Dipping gold mine production is key to gold and silver’s long-term valuations

The gold price is testing resistance at $1,800 an ounce, trading at a fresh four-week high. Gold prices have pushed higher on the back of falling bond yields and growing recession fears, but one market analyst said that investors should also pay attention to the supply side of the market.

In a report published Tuesday, Erik Norland, executive director and senior economist at CME Group, said that falling mine supply in gold and silver should provide long-term support for prices as demand remains robust.

He noted that between 2016 and 2021, mining production in gold fell 7%. At the same time, the silver mine supply has dropped 8.5%.

“A reduction in new supplies may be part of the reason why precious metals prices rose over the last five years,” he said in the report.

Although investment demand can drive price volatility in the short term, Norland said it isn’t enough to support long-term bull markets.

“Movements in gold and silver prices are more often attributed exclusively to demand-side factors,” he said. “Our analysis suggests, however, that demand-side and supply-side factors combined to produce the decades-long bull and bear market and that neither side of the demand-supply equation was solely responsible for gold and silvers’ price movements.”

Norland said that his research also shows that gold and silver are sensitive to each other’s production levels. Silver prices have underperformed when gold production has risen and vice versa.

Looking ahead, Norland said that gold and silver production presents a mixed picture. He noted that both gold and silver miners are seeing massive revenues as prices are well above production costs. However, he also stated that production continues to fall and miners are struggling to replace the ounces in the ground.

Norland said that gold producers are, on average, seeing profit margins north of 60% and operating margins well over 125%. Silver producers are seeing profit margins of around 75%, even as silver prices underperform gold.

“…High current profit margins do not necessarily imply that we will see strong growth in the sector in the near future. Finally, even amid increased investment, there may not be a strong rebound in silver and gold production for many years given the time required to begin extracting ore from new mines,” he said in the report. “Thus, while there is little reason to anticipate cutbacks at the world’s mines, there is equally little reason to believe that today’s high prices will quickly translate into increased production of either metal.”