT5 with MT5SE Add-on #AAPL CFD Daily chart (between March 26, 2019, and August 17, 2020). Accessed: August 17, 2020, at 10:00 PM GMT - Please note: Past performance is not a reliable indicator of future results, or future performance.

In 2015, the value of Silver fell by 12.8%. In 2016, it increased by 13.0%. In 2017, it rose by 6.4%. In 2018, it fell 10.0%, and in 2019, it increased by 15.7%, meaning that after five years, it was up 13.5%.

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