JOHANNESBURG (Business Day) -- Silver may have been regarded as the lesser commodity to gold, but that may be about to change. Analysts expect to see gold around US$800 an ounce going forward, but in reality the yellow precious metal is languishing well below the $700 level. Classic Business Day speaks to Jessica Cross from the VM Group to get her opinion.
LINDSAY WILLIAMS: The VM Group (previously known as Virtual Metals) portfolio now covers not only gold and platinum, but lots of other commodities. One of those is a commodity called silver that’s romantically linked with Bunker Hunt who many years ago tried to corner the silver market and it went to $50 an ounce. Silver is currently trading around $13 an ounce, and that’s way undervalued of course, but maybe this metal’s future is going to change. Jessica, what do you think of silver?
JESSICA CROSS: It’s unfortunate that silver has always been the “ugly stepsister” to gold. It’s the poor man’s investment, and in a way that has been its strength - because we saw silver for about 10 years in a trading range of boring $4 to $6 where it looked appalling - but that generated a lot of industrial research and development where that price actually encouraged people to look at a number of industrial end uses the results of which are starting to come through now.
LINDSAY WILLIAMS: You can’t be telling me now that silver can actually be used for something?
JESSICA CROSS: It can be used for all sorts of things, and that’s what’s so amazing about it - we’ve identified a number of end uses that are starting to look really promising.
LINDSAY WILLIAMS: For example?
JESSICA CROSS: For example silver is used in wood preservatives in the U.S., it’s used in radio identification tags throughout the world including ID documents, it’s used in medical bandages as a biocide to the extent not only just bandages but in hospitals in the UK, they’re testing silver-impregnated disposable pyjamas. Silver is a very strong biocide, and it’s coming into its own there. The really interesting thing is that if any of these industrial uses take off and start consuming volumes of silver, they’re end uses that don’t generate recycling - so you’re not going to have a problem with the photographic industry where the silver went in and then it came back. This silver will go into the smoke stacks and then all disappear - you’re not going to recycle bandages, pyjamas, radio identification tags, and wood preservatives. That’s physically impossible. So once the metal has gone into these end uses it’s gone, which is a very refreshing change from the usual.
LINDSAY WILLIAMS: That’s a very refreshing change from those people that have been very bullish on gold for so long - because once you produce gold it stays above ground and then you can recycle it. Looking at my chart here between 1998 and the beginning of 2004 as you say silver was more or less a $4 to $6 market with a massive base that the technicians love, and then suddenly there was a huge spike up to $15 at one stage. Now it’s back around $13. The fundamentalists would say: “What’s the supply and demand balance right now?” What is the situation?
JESSICA CROSS: The supply and demand balance - we call that the “imbalance” because silver like gold is in chronic oversupply. Above ground stocks we reckon - and it sounds the most horrendous number - to be over one million tonnes of silver that’s been mined over time. But because of its relative value to gold we think the losses have been substantially higher than that of gold. It’s a guess but we reckon it’s 700,000 tonnes of silver above ground as opposed to 155,000 tonnes of gold. That’s the ratio.
LINDSAY WILLIAMS: So that’s 700,000 silver over 150,000 gold in terms of tonnage above ground of supply?
JESSICA CROSS: That’s floating around in the form primarily of jewellery and silverware and hollowware - if you go to the London Silver Vaults you will see it there going back to Edwardian and Victorian times. It’s absolutely phenomenal. So it’s there, but what changed in 2002 is your investor came back into the market and started mopping up your annual surplus which is really your silver on the margin - and that’s been one of the strengths that’s kept silver where it is, and sent it up to the prices where it is now. The other thing I think that is very important in silver is that when it moves in percentage terms it moves higher, and more than gold - it’s more exciting than gold. That tends to bring out the very loyal North American investor - a very conservative investor that likes silver. They now have at their disposal the ETF - so they can buy it without having to buy a coin, and it’s as simple as buying a stock. It’s the perfect product for the ETF and the investor, and the silver ETF in fact in tonnage terms has done a lot better - and in value terms than gold - so you can see why this product would be so attractive for U.S. investors.
LINDSAY WILLIAMS: But unattractive if you are the sort of person that says: “In 2005 I could have bought silver at $7 an ounce, and now I’m having to pay almost double that.” That puts people off.
JESSICA CROSS: It depends when you got in. Everything is relative. There were all those folk remember who were holding it at $6 or $4 and came into the market and doubled their holdings - they’re the ones who’ve benefited now. To come in now is probably quite high, but from a purchasing point of view what we see which is such a favourable point for silver is it’s still the first point of market entry for jewellery buyers in the Indian sub-continent - as soon as they have a daughter they start buying her a little bit of silver, and when they can afford to they then upgrade that into gold for her dowry, so silver is a very important metal from a dowry point of view and there’s enormous volumes of purchasing in that part of the world.
