Is Silver a Better Bet Over Sky-High Gold Prices?

Silver reached a seven-year high in August as concerns about a weak dollar and declining bond prices thrust investors to safe-haven assets as uncertainty about the economy remained.

Investors have turned to hard assets such as silver and gold in 2020 as central banks continue to print money in response to the pandemic.

Silver is trading at about $26 an ounce, more than a 50% increase compared with last year and about a 70% rise from five years ago.

Investors are seeking a safe haven since the federal stimulus package can undermine the value of the dollar, which recently was close to two-year lows, says Daren Blonski, managing principal of Sonoma Wealth Advisors in California.

“This is really a dollar story,” he says. “If the depreciation of the dollar continues, you could see the continued benefit of investing in silver.”

Silver remains an affordable asset for investors who are seeking a hedge against inflation. The precious metal reached $27 an ounce in early August, while gold now trades at about $2,000 an ounce.

“With a much lower price point, silver tends to be a more appealing trade for the smaller retail investor,” Blonski says.

Silver can be a good asset to diversify a portfolio since it is weakly correlated to stocks and bonds, says Jodie Gunzberg, managing director, chief investment strategist at Morgan Stanley, Wealth Management Institutional. Silver has a correlation of 0.30 to the S&P 500 and 0.23 to the Bloomberg Barclays US Aggregate Bond Index.

The metal is also only moderately correlated to other commodities and real assets, with a correlation of 0.58 to the Bloomberg Commodity Index Total Return and 0.51 to the S&P Real Assets Index.

The price of silver moves more with inflation and the U.S. dollar compared with gold, since it has more industrial purposes, she says. As inflation rises 1% year over year on average, silver gains 17.4% on average, while gold gains 6.3% on average.

“It takes a much smaller investment in silver than gold to hedge against inflation,” Gunzberg says.

The S&P 500 gains on average 2.4% per 1% rise in the Consumer Price Index year over year, so both precious metals provide a greater inflation hedge than stocks.

[READ: The Ultimate Guide to Equity.]

Silver rises much more than gold with a falling U.S. dollar — for every 1% the U.S. dollar fell year over year on average, silver gained 3.3% on average versus gold’s gain of 1.9% on average.

Silver has the highest correlation of 0.8 to gold and is most highly correlated with industrial metals of aluminum, nickel, copper and zinc — all with correlations between 0.41 and 0.48. Silver is very weakly correlated or uncorrelated to agriculture and livestock.

Impact of the Gold-Silver Ratio

The gold-silver ratio compares the number of ounces of silver it takes to buy 1 ounce of gold. The gold-to-silver ratio is now about 1:74, which means that 1 ounce of gold buys 74 ounces of silver. The ratio in modern times has averaged 1:60, says Edmund Moy, who served as the 38th director of the U.S. Mint from 2006 to 2011.

“If the historical ratio is 1:60 and the current ratio is (1:74), either gold is overpriced or silver is underpriced,” he says. “If silver is underpriced, there is great upside to investing in silver.”

While gold has had more of a run than silver, over the longer term, silver “would need to appreciate more to go back to its normal gold-to-silver ratio,” Blonski says.

Since the gold-silver price ratio hit historic highs a few months ago, silver remains extremely cheap relative to gold prices, says Edward Egilinsky, managing director, head of alternative investments at Direxion, a New York-based fund provider.

“Over the last few months, that price ratio has started to narrow, resulting in silver’s relative outperformance to gold,” he says.

The price of silver could continue to rise.

“There is still room for silver to move higher based on its long-term historic price ratios average,” Egilinsky says.

While the gold-silver ratio narrowed quickly from its peak of 124 on March 17, near silver’s pandemic bottom, it is still historically wide, Gunzberg says. The ratio is likely to narrow more — the gold-silver ratio average since 2000 is 66.

“To trade the two relative to each other, you can sell your gold for silver now, then buy more gold with your silver as the ratio narrows,” she says. “Historically, the gold-silver ratio was as low as 17 in 1980, when silver was at its most expensive, and since 2000, the gold-silver ratio was as low as 32, leaving considerable room for silver to rise against gold before reaching an unprecedented level.”

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Cons of Investing in Silver

The price of silver has been historically volatile because it has industrial uses in the manufacturing, electronic and industrial sectors.

“When silver is in high demand by investors, yet still needed by industry, that causes prices to swing aggressively,” Moy says.

Investing in silver means coping with its volatility. During the past one, three, five and 10 years, the annualized volatility of silver was 46.6%, 29.4%, 27.1%, and 32.9%, respectively.

In the past year, silver was 3.3 times more volatile than gold, 2.4 times more volatile than commodities and 2.1 times more volatile than the S&P 500, Gunzberg says.

Volatility in silver’s prices could rise even more due to the uncertainty from the pandemic. The health crisis could also impact the demand for silver due to restaurant and entertainment shutdowns that in turn lower demand for silverware and jewelry.

“However, supply should slow too, so the question is how the market will balance including the rise in investment demand as investors flee to the precious metals as a safe haven,” she says.

Another negative factor is that silver does not earn any interest or dividends unless individuals are investing in mining companies or lending the asset out for a return.

“In a rising-interest-rate environment, silver is often a less attractive investment than in a low-interest-rate environment,” says Michael Cuggino, president and portfolio manager of the Permanent Portfolio Family of Funds in San Francisco. “The low-interest-rate environment we are in explains in part the move we have seen so far in 2020.”

How to Invest in Silver

One way to add exposure to silver is through an exchange-traded fund such as iShares Silver Trust (ticker: SLV) that is benchmarked to the price of silver. The one-year return is 16.6%, while the three-year return is 2.2% and the five-year return is 2.07% with a fee of 0.5%.

Although the price of silver has reached historic highs, investors can still add a silver ETF to a portfolio. The price of silver depends partly on decisions the Federal Reserve makes in the near term, Blonski says.

[SEE: 7 Rules for Building a 3-Fund Portfolio.]

“You have a macroeconomic climate where the government is debating another $1 trillion stimulus relief package,” he says. “It is very likely for inflation to take off.”

Another ETF is the Global X Silver Miners ETF ( SIL) with an expense ratio of 0.66%. This ETF focuses on the mining companies with larger concentrations. The top three holdings are 21.4% in Wheaton Precious Metals Corp. ( WPM), 12.8% in Polymetal International and 10.2% in Pan American Silver Corp. ( PAAS). The one-year return is 40.2%, while the three-year return is 3.9% and the five-year return is 9.12%.

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