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Monday, October 13, 2008

Got Gold Report – Market Mayhem Continues, Silver Crushed-

Got Gold Report – Market Mayhem Continues, Silver Crushed

Got Gold Report – Market Mayhem Continues, Silver Crushed

By Gene Arensberg
12 Oct 2008 at 02:17 PM

ATLANTA ( --  A popular saying is that 'the end of the world doesn't happen very often,' but looking at the world's financial markets this week suggests that people are exceptionally fearful and acting like this is the end of the world as we know it.  Is it?  Has the world finally been thrust into an unrecoverable tailspin? Do we now head into the abyss of chaos and bedlam? 

That's possible, it's always possible, but it's doubtful.  We have seen similarly dire panics in the past (1873, 1901, 1907, 1929, 1931, 1974, 1987, 2000, 2001 and 2002 to name ten).  In each of the previous market panic events fear escalated to unreasonable levels.  Right up to when the panic ended.   

Haven't we always found a way out of crisis one way or another?  Yes, we always have.  Why should this economic terror event end differently? 

Sure, each panic event is different, but at some point the overwhelming fear peaks.  At least that's what occurred in all the previous examples of a panic market.  That's right, all of them.  

Panic sell-downs are usually followed by a wild, high-volatility rush back in by fortune-hunters and deep value investors seeking bargains.  Then short covering provides the fuel for a while as markets regain their courage and confidence sneaks back in.

Parabolic Capitulation Climax Likely   

Friday's trading on the Big Markets looked a lot like a capitulation climax, but it might have just been a trial run at one.  We won't know for sure until after the fact.  Some market sages say that selling climaxes rarely occur on a Friday.  They say that they usually occur on a Monday or a Tuesday.  Whatever, the entire universe of such events is measured in small numbers.  In my book there is a statistical one-in-five chance that a selling climax will occur on any trading day.

Capitulation climaxes are the opposite of parabolic advances.  Near vertical, very high percentage moves on charts in either direction, up or down, are almost always harshly and violently corrected once they run out of the fuel that is driving them, but only after they run out of that fuel. Once the vertical surge is exhausted, they also almost always see at least 25% of the final move reversed in very short time frames relatively speaking. 

Watch for it.  A selling crescendo may be getting underway very soon now that the crisis has been plastered on the cover of Time Magazine.  Interestingly, the article isn't as gloomy as one might expect from the prophets of doom.  

The world changes, the financial markets change, but the world of financial opportunity doesn't end.  The ongoing quest for profit through risk taking didn't end in those ten previous panics.  It probably won't end this time either.  The lower any publicly traded market goes before they capitulate in a blaze of selling terror, the better the opportunity for those who have the courage to check their emotion and step in with a part of their investment ammunition.

Real Value and Hard Assets

This report suspects that how we trade, how we invest and how we measure value in the world may be about to change in dramatic ways.  As one example, massive leverage and complicated risk mitigation derivatives based on Enron-esque statistical modeling have finally been unmasked as the gasoline-coated house of cards they always were. 

Real value is about to surface all over the world once again like it or not and ready or not.  Real value, not the 30:1 leverage-induced fantasy world that we have just left behind.   

The world may be about to change in ways we have never even considered and we can bet that well meaning but myopic legislators will over-fix and over-regulate trying to fix the mess they have given us.  But through it all one constant should (repeat should) surface as we move on through this incredibly tough time for investors everywhere.  That constant is that people will become more distrustful of paper and electronic money and put their trust more and more in hard assets as a place to store and maintain wealth.

There are no better hard assets than the two most popular precious metals, gold and silver.  Both have been relied upon as a store of value for at least four millennia.  Neither can be printed by fiat.

Unfortunately, at present there is not enough of the real metal to spread among all the individuals that want to own it.  How do we know that?  Because of all the "out of stock" notices on even the largest bullion outlets in the U.S., the U.K. and in Europe.  We know it because of the historic, extremely high premiums over the current spot pricing which all bullion items command right now whenever a bullion dealer does manage to obtain some inventory. 

While the margin masters, liquidating yesterday's major traders in the paper-futures markets and opportunistic short sellers have temporarily managed to skew the benchmark spot prices for both gold and silver to unreasonably low levels (relative to the actual intense demand in physical bullion markets), large and small holders of precious metals apparently sense that the spot prices are artificially low.  They aren't selling.  At least they aren't selling in large enough volume to lower the currently sky-high premiums for gold and silver or to put real metal into the inventories of bullion dealers.

