Economics-I

Trends in the Market for Silver

Submitted by:
Chhavi Singhal
I.D. No. 2131
I Year B.A. LL.B. (Hons)

Submitted on: 7th August, 2014

Table of Contents INTRODUCTION 3 Chapter 1 – THE SILVER MARKET: GLOBAL DEMAND AND SUPPLY 4 A) GLOBAL DEMAND FOR SILVER 4 B) GLOBAL SUPPLY FOR SILVER 8 Chapter 2 – Indian silver market on the globe 10 Chapter 3: PRICE TRENDS 12 2005-2009: An overview 14 2010-11: The Highs 15 2012-13: The Lows 16 The Future 17 Conclusion 18 Bibliography 19 Books 19 Articles 19 Websites 19

INTRODUCTION

Silver is one of the most versatile metals available. In historical times it was used as a currency. Used as both an industrial metal and a hard asset, it plays double duty in the commodities market. It has also become an investment vehicle which provides a safe haven from the unpredictable stocks and bonds. Trading it and predicting its price is a careful balancing act between what consumers need and what the currency market demands.
The objective of the paper is to study the demand and supply mechanism for the silver market. Due to the dynamic nature of the market, the demand and supply forces keep changing due to various reasons; the author has tried to find the same. The author has further tried to study the implications of the demand and supply on the price trends.
The research and analysis primarily gives a broad description of the current trends in the market for silver. The paper examines only the spot prices and the study does not include future market.
The paper tries to examine how India is a part of the global market. After establishing a link between international and domestic silver market, the paper looks at the price trends beginning from 2005. The paper examines the reason for rise and fall of the prices and analyses the trends to predict how the prices can move in the future.

Chapter 1 – THE SILVER MARKET: GLOBAL DEMAND AND SUPPLY

Silver has been used for various purposes since thousands of years. It possesses interesting properties like strength, malleability, ductility, highest optical reflectivity and highest thermal and electrical conductivity. Owing to such unique properties, it has a number of applications in homes, technology and industries.
Like any other commodity, prices of silver are determined by demand and supply forces.
A) GLOBAL DEMAND FOR SILVER
What separates silver from other metals is the dual nature of its demand. Silver is not only used as an exchange commodity in bullion market but it also has a large demand in the industries. Silver metal is used in quite the array of devices and appliances, as well as in chemical processes. It is also used for ornaments and other silverware. Earlier the largest use of silver was in camera films. Due to its excellent chemical properties new uses of silver have plugged in the gap for films. It is widely used in electrical switches, computer motherboards and other upcoming technologies like photovoltaic cells for solar-power industry.
As seen in Fig. 1.1 the major demand for silver comes from the industries constituting approximately 50% of the total demand. Changing trends in demand can be understood by studying the factors affecting the demand.

Fig1.1
CHANGING TRENDS IN DEMAND
1. Industrial Appliances
Silver is an essential component of almost every industry. From non-corroding switches to batteries for televisions to submersibles unique elemental properties of silver not only make it suitable for a number of industrial applications but also limit the ability of industrial users to switch in favour of lower cost alternatives. The lack of substitute means lower price elasticity in the short run. However in the long run the industries will have to find substitutes if the price of silver increases. In recent years there has been great expansion in the global silver market due to silver’s use in technology. From its role as a conductor in nearly all of our appliances to its life-saving qualities in operating rooms around the world, the uses of silver in technology are numerous and extensive. The demand for silver in industries is expected to soar at a constant rate.
2. Photography
Silver plays in important role in film photography. The demand for silver in photography has been rapidly declining due to development of digital photography. The photographic market had hit its peak for silver demand (93,000,000 ounces when global consumption was 267,000,000 ounces). Since then the demand for photography has dropped down by a whopping 70%. Photographic film is still a consumer in the marketplace. The medical sector uses the film primarily for X-rays. However as the technology progresses, hospitals are expected to convert to digital methods.

Fig. 1.2
3. Jewellery
The demand for silver in jewellery has slightly increased over the past few years. Spike in prices of gold and growing demand for medium-priced jewellery have together led the jewellers to turn to silver as their medium of choice. Demand for silver jewellery is often influenced by gold prices. When the price of gold increases, price-sensitive consumers, who now cannot afford gold, turn towards silver. However, when the income of people increases, they again go back to gold as it is considered to be more precious. Competition for silver jewellery not only comes from other precious metals but also alternative avenues for customer expenditure such as branded luxury or technology. In addition there is an important role played by fashion and taste, which may change overtime in terms of e.g. preference for jewellery colour. Increased demand is likely to be seen in the young adult market which would be aided by promotion of branded silver jewellery.
4. Investment Market
Global financial institutions move their money around the stock market on a daily basis. These investments are highly speculative in nature and depend upon expectations. Silver being a hard asset provides an alternative to the other risky investment options. The investment in silver market depends upon the present price of the metal, existing interest rates and the expected movement in future. The demand is inversely proportional to the confidence of investors in debts and other securities.

