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(Kitco News) - Total silver supply should rise to over 1 billion ounces this year for the first time in history, as mine output continues to grow in response to strong margins for producers, said a New York-based commodities consulting group.

The CPM Group said investment demand for silver will remain historically high, but down slightly from last year’s level as investors become more price-sensitive in their silver purchases. Fabrication demand for silver is seen rising over last year, driven by use in electronic devices.

SUPPLY

Total silver supply in 2012 is forecast to reach 1.01 billion ounces, which will be the first time total annual silver supply reaches over a billion, if realized, CPM Group forecast. The projected increase is forecast to come nearly exclusively from higher mine output, which is seen at 729.0 million ounces, with secondary supply seen at 279.8 million.

Total refined market economy silver supply rose to 995.1 million ounces in 2011, up 22.6 million ounces or 2.3% from 2010. Of that, mine supply was 713.6 million ounces, up 4%, the first time mine output surpassed 700 million ounces. Roughly 80% of the net increase in primary silver mines came from four new mines that started production last year:

Fortuna Silver’s San Jose in Mexico, Alcyone Resources’ Twin Hill in Australia, Mandalay Resources’ Cerro Bayo in Chile and Alexco Resource Corp’s Keno Hill in Australia.

Mexico remains the top producer of silver, with an 18.8% rise in output, to 152.8 million ounces in 2011.

Secondary supply of silver fell to 277.1 million ounces, down 1.2% from 2010. While it is down from last year’s levels, the secondary supply remains historically high.

Cash costs at primary silver mines were $8.28 in 2011, while the annual average price of silver was $35.29. Although cash costs rose 40.6% from 2010 to 2011, on an annual average basis, primary miners are still making a $27 margin.

INVESTMENT DEMAND

Investor demand for silver should remain historically high, but investors are becoming more price-sensitive when making purchases. For 2012, investors are expected to buy 131.7 million ounces of silver, down slightly from the estimated 133.2 million bought in 2011. The estimate of 131.7 million would be the fifth highest level of annual net additions to annual investment demand and follows six consecutive years of net additions to investor holdings.

“Many of the economic problems that took center stage during 2011, such as the European debt crisis and the U.S. debt and deficit issues, are still in play and are expected to take several years if not decades to be resolved. Investors are aware of this and are concerned about the value of the U.S. dollar and euro going forward,” they said.

In 2011, there was 565.4 million ounces of silver backing exchange-traded funds, down 26.5 million ounces on a net basis from 2010. Coin sales were estimated at 88.2 million ounces in 2011, up 7% versus 2010. U.S. Silver Eagle coins accounted for 45% of total coin demand in 2011.

CPM Group expects buyers to be more choosey in their purchases, judging by the reduction in the premia on silver coins sold by the U.S. Mint as prices rose in the first two months of the year. The trend was the same for exchange-traded funds. Sales of U.S. Silver Eagle coins to dealers were 18.4% lower in the first quarter of 2012.

Because of the price sensitivity, “investors are expected to jump in as buyers of silver during periods of price weakness, given the high level of investor interest in the metal, providing support to both the price and investment demand for silver,” they said.

Silver remains a portfolio diversifier and a safe haven asset which will make it attractive to investors, CPM Group said, “but they are not expected to chase silver prices higher the way they did in early 2011.”

Although investment demand for silver has grown, the metal remains a very small portion of total global financial assets, at 0.011%. This is much higher than the 0.006% held in total global financial assets in 2010, but under 1995’s level of 0.015%. By comparison, silver also competes with gold for investors, but even gold accounts for a small part of total global financial assets. In 2011 gold accounted for only 0.84% of global financial assets.

FABRICATION DEMAND

Silver fabrication demand in 2012 is expected to rise to 879.1 million ounces, a 2% rise over 2011’s 861.9 million. The main growth-driver is expected to be use in electronics, which should offset losses expected from the solar panel industry and photography.

Jewelry demand, the largest source of fabrication demand, is seen rising to 296.1 million ounces, up from 2011’s 290.9 million ounces. “Higher and still rising gold prices were positive for silver jewelry demand during this period. Silver jewelry, although it is not an absolute substitute for gold jewelry, especially in developing countries, to some extent served as a partial substitute last year,” they said.

The electronic sector silver usage rose 4.3% in 2011 to 221.8 million ounces and is expected to increase by 12.5 million ounces in 2012. “Aggressive price developments in light-emitting diode technologies, which use silver, have been boosting demand for silver in recent years and are expected to continue to boost demand in the future,” they said.

Demand for silver in solar panel use rose to 59.8 million ounces in 2011, up 11.2 million ounces from the year prior. The bulk of the demand came from China – around 29 million ounces – to use in the panels. Demand for silver in panels is seen falling to 57.5 million in 2012 as demand for new solar panels in Europe falls and from supply overhang from excess output in China.

The photography sector continues to see declines in silver usage, which fell to 102.6 million ounces in 2011, from 110.9 million in 2010. Another 5.8 million ounces are expected to be lost in 2012. Because this has been ongoing for 12 years, the negative impact of the drop is being felt less by the silver market, CPM Group said.

By Debbie Carlson of Kitco News dcarlson@kitco.com

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