Silver Rallies Despite Its Fundamental Frailty

How much longer will sentiment keep the white metal uplifted?

After earnings pessimism threatened to capsize the S&P 500 on Jan. 25, the intraday reversal coincided with similar volatility for silver. But, with the medium-term fundamentals still highly bullish for the FFR, real yields and the USD Index, there should be plenty of downside for the white metal in the months ahead.

For example, S&P Global released its U.S. Composite PMI on Jan. 24. The headline index increased from 45 in December to 46.6 in January. An excerpt read:

“Greater wage costs and further increases in supplier prices drove up cost burdens during January. The rate of input price inflation gathered pace and was sharper than that seen in the previous survey period. A steeper rise in costs was not reflected in output prices, however, as the pace of charge inflation matched that seen in December 2022.”

So, with MoM input inflation on the rise and wages still highly problematic (like we warned), the up-and-down nature of inflation continues to follow the historical script; and while output inflation didn’t rise at the same pace in January, it’s likely only a matter of time before businesses raise their prices to protect their profit margins. In essence, they should repeat the same tactics they employed in 2021 and 2022.

The report added:

“U.S. firms recorded a marginal rise in employment at the start of 2023. The rate
of job creation was one of the softest in the current sequence of employment growth that began in July 2020. The upturn in workforce numbers was driven by service providers, as manufacturers registered a fractional contraction in staffing levels. Firms continued to mention efforts to build employee numbers, especially in roles with long-held vacancies.”

Thus, while “a marginal rise in employment” may seem immaterial, please remember that the Fed needs the unemployment rate to rise to cool wage and output inflation. Instead, wage growth persists, and U.S. companies are still adding workers.

As a result, the fundamentals continue to unfold as expected. Chris Williamson, Chief Business Economist at S&P Global Market Intelligence, said:

In addition, the Philadelphia Fed released its Manufacturing Business Outlook Survey on Jan. 19. The headline index increased from -13.7 in December to -8.9 in January. An excerpt read:

“The firms reported increases in employment, and the employment index improved from -0.9 in December to 10.9 this month. The majority of responding firms (65 percent) reported steady employment levels, and the share reporting increases (22 percent) exceeded the share reporting decreases (11 percent). The average workweek index also turned positive, rising from -6.6 to 4.0.”

Likewise, the Richmond Fed released its Fifth District Survey of Service Sector Activity on Jan. 24. The headline index increased from -12 in December to -6 in January, and an excerpt read:

“A larger share of firms reported increased hiring in January, with the employment index rising from -2 to 9. Nonetheless, firms’ ability to find workers with the necessary skills saw little improvement as the index remained unchanged at -10 in January. Firms continued to increase wages and expect further wage increases in the near term.”

Consequently, wage and output inflation remain highly elevated across the Richmond service sector.

Please see below:

On top of that, while the quote from the Philadelphia Fed above covers the manufacturing sector, its service sector companies are also increasing their headcount.

Please see below:

To explain, the red and blue lines above show that service sector employment levels in Philadelphia and Richmond hit eight and four-month highs in January. As a result, while it may sound like a broken record, the fundamentals support higher, not lower, interest rates.  

Overall, silver continues to consolidate, as $24 remains resistance, but the absence of fear keeps the price from moving materially lower. However, the economic data remains profoundly hawkish, and new lows should confront silver before this bear market ends. As such, while we remain bullish on the PMs’ long-term prospects, caution is warranted in the months ahead.

What is your interpretation of the U.S. economy? Despite repeated recession calls, why won’t growth and the labor market collapse? Will the strength keep the Fed from cutting interest rates?

Alex Demolitor
Precious Metals Strategist