LINDSAY WILLIAMS: So this is an investment grade metal, and also an industrial grade metal from what you’re saying. How realistic are these prospects for industrial usage? Is it actually happening now?
JESSICA CROSS: Some are - for example the radio identification tags that are the successor product to barcoding. They are unique in the sense that each one consumes a nanogram of silver, and they’re about the size of a postage stamp - but they can transmit data as well as receive where the barcode actually has to be physically scanned for data transfer. The new tags can transmit - they have little antennae and they can transmit information - so they bring to the stock world a completely different security system, where people can move stock around the world with considerably less stock loss. Interestingly, the Chinese government has just signed a US$6 billion contract to have every single Chinese citizen issued with an ID card with one of these little radio identification tags.
LINDSAY WILLIAMS: That’s scary, but great for silver. The silver price is now around $13 an ounce - what’s your target?
JESSICA CROSS: I reckon you’re looking at probably between $11and $15, so I would say we are probably mid-range now. There is upside, but the downside like gold is probably quite well protected at $11.
LINDSAY WILLIAMS: So it’s not so exciting then from $13 to $15? I can see you’re holding back - you want to say $20 or $25 but you can’t say it.
JESSICA CROSS: I’m saying the supply and demand balance in future is looking substantially more robust to be able to maintain those prices - instead of languishing back down at $4 where we are all going to tear our hair out. I think silver is looking substantially better for a longer period of time.
LINDSAY WILLIAMS: How do we get involved? Through ETFs with overseas money, do we just buy silver options, futures - what do we do?
JESSICA CROSS: That or the base metals that have silver as a by-product.
LINDSAY WILLIAMS: Exactly right. The copper and zinc mines etcetera that just produce silver as a matter of course.
JESSICA CROSS: It just happens.
LINDSAY WILLIAMS: Platinum has gone from $400 in 2001 to $1,300 an ounce which very similar to silver with just a few extra noughts on the end - where is platinum going from here?
JESSICA CROSS: We think quite strong, and we have maintained that platinum really has a very firm supply and demand balance that’s looking tight. We’ve got a trading range that’s quite wide from $1,100 to $1,600 an ounce, but I think that’s well protected.
LINDSAY WILLIAMS: One company said that between $630 an ounce and $640 there would be massive physical demand for gold, and that the price would probably be capped on the downside at that sort of level which is exactly what’s happened - and Virtual Metals was that company. Jessica, Virtual Metals has now changed its name to the VM Group - why the name change?
JESSICA CROSS: We’ve expanded swiftly and we are no longer just metals - we are doing base and precious metals, plastics, agri-business and energy.
LINDSAY WILLIAMS: Which is of course indicative of what’s going on in the world at the moment with every single commodity doing extremely well - do you think this can continue in general terms?
JESSICA CROSS: We think yes. Looking at the drivers we think stronger for longer. There’s whole process of urbanisation that we are seeing primarily driven by China, but there’s also what’s going on in India, other parts of the world like Latin America, and other countries in the Far East. Chinese urbanisation increased to 41.8% in 2005 and with that comes huge resources requirements and very strong economic growth. I think that’s one of the primary drivers of what we’ve been seeing since 2002.
LINDSAY WILLIAMS: The main drivers of course being countries like China, India, Brazil and Russia that are behind the overall commodity boom - are there any other drivers that you’re seeing that could be specifically related to precious metals?
JESSICA CROSS: Certainly on the mining side we did see a delay in the response on the part of the primary producers. There’s been considerable time lags - as there always are, so this is not their fault - implying that in many instances sharp supply and demand imbalances and price pressure has emerged in the last few years. With time this probably will remedy itself - but for the time being we’ve got the price pressures, and the bubbly looking prices we’ve had for the past few years.
LINDSAY WILLIAMS: When you say bubbly do you mean seriously bubbly or just starting to get bubbly?
JESSICA CROSS: Well they’ve been bubbling for a while, now I would say they’re just simmering - but they’re simmering at higher prices rather than lower prices. What’s also happened is there’s been this massive wealth creation - it’s gone into the asset management sector, and there’s a recognition on the part of the asset managers of this powerful resource boom resulting in the money flowing into commodities - and they’ve done exactly the same supply and demand analysis that we’ve had, and they’re seeing what we’ve got. So there’s a combination of hot hedge fund money coming in, but there’s also longer-term core holding on the part of the pension funds as evidenced in the ETFs that are now available. So there’s a whole combination - a full spectrum of investment money coming into the commodities - but there’s another driver that we think is fuelling all of this, and that’s the heightened political uncertainty and a sense of energy insecurity around the world. The Middle East and Russia are in the spotlight, and this is fuelling the higher energy prices, and generating a greater sense of fragility in the oil and gas markets so it’s all driving itself. The final driver that’s of not that much importance at the moment - but we think is going to come into its own - is the heightened awareness of global warming, and the need to find fossil fuel alternatives with political pressure on governments, commerce, and households all to reduce carbon emissions. So we see this driver starting to come into its own, and people are looking around for alternates.