B) GLOBAL SUPPLY FOR SILVER
The availability of silver is limited. The supply for silver comes from direct sources like mining as well as indirect sources like scrap metal recycling.

Fig. 1.3
1. Mine Production
Silver is rarely procured from native mines. Primarily it is obtained as a by-product of mine extraction of other metals like copper, zinc and gold. In the past few years the silver obtained from mines has been roughly increased by 4.4% principally as a result of increased production from mines in China, Mexico, and the Russian Federation, including increased recoveries from the mines in Russia and Kazakhstan, and Mexico’s Peñasquito Mine. The marginal increase from the native mines has been declining owing to higher production costs. Decrease in supply which leads to higher price may provide incentives to the miner to produce more but is difficult in the short run owing to capacity constraints. However in the longer run they may improve the technology required for extraction.

2. Silver Scrap
Scrap is the silver that returns to the market after recovering from manufactured goods. It includes jewellery, discarded computers etc. There has been a gain in the supply from industrial sources as higher metal prices and stricter environmental regulations have lifted the volumes recycled. There will probably be a further climb in jewellery and flatware recycling, however given the decrease in photographic demand for silver, which has brought about a decline in related silver recycling, scrap as a source supply is expected to stay the same.

Chapter 2 – Indian silver market on the globe

India hardly produces any silver of its own. Production of silver in India is very limited. In 2013, it accounted for only 1.5% of the total world production. However India is one of the largest importers of silver which provides it with a significant spot on the global platform. In India, silver supply comes 77.1 % from imports, 18.8 % from secondary silver and 2.5% from Hindustan Zinc. Hindalco too shares about 1.7% of market.

Fig. 1.4

As clearly seen from the figure, silver prices in India closely follow the global trend. There is no significant difference in the prices due to the potential for arbitrage. The possibility of arbitrage prevents silver prices in New York and Mumbai from differing and helps in creating a global market for silver where total demand and supply around the world determine the price of the white metal.
However fluctuations in the value of Rupee with respect to Dollar and government interventions like import duties create a marginal difference in the prices. Currently domestic prices are lesser than the international prices since Dollar is strongly strengthening against the Indian currency. Yet more relaxed gold duties and taxes are likely to slow down silver’s consumption as previously discussed a part of demand in India comes from the buyers switching from gold to silver.

Chapter 3: PRICE TRENDS

Like any other market commodity price of silver depends upon the demand and supply forces. Additionally it also depends upon various other factors such as investment sector which is largely speculative in nature and may move the prices, as opposed to demand and supply forces, solely based on expectations. The silver market is also affected by general economics dynamics. For instance when global economy performs well, it lowers the price of silver as people seek out for the riskier investment options. However since silver is recognised as an asset of tangible value the prices also depend on changing values of paper currencies, and fluctuations in deficits and interest rates.
Overall the prices depend upon the available supply versus fabrication demand. Over the past few years, the fabrication demand has considerably exceeded the production. As the production sources are declining, theoretically the fundamental value of silver is expected to strengthen. However, the value of silver is primarily determined by demand. The price of silver depends upon the global demand to hold and buy silver. The reason why the supply side does not play an important role is that production of silver through mining is fairly constant.
While the silver prices seem to be soaring, an analysis of inflation adjusted real prices provides a true picture of the trends in the market.

Table 1.1 Year | Nominal Prices of silver ( in INR , per kilogram) | Wholesale Price Index (2004-05 = 100) | Real Prices of silver (INR , per kilogram) | 2005-06 | 11,829 | 104.5 | 11,319.6 | 2006-07 | 19,057 | 111. | 17,106.8 | 2007-08 | 19,427 | 116.6 | 16,661.2 | 2008-09 | 21,272 | 126 | 16,882.5 | 2009-10 | 25,417 | 130.8 | 19,432 | 2010-11 | 37,215 | 143.3 | 25,970 | 2011-12 | 57,091 | 155.1 | 36,809.1 | 2012-13 | 57602.32 | 167.6 | 34368.9 | 2013-14 | 44794.79 | 177.6 | 25222.2 |

Fig. 1.5
2005-2009: An overview
It can be clearly observed from Fig. 1.5 that silver prices have soared a robust 227.8% in the past eight years. The prices increased by 10% in 2005 but it was the year 2006 with 51% increased which marked considerable increase in price. The reason for the strong surge in price was increased industrial demand which can be attributed to the introduction of Barcklay’s iShares Silver Trust Exchange Traded Fund (ETF) by iShares in April 2006. Increase in demand was accompanied by a decrease in supply as there was a steep drop in the output from Australia’s Cannington mine which is a leading primary mine supplier.
Silver prices slumped in 2007-2008 mainly due to a rapid deterioration of economy. While the prices continued to increase due the presence of investors on the demand side, the second half of 2008 witnessed the economic slowdown affecting the price of all the metals including silver. The global financial crisis affected the Chinese economy where the growth rate decreased from 13% to 9%. This in turn reduced silver’s demand from the Chinese industries by 18%.
Silver recovered for the lost ground in the first third of the year 2009. In 2009, not only there was an increase in industrial demand but also an increase in coin and medal fabrication. Much of the increase can be attributed to an increase in demand for silver Exchange Traded Funds and also physical retail investment. Strong gains in investments coupled with recovery in demand led to 53% intra year rise.

