Saturday, July 16, 2011

The Hot Money In Silver

Silver, the hot headed more volatile twin of gold, recently did one of those stunning runs to the upside, briefly hitting $47, crushing the shorts and dumbfounding all those who sold an overbought condition at the base of the spike. This was a significant departure from gold, which did no such thing. Now since we have an R squared between silver and gold that very typically runs around 0.9 or higher, meaning that the two correlate extremely closely, we must ask ourselves just what the heck was going on here.

Silver's behavior has caused many, including Jim Cramer, to be negative on silver but positive on gold, because, as Cramer recently remarked on his show, silver still has too much hot money in it. He flatly stated to stay away because "silver is going to $28". Hot (overleveraged) money was certainly the nitro that fueled the one month spike to $47 before the margin rules were tightened. But what is the case now?

Silver is doing what markets do to an overbought condition - a correction. And corrections very typically follow the classic ABC pattern where an initial sharp pounding is followed by a pause consolidation and then the final sharp decline to a bottom. We have had "A", are now in "B", and are awaiting a "C" which would indeed take the price to about $28. This would be enhanced by the market's general jittery feel about the debt default situation in the US and Greece and its effect on all things economy sensitive, as silver is.

That plausible scenario, however, is looking less and less likely. Lets look at a side by side comparison between gold and silver:

First, we see gold went onto a consolidation trading range in April. Now lets look at silver:

Here we see that silver did essentially the same thing except for the hot money spike that lasted for a month, shown in orange above. If you take away that aberration, you have silver following what gold is doing very closely - compare the charts. The ABC correction of the hot money warp seems to be fading into the tight correlation with gold - and gold is clearly breaking out of the consolidation to the upside. The ABC correction would have silver going far below the 140 day ema (blue line above) which would bring into question the whole silver bull market. That is looking less likely now, and a more sustained advance is probably coming. I hate hot money as much as Cramer or anybody, but silver's harmful hot money seems to be mostly laundered out at this point.

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