LINDSAY WILLIAMS: Hence your expansion into a bigger commodity portfolio in terms of your analysis. That political uncertainty around Russia in particular - I always associate Russia a little with platinum, and also gold - but do you think Russia could be the swing factor when it comes to certain key commodities?
JESSICA CROSS: Indeed. First you just look at natural gas and Europe’s dependence on natural gas from Russia - and we see what Gazcom is doing, and the way the whole energy market is pivotal around what’s happening in Russia. It’s very serious if this does go wrong. So apart from the Middle East you’ve got to superimpose on that the insecurity about Russia and that pressure on the energy markets and the general feeling of insecurity.
LINDSAY WILLIAMS: You’ve got “core” versus “hot” in terms of the fundamental buying and the demand in the market - core is always there but it’s becoming more important, and hot is always there as well on a one and two-month basis I think with the commitments of futures trading statistics that come out occasionally. I don’t know what the position is with the punters at the moment - are they very long of commodities?
JESSICA CROSS: They are. They’re not quite as long as when I last spoke to you - certainly the longs have been coming away in the precious metals, but they are still very long. We now monitor it not only through the CTFC figures, but also the ETF numbers that are starting to come through, and consumer acceptance of the palladium, platinum and silver ETFs. This is all starting to show us what’s happening to the extent that commodities are almost becoming mainstream portfolio parameters now which is really interesting.
LINDSAY WILLIAMS: It’s interesting, but also very dangerous - and at some stage it will come to an end - but let’s enjoy it while we can. Let’s have a look at the one that on Classic Business Day you’ve mainly been associated with and that’s gold - gold got to $695 an ounce just before the last time we spoke, but then came down to that level you spoke about which was around $640 an ounce and then bounced back since - what are the prospects?
JESSICA CROSS: I think at the moment the hedge funds are really active in gold - they’re knocking it back on a consistent basis - but in terms of physical supplies Middle Eastern demand on the back of petro-dollars is coming in at the bottom, so we actually still maintain our $640 an ounce base. I think that’s still being protected quite well. On the upside we still stand with a potential to $700 and we’re not really comfortable with going all that much higher because we think the funds are seeing this trading range and maintaining that trading range. There’s still good official and domestic buying in Iran, and there’s still de-hedging - you saw that Newmont announced the complete closure of their hedge book - and that’s supportive of the price. The ETFs are attracting private investors - and I think that’s core holding - which is really very encouraging. As I said before gold appears to becoming mainstream in portfolios which we haven’t seen really in 20 years - when you talk to a Swiss portfolio manager they’re saying they’re not just recommending 5% for a rainy day but 15% - and that’s a sea change in thinking. Also, on the supply side - and I know I’ve been banging away at this - the number of new mining projects coming on are few and far between, and the mature large mining companies are still having enormous problems with reserves replacement. They are not finding the juniors who are in turn finding the deposits - where a consolidation buyout could boost their reserves - and this is becoming an increasing problem.
LINDSAY WILLIAMS: On the other hand everyone that comes through this studio says why should they be in gold when they’ve got platinum, palladium and other commodities that are doing so well that actually have industrial and real uses that gold doesn’t have? Has the success of the commodity portfolio across the world and across the spectrum actually been to the detriment of gold?
JESSICA CROSS: Where prices are now is very attractive - it’s probably curbed research and development in industrial uses for gold, and a very great weakness in gold is that there is no industrial end use as we are seeing in silver that’s really exciting. The other weakness in gold that we really need to keep in mind is longer-term Indian dowry purchases, where the subject and the contents are changing. There’s also still considerable above-ground stocks in gold - but I would say we’ve always had that, we live with it, and we get on with it. There’s always the outside possibility of unexpected central bank official gold sales - which might surprise the market, although within the European gold agreement we have a very clear idea what’s coming - and recycling at these levels is still high where with the price bubbling under $700 it still pays to sell back your old jewellery wherever you are in the Middle East or in India, and recycle it back so there’s still that coming through. The final weakness is if we see a strengthening of the dollar which begs the question of what you think about the dollar? If one sees a strengthening obviously that does impact on the dollar price of gold. So those are the weaknesses. But there’s still a long market, and it’s settled into a trading range - but if you take a look at that $649 base four years ago we would have laughed and said you must be joking.
LINDSAY WILLIAMS: So it’s a $640 to $700 market in your opinion for a little while yet?
JESSICA CROSS: Yes.