2010-11: The Highs
In the times of uncertainty regarding economic and political outlook precious metals are considered to be ‘safe haven investment’. The factors which contributed to the storm for prices were many, including highly fluctuating economy, unrest in the Middle East and constantly rising inflation in many parts of the world.
In 2010 silver prices recorded a remarkable 58% intra year increase. The surge stemmed from two key developments on the demand side of the equation, namely less liquid investment market for the metal and strong benefits from the 21% rebound in industrial fabrication.
Silver prices hit an all time high in the month of April 2011 due to political instability in the Middle East. The weaker economy led to an increase in the price of crude oil making the investors turn to silver as an investment substitute.
There is always a factor of uncertainty associated with the investment market. When a nation confronts war or recession, its economy is viewed as highly uncertain. Under normal conditions the firms predict the price trends but increasing uncertainty decreases the accuracy of such predictions. Investors move their funds away from unstable sources like stocks and invest in stable sources like precious metals and government bonds.
On the contrary whenever there is positive news the investors tend to take more risk and invest in riskier but more profitable equities market. This is exactly what happened in May 2011. After the news of encounter of Osama Bin Laden, the prices of silver dropped down by 12%.

This rise and fall of prices stabilised only by middle of November when support came from the signs that Chinese government was to move towards monetary easing.
2012-13: The Lows

Fig. 1.6
By the end of 2011, the price of silver had dropped below where it had closed the previous year. 2012 produced a rebound of sorts, with many analysts pointing to the beginning of the Federal Reserve's third round of quantitative easing as potentially pushing silver back up to $50. The slight increase in prices in the later part of the year was due to decline in the world economy caused by Syria’s civil crisis.
Since 2013 the price of silver has been continuously dwindling. Earlier in 2013 along with soaring sales at the U.S. Mint and Precious Metal ETFs the price of silver for some reason moved lower. At the same time the stock market also moved higher. Drop in the prices led to huge negative effects throughout the industry. Miners found their margins reduced. Major producers including Pan American Silver and Hecla Mining lost their revenues. The decrease in the prices was mainly due to the easing of geo-political tension between Russia and the West over Crimean peninsula.The stabilising world economy has made the investors’ focus shift from the precious metal market to more promising stocks and other securities.
The Future
The unique selling point of silver is that it is a monetary as well as industrial metal. At present silver is in free fall but the global demand of the white metal from the emerging markets like China and India will not stop. With its newfound uses in nanotechnology like water purification and even medicine the ever increasing demand coupled with finite supply will cause the prices of silver to rise. Also speculators play a large role in determining the price of silver apart from commercial or industrial demand. If a sentiment among investors is that silver will go up soon, a flurry of buying will cause the price of silver to go up, in accordance with expectations, hence creating an artificial demand, or bubble for silver prices. Prediction of prices can be very difficult due to its present roller coaster ride yet in the longer run price of silver will continue to follow its historical path and will rise in spite of the current fluctuations.

Conclusion

In this paper it is observed that silver market is distinctive owing to its characterized trends. The demand and supply are susceptive to the changes which have taken place in the economy. The change is due to fall in the demand from photography sector and a huge increase from the industries due to advancement in technology which has taken place overtime. The supply from the mines has been marginally reduced but it has increased from the recycled scrap coming from jewellery and silverware. Overall supply has however remained fairly constant.
After demonstrating that due to the possibility of arbitrage the prices in India closely follow the global trends and hence India is an integral part of the international market, the paper has studied the price trends. Over the years the price trends have not only changed due to change in basic demand and supply forces but also depend a lot on the global economic scenario. The change took place due to introduction of silver exchange traded funding and unrest and inflation around different parts of the world. The silver market closely follows the geo-political changes taking place around the world. It is observed that whenever any international news leads to uncertainty in the economy, the investors shift their investments towards silver.
The paper concludes itself by hypothesising the future prospects based on the existing trends and then establishing that in the longer run the prices will continue surging subject to uncertain changes in the economy.

Bibliography
Books
1) Robert S. Pindyck, “Microeconomics”, (7th edn. 2012).
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Websites 1) www.rbi.org.in 2) www.silverinstitue.org 3) www.minerals.usgs.gov

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