The Commodity Investor: Active Strategy Employing Silver ETFs Can Tame Metal’s Volatility

April 10, 2012

Hedged long positions on certain silver exchange-traded funds, and stop-loss orders can produce shiny returns in a turbulent market.



Silver has a reputation for being one of the most volatile assets in the commodities complex. In any given period, it’s not uncommon to see silver prices move 10 or 12 percent in a single trading session. In some quarters, prices can fluctuate 40 percent or more, as we saw in the second quarter of 2011.

Silver is so volatile that many market participants claim metal prices are being manipulated by external players. While it’s tough to justify or prove that, the aim of this column is to help you understand the fundamentals of the market and to develop the appropriate trading strategy.

Market Fundamentals

Silver is sometimes known as the schizophrenic metal because of its dual-use applications: It is used in industrial applications as well as for investment purposes. More than 65 percent of silver consumed each year is used for purposes such as industrial piping, engine construction and even in microchips for cameras. The remaining 35 percent is used by investors for trading purposes and as a store of value.

These different market demands may be responsible for silver’s highly erratic price moves. The market responds and is influenced by such different drivers that it’s no surprise we see somewhat regular volatility when it comes to silver. Unlike other metals, silver’s dual uses make it a trickier metal to trade.

For example, gold is primarily used for investment and jewelry purposes, so an analysis of these drivers can help us develop a trading strategy. Similarly, copper is an industrial metal that requires a simple analytic focus on industrial supply and demand.

Silver, on the other hand, has two uses, so we must develop a strategy that looks at two radically different market drivers; this creates an investment countercurrent that triggers volatility.

How To Manage Silver’s Volatility

The best way to invest in silver is to use an active-trading strategy that involves anticipating and picking the right entry and exit points. The price swings can be so violent and unexpected that it’s advisable to have stop-loss orders in place as well. While the strategy should be active, you can use several instruments to trade silver.

The most common silver ETF in the marketplace is the iShares Silver Trust (NYSEArca: SLV). SLV gives you the most basic exposure to physical silver prices determined on the spot market. SLV’s correlation to physical spot prices is 99.1 percent, so it’s a very good proxy for silver prices. My recommendation is to go long SLV, but to have a stop-loss in place just in case the market turns violent, so you can quickly limit your losses.


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