We have been particularly bullish on the iShares Silver Trust ETF (NYSEARCA:SLV) in recent months after the massive policy from the Fed in response to the COVID-19 macro shock. In this regard, we have not been disappointed by the substantial appreciation in SLV – SLV rose as much as 120% from its mid-March low to its year YTD high established in August.
Source: Bloomberg, Research
The iShares Silver Trust ETF
SLV seeks to track the performance of silver spot prices by physically holding silver bars in England or New York.
The physically-backed methodology used by SLV prevents investors from getting hurt by the current contango structure of the COMEX silver forward curve (forward>spot) contrary to a futures contract-based methodology.
Its expense ratio is 0.50% per year.
SLV has come under renewed downward pressure since it reached its highs since April 2013 earlier this summer. In this note, we investigate whether SLV can go back up to its previous YTD high, and if so, how fast.
Source: Bloomberg, Orchid Research
To answer these questions, we investigate the positioning in the silver market because the fluctuations in SLV in the short-term tend to be highly driven by sentiment and thus changes in positioning.
The recent behavior of silver prices suggests that prices are more sensitive to changes in investor sentiment (via ETF investors) than changes in speculative sentiment (via non-commercials on the COMEX). To illustrate our point, we construct a joint plot, which allows us to illustrate the bivariate relationship between the CME silver price (USD/ounce) and positioning (i.e. the net speculative length held by non-commercials in contracts) since 2015. We perform a linear regression and compute the R-squared to assess the explanatory power of spec positioning and ETF positioning.
Source: Orchid Research
As can be seen below, the R-squared resulting from the “ETF regression” (0.58) is significantly higher than that from the “SPEC regression (0.15).
First conclusion: Even though the CME silver price appears too high based on the current spec positioning in the silver futures market, it appears fairly valued based on the current silver holdings held by ETF investors.
Although silver ETF holdings are historically high, we attempt to estimate the additional quantity of silver ETF investors need to add to their holdings to push the CME silver price (currently at $23.97/ounce) to its YTD high of $27.61/ounce.
To do so, we run a rolling linear regression (with a window of three years) of the weekly changes in silver ETF holdings against the weekly changes in the CME silver price in order to capture the rolling betas, which represent the sensitivity of ETF holdings to prices. We analyze the 2010-2020 period.
For example, a beta of 100 suggests that ETF holders need to raise their ETF holdings by 100 tonnes for the CME silver price to increase by $1 per ounce.
Source: Orchid Research
Second conclusion: We find that ETF investors may need to add a little bit less than 500 tonnes of silver to their holdings to push the CME silver price by $3.64/ounce, that is, back to its YTD high.
After analyzing the frequency of monthly changes in silver ETF holdings, we conclude that it would not be hard for ETF holders to increase their holdings by 500 tonnes over a one-month period.
Source: Orchid Research
Another way to look at it is to identify the number of occurrences ETF investors have added at least 500 tonnes to their holdings and classify our results by time horizon. As such, it will give us a better idea of how fast ETF investors can lift their holdings by such a magnitude.
Source: Orchid Research
The bar in black corresponds to the highest frequency. Since 2010, ETF holders have added by at least 500 tonnes to their holdings in a 23-week period 192 times since 2010. The fastest period during which ETF investors added 500+ tonnes was only a week. Since 2010, this has happened 14 times.
An increase of 500+tonnes in a four-week period (~1 month) has occurred 62 times since 2010. We, therefore, conclude that a 500-tonne increase in silver ETF holdings could occur sooner rather than later.
Final conclusion: We conclude that 1) a return of SLV to its YTD high is very plausible by year-end, 2) it would require an additional buying of ~500 tonnes of silver from ETF investors to move SLV back to its YTD high, and 3) this could take roughly one month to get there.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: Our research has not been prepared in accordance with the legal requirements designed to promote the independence of investment research. Therefore, this material cannot be considered as investment research, a research recommendation, nor a personal recommendation or advice, for regulatory purposes.