What spectacular irony.  At the very time when investors want to buy physical gold and silver the most, the paper-contract markets (which affect the spot or cash market benchmarks) are being sold down to such ridiculously low levels that few want to sell any real physical metal unless they just have to or are forced to.  Meanwhile, the divergence in pricing between the physical bullion markets and what is still called "spot" that this report mentioned last time grows even wider.  

The year 2008 will very likely be remembered as this generation's great crash.  It is also very probably the best opportunity to come along since 1873, 1901, 1907, 1929, 1931, 1974, 1987, 2000, 2001 and 2002. We'll see.

The world is not going to stop using and needing stuff.  Companies that produce stuff are not going to quit producing it.  Companies that dig for and refine the stuff we use are still going to be digging for it and refining it. Right now the markets are acting like they won't.  The markets are panicked, they are irrational and they are dangerous, but, in the words of King Solomon, a phrase popularized by Abraham Lincoln, "and this too shall pass."    

Odds and Ends  

The gold:silver ratio (GSR) reached a 16-year high this week.  At one point on Friday one ounce of gold would buy 88 ounces of silver.  As of the Friday close it was 83 ounces of silver to one ounce of gold using Kitco closing figures. 

With the gold:silver ratio now back over 80 again, it would not be at all surprising to see a rush of gold-to-silver conversion in days and weeks to come.  About the only place that can occur in the U.S. is on the COMEX itself, because there are few, if any, other places where the metal can be traded in quantity at or near spot prices.  That's with the possible exception of the metal ETFs, but they do not offer the opportunity for most people to take delivery. 

As of Friday's close that means that roughly 12 Krugerrands would purchase a 1,000-ounce COMEX approved bar of three-nines fine silver.  About 60 K-rands is all that one would need to purchase one silver futures contract and take delivery of all 5,000 ounces of silver.   

As recently as July the ratio was below 50.  At a GSR of 50 it takes 20 K-rands (8 more ounces of gold) to buy a 1,000 ounce silver bar and 100 of the one-ounce gold coins (40 more) to buy a 5,000 ounce silver futures contract.  Using spot prices, silver is relatively cheaper in terms of gold than it has been for a very long time.

With that, let's look at a few indicators.   

Gold ETFs    

SPDR Gold Shares, [GLD], the largest gold exchange traded fund, reported adding another 30.69 tonnes over the past week, to a new record 770.64 tonnes of gold bars held by a custodian in London for the trust.  Since September 16, GLD has added 156.29 tonnes of gold metal to its holdings (about 5 million ounces). 

 Source for data SPDR Gold Trust

So that the price of each share of GLD tracks very closely with the price of 1/10 ounce of gold (less accumulated fees), authorized market participants (AMPs) have to add metal and increase the shares in the trading float when buying pressure strongly outstrips selling pressure. The reverse occurs when selling pressure overwhelms buying pressure. 

GLD traded in a wide range between $81.38 and $90.84 on much stronger than normal volume of 138,234,448 shares for the week just ended.  The large amount of metal added over this past week on high volume suggests that buying pressure very strongly overwhelmed selling pressure for the largest and most liquid gold ETF. 

Gold holdings for the U.K. equivalent to GLD, LyxOR Gold Bullion Securities Limited, increased 0.80 tonnes for the week, to 119.14 tonnes of gold held. Barclay's iShares COMEX Gold Trust [IAU] gold holdings added 2.6 tonnes, up to 65.59 tonnes of gold held for its investors. 

For the week ending Friday, 10/10, all of the gold ETFs sponsored by the World Gold Council showed a collective increase of 31.5 tonnes to their gold holdings to a record 928.38 tonnes worth $26.7 billion.

Despite all the liquidation pressure from critical condition and dying hedge and investment funds, clearly there has been much more buying than selling pressure in the world's gold ETFs over the past week. 

SLV Metal Holdings

Despite harsh, flight-to-cash selling pressure on the paper futures contract dominated spot cash silver market late week, metal holdings for Barclay's iShares Silver Trust [SLV], declined a miniscule 15.36 tonnes this week to show 6,834.14  tonnes of silver metal held for its investors by custodians in London.   

Source for data Barclay's iShares Silver Trust.

