Will Precious Metal Premiums One Day Trump the Spot Price?

One of the curious characteristics of the retail precious metals market is the premium that retail investors need to pay in order to purchase silver or gold bullion coins for investment purposes. This premium consists of the extra price that an investor needs to pay over and above the intrinsic value of the metal contained within the coin evaluated at prevailing spot market prices.

The value of such investment grade bullion coins is typically related to the current market price for the metal, and fluctuates accordingly. Nevertheless, the additional premium is usually tacked on to a bullion coin’s purchase price to help account for coin minting costs and retailer markups. Another key factor behind the premium is the coin’s rarity relative to its investor demand, which varies according to the particular bullion coin involved.

Bullion Coin Demand Typically Rises When Spot Prices Fall

In general, lower spot precious metal prices tend to increase investor demand for bullion coins. In addition, greater demand for precious metals among retail investors usually means lower inventories of bullion coins among authorized retailers.

Each downturn in the precious metals market also removes more physical metal from the supply pool and places it into long term investors’ hands. This ultimately leads to less scrap metal and resold bullion coins flowing back into the available supply.

This constricting supply dynamic could also mean that fringe investors buying on dips could easily overwhelm the physical market in silver, leading to higher bullion coin premiums and a new retail price for physical investment grade silver relative to the spot price.

Such rising bullion coin premiums will not be advertised by the various mints that produce the coins or by their retailers. The phenomenon will also probably be ignored by most precious metal traders who focus primarily on the spot price. Furthermore, since retail demand for bullion coins is difficult to track accurately, many small purchases are never reported. 

Trading Paper Versus Physical in Precious Metals

Although coin dealers are not necessarily the best source for metal market sentiment, you could have a situation where bullish sentiment is prevailing among coin investors leading to a physical shortage.

The mainstream spot metal market could miss this activity entirely since they watch the paper metal price fluctuate instead of the physical metal price and the bullion coin premium. Eventually, the metals futures market might get wind of what is happening in the physical coin market, perhaps coming in late to purchase derivatives at the risk of being "Corzined" where they are left holding relatively worthless paper while physical prices soar.

This scenario could eventually lead the way for the physical metal market to reclaim the paper metal price or possibly even force a market split where the two markets are no longer effectively synched by arbitrageurs.

In the latter case, regardless of what is happening to paper metal prices at the COMEX or other precious metal exchanges, the retail public could see a dismal spot price, while the premiums for physical bullion coins and their prices could actually be skyrocketing.

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