Why a quicksilver market may be saying sell in May
Using dramatic shifts in silver as a guide, this Canadian analyst thinks it’s time to pull away from the markets, though he likes one gold ETF.
Silver was trying to tell us something.
The price of silver had one of the biggest runs in its history for the eight months before Easter.
It passed US$20 an ounce in September, $30 in February and $40 in April, reaching a high of $49.
This began to smell “like the advanced stages of a mating dance between pin and balloon,” was the comment in Ian McAvity’s Deliberations on World Markets.
Sure enough, silver hit its high around the festive weekends featuring the Royal Wedding and Easter, then plunged. Gold also hit the skids.
They have both recovered some of their luster since. Silver sits at $36.80 and gold has moved back up above $1,500.
But that doesn’t mean that there isn’t more “road kill” ahead, says Mr. McAvity. This editor writes in Toronto for a largely American audience. This may indeed be time to “sell in May and go away,” he writes.
Still, some may want to buy precious metals on pullbacks. If so, he says, an exchange-traded fund, or ETF, is a better bet than mining stocks.
Culling the herd
As the weather warms up, “this might be as good a summer as I can recall to work on your golf, tennis, fishing or garden and keep a lot of powder dry for later in the year when I suspect the herd of bulls will be culled down,” writes Mr. McAvity.
The strong price rise in the markets “with ebullient bullishness ignoring growing divergences” is another cause for concern, he writes.
Middle East unrest continues unabated. And Mr. Ben Bernanke, chairman of the Federal Reserve Board has been “claiming credit for rising stock prices while denying that same liquidity has fuelled scary commodity price inflation.”
Of course we know that other commodities, and oil most pointedly, followed silver and gold down the slippery slope last week.
Against this backdrop, the editor turns to his technical charts to illustrate the instability of the market. Silver is Exhibit A.
Short-lived spikes
“When silver runs, it’s dramatic,” writes Mr. McAvity, “but those spikes tend to be very short-lived, and typically fall off by 36% to 40% within the next four months.”
He based this on 9 “spike tops” that have occurred since 1968. If silver follows its historical record, a recent top of almost $50 would suggest that the price (which has already skidded into the $20s and pushed back up into the $30s) would settle in at around $30 by the end of August.
What’s more, the ratio of silver to gold is in question. For the past 25 years, it has been in the 45:1 to 80:1 range. Recently, says this editor, “we had ‘experts’ all over the media calling for a return to 15:1.”
That was the dominant ratio in an earlier generation, from 1965 to 1985. Mr. McAvity thinks a reasonable ratio in the next few years may be 20:1. That is, “it would make sense to trade 20 ounces of silver to get one ounce of gold.”
Whereas, if you could get 45 ounces of silver for one of gold, you’re better off taking the silver, he says.
Ugh!
As for the “senior” precious metal, gold, Mr. McAvity notes that in the frenzied weeks before the sell-off, there was less speculation in gold. For that reason “there was less air to let out of the balloon.”
But a lot of air has been let out of gold mining stocks, he observes. The major miners “continue to frustrate the school of thought that argues they’re a leveraged play on the gold price.”
He goes back five years to prove his point. In May 2006, gold topped at around $732. Since then it has more than doubled, yet five of the 11 major mining stocks are at or below their May ’06 prices.
“Ugh!” he says simply.
Forget these stocks, he says. In a serious market decline, it would be far better to acquire Market Vector Junior Gold Miner ETF (NYSE-GDXJ). This ETF is “an index of juniors the majors will have to acquire over time to replace the reserves they’re mining out.”
This fund fell back in the general commodity panic last week, but is moving up today. As high as $42.97 in April, it trades at $37.12 now.
Mr. McAvity makes the point again. When the bandwagon gets crowded, as it did for silver earlier in April, it’s time to be prudent. “Contrarian bells rang even louder when even CNBC started raving about the Silver rush!”
As far as he’s concerned, instead of investing in May, we should get out and play.
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