All That Glitters Is Silver

 | Apr 15, 2014 | 1:30 PM EDT  | Comments
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Stock quotes in this article:

slv

,

gld

I have said it before and I'll say it again. Gold is the Kardashian of financial instruments: pretty to look at and interesting to follow at times, but of little or no fundamental use to society. This doesn't mean gold shouldn't be owned or traded. Over long periods, it's been proven wise to dedicate a percentage of your portfolio to gold as an inflation hedge. In the last couple of years, moreover -- after the gold bubble burst and wholesale deleveraging ensued -- we've seen ample trading opportunities in the metal.

Still, this lack of practical use does mean there are really no fundamentals to evaluate in gold. Decisions must be made based on technical factors and sentiment.

With that in mind, from a technical perspective gold is extremely uninspiring right now. If we take the SPDR Gold Trust ETF (GLD) as a proxy for the metal itself, we can see that it has been stuck in an approximate $115-to-$138 range since the middle of last year, and the fund is currently right in the middle of that range. It is hard to get enthusiastic about a trade idea until the GLD gets closer to either of those levels.

GLD -- Daily
Source: VectorVest

Incidentally, I understand that true gold bugs don't trust GLD. However, for most people this is the cheapest, most convenient way to play gold. In contrast to what I witnessed a few years ago, when the yellow metal was flying, I can now talk about the ETF without generating apoplectic responses in the comment section. That, in and of itself, is a positive sign for gold in my opinion. At the same time, it also would indicate that there are no strong sentiments to guide your decision.

This uninspiring, mid-range-bound dynamic may be true of gold. But silver, which is often lumped with it in many people's thoughts, is at a much more interesting level.

SLV -- Daily
Source: VectorVest

Once again, I'll refer to the most popular ETF -- in this case iShares Silver Trust (SLV) -- rather than futures or the physical metal. Looking at this fund, we see silver is close to some critical support levels. The SLV has tested and held above the $18.20 level three times in the last few months, and just below that is the 52-week low of $17.75. Regular readers, if such a thing exists, will know that I am not a big one for chart analysis. But significant support such as this can't be ignored.

The question, of course, remains: Will SLV bounce off of these levels once again, or will it crash through them? I believe the former is more likely because of one fundamental difference between gold and silver. Silver is not a Kardashian. It is useful, particularly in the manufacture of mobile electronic devices. The metal is often used as a bet on global growth or otherwise in addition to its roles as a store of wealth and a pretty shiny thing. It is that role as an industrial metal that makes another bounce back more likely than a collapse.

The global economy is not booming, but neither is it collapsing. Early earnings releases by multinational companies -- see Coca-Cola (KO) and Johnson & Johnson (JNJ) this morning -- indicate that things are not too bad. If demand is at least steady for silver as an industrial metal, this should provide for strong support close to where the price currently is after today's sharp drop. The technical signal this gives off should do the rest.

Of course, buying SLV around current levels would have the added advantage of offering a logical stop-loss level fairly close by. A simple stop to guard against a break below the support, say at around $17.60, would limit potential losses to around 6.25%. A bounce, meanwhile, would offer the possibility of a return to the October highs around $22 -- meaning a gain of 17.2% -- so the risk-reward ratio of the trade looks quite appealing.

It could be that the deleveraging of silver is still on. But, after three years and a 61% price drop, it's reasonable to assume that it is over at this point. If that is the case, then silver's "other" role as an industrial metal could well give prices the support that would lead to a change in sentiment and a rapid pop in price. Nothing is for sure, but given the risk-reward ratio of the trade, I would rather take that chance than attempt to guess gold's next move.

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