On balance we can conclude that the buying and selling pressure for SLV were more or less evenly matched as 51.4 million shares changed hands over the past week.

Gold COT Changes  

In the Tuesday 10/7 commitments of traders report (COT) for gold metal the COMEX large commercials (LCs) collective combined net short positions (LCNS) dropped 9,531 contracts or 6.77% from 140,838 to 131,307 contracts net short Tuesday to Tuesday as spot gold added $14.05 or 1.61% from $870.85 to $884.90.    

Gold versus the commercial net short positions as of the Tuesday COT cutoff:

Source for data CFTC for COT, cash market for gold.

The open interest for COMEX gold FELL another 7,118 contracts to just 329,480 lots open as of Tuesday 10/7.  We have to go back to October 31, 2006 to find a lower total open interest for gold futures contracts (323,481 then with gold at $605.70).  That is in part due to the now vacant trade desks of former investment banks which will no longer be players in the futures markets.

As mentioned in this report previously, the COMEX is now a significantly smaller market.  In fact, since July 15, when the total open interest for gold reached 483,920 contracts, the total open interest has fallen 154,440 lots or 31.91%.  During that same period, the amount of commercial net short positioning has fallen by 115,270 lots or 46.74% from 246,577 to 131,307 contracts net short.     

The chart below compares the COMEX commercial net short position with the total open interest (LCNS:TO). 

Source for data CFTC for COT, cash market for gold

Silver COT

As silver fell $0.44 COT reporting Tuesday to Tuesday (from $12.01 to $11.57 on the cash market), the large commercial COMEX silver traders (LCs) actually increased their collective net short positioning (LCNS) by 1,046 to 29,829 contracts of net short exposure, while the total open interest on the COMEX fell yet another 3,929 contracts to a very low 99,883 COMEX 5,000-ounce contracts.

Ironically, the COMEX largely influences the spot cash price of silver and even though this is a perilous time for financial markets, … a time when there ought to be furious safe haven demand for metals, the total open interest on the COMEX is 30% less than it was on July 15.  Indeed, on July 15 the open interest for silver on the COMEX was 143,386 contracts, 43,503 contracts higher with silver then trading at $18.91.     

The last time that the COMEX silver open interest registered below 100,000 contracts was August 1, 2006 (98,685) with silver then at $11.85.  For comparison, the total open interest has not fallen below 95,000 contracts since 2004.

Source for base data CFTC for LCNS, London Silver Fix for silver from LBMA until 2-26-08 then cash market

For context, the chart below compares the silver LCNS to the total number of open contracts on the COMEX, division of NYMEX.

Source for base data CFTC for LCNS, London Silver Fix for silver from LBMA until 2-26-08 then cash market

These are anything but normal times, but the low relative LCNS would normally be viewed as bullish for silver despite the increase in the LCNS on a drop in silver price.  However, there has been the equivalent of a 9.0 magnitude quake in the sphere of trading at the COMEX of late as funds have blown up and entire trading entities have left a vacuum.  That may take a while longer to sort out.

Eventually, however, it is a better than even odds bet that the futures markets will have to answer to the physical markets sooner or later.  Perhaps even sooner than some think if reported persistent rumors of higher than normal delivery notices for the December contract prove true.

Whether or not those 'take-delivery in December' rumors are accurate, the logic behind them makes perfect sense.  Buyers frustrated by the inability to source physical metal in quantity apparently turned to the only markets that are working off of the artificially low prices.  The futures markets and the metal ETFs, both of which deal in very large, average 1,000 ounce hunks of silver metal.

Got Gold Report Charts

End Notes

For whatever reasons the Market Gods have hit the global reset button.  Once the re-boot is done tremendous opportunities will be like very ripe, low-hanging fruit for the fortunate and the nimble.  Bear market rallies, especially those following panic plunges, are the most violent there are.  Even if they are short lived, they can cover a lot of chart real estate very fast.  Any new short positions, if any, should only be attempted with the tightest of new-trade trailers. 

It's time to quit listening to the doomsayers and the politicians that have been trying to undermine the confidence of all Americans for four years.  Despite the "victory" the left can now claim – they have succeeded in damaging confidence in America and in financial markets worldwide – over the long haul it is unwise to bet against the resilience and determination of Americans and American businesses.  Video evidence shows the collusion between Congress and