Silver: Still Seeing The Forest for The Trees

By: Erik Swarts | Wed, Jun 4, 2014
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Silver: Still Seeing The Forest for The Trees

Rightfully so, short-term traders are taught to not question why an asset is trading higher, lower or sideways. In their narrowed perspective, it's often a fools game in questioning the impetus for a move and the difference between successfully managing risk and not. While there are endless and convenient causations to consider, the reality is that over a short enough timeframe the leaves and the trees will flutter and bend with all the uniqueness and random shutterings, as witnessed out your bedroom window and front door this evening. Simply put, their job is to watch the trees - not the forest.

We try to keep a foot in both worlds but primarily focus on the bigger picture, because our timeframes and expectation horizons are much longer. In Grahamian logic, we use charts and our variant take on technical analysis as more of a weighing than voting machine. In our experience, this methodology provides considerable insight and intuition by contrasting the weight and disposition of a market (uniqueness and all) against the historical context that defines it.

In our last note (see Here), we discussed the inter-market backdrop that has worked against precious metals since last year and why we still believe the market will resolve higher. Today, we wanted to take a broader look at the retracement level that silver has come back to twice since making a low last summer and place that level into greater historical context with respect to positioning and pattern.

As much as the bears have pressed their positions over the past year, silver so far has been able to maintain a bid above the lows from last June. It is our opinion that with short positions becoming stretched at another extreme - while silver's underlying technicals and momentum signatures present significant positive divergences from last summers low (see red box below) - an explosive resolution higher still appears more likely here than not.

Silver Weekly Chart
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Silver Chart
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Taking a forensic long-term view of silver and the level it currently resides at, we can see that after QE2 was enacted, the market made a b-line higher and attempted to break above its over 30 year highs - just as disinflationary forces began converging and blowing through the system. As the sector's most volatile cousin, silver subsequently failed violently above the 1980 high and maintained downside momentum as inflation expectations broadly turned lower.

Last June, the market found its footings at the Bernanke pre-game tailgate level to QE2 in late August 2010. This level was also where the market in 1979 began its final exhaustive gap that completed the parabolic run for silver.

Silver Weekly/Monthly Chart
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Not surprisingly, the closest long-term pattern to silver is gold. The exception being, gold has already successfully completed traversing the historic exhaustion gap range from 1979/1980 and has traded above that level since December 2008. With respect to what we know about inflation over the past several years - or even over the past 30, it makes sense that from a very long-term perspective gold has predominantly outperformed silver.

It was the initial cracks of the financial crisis itself that lit the long fuse in gold, the effects of which broke the long-term highs from early 1980 in December 2007. Within less than a year, the strong deflationary winds that extended out from the financial crisis - circled and brought gold back to the top of the exhaustive gap range from 1980. With sentiment and structure in tatters, the market turned higher out of the Q4 2008 crisis lows and completed what pattern traders would refer to as a very large - but classic-cup-with handle continuation formation.

Tangentially, from a comparative perspective the current market has shunned gold to such a degree that holdings in the world's largest exchange-traded products are at their lowest levels since December 2008 (see Here).

Gold Weekly/Monthly Chart
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Once silver and gold complete the balanced proportions of their respective retracement patterns, we expect silver will grab the performance baton and lead the breakout turn higher. How far it gets in challenging the 2011 highs will be dependent upon the nature of inflation within the system. Over the near to intermediate timeframes, that potential looks significant.

Silver Daily Chart
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Gold Daily Chart
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Erik Swarts

Author: Erik Swarts

Erik Swarts
Market Anthropology

Although I am an active trader, I have always taken a broad perspective when approaching the markets. I respect the Big Picture and attempt to place each piece of information within its appropriate context and timeframe. I have found that without this approach, there is very little understanding of ones expectations in the market and an endless potential for risk.

I am not a stock picker - but trade the broader market itself in varying timeframes. I want to know which way the prevailing wind is blowing, where the doldrums can be expected and where the shoals will likely rise. I will not claim to know which vessel is the fastest or most comfortable for passage - but I can read the charts and know the risks.

I am not a salesperson for the market and its many wares. I observe it, contextualize its moving parts - both visible and discrete - and interpret.

I practice Market Anthropology - Welcome to my notes.

Erik Swarts is not a registered investment advisor. Under no circumstances should any content be used or interpreted as a recommendation for any investment, trade or approach to the markets. Trading and investing can be hazardous to your wealth. Any investment decisions must in all cases be made by the reader or by his or her registered investment advisor. This is strictly for educational and informational purposes only. All opinions expressed by Mr. Swarts are subject to change without notice, and the reader should always obtain current information and perform their own due diligence before making any investment or trading decision.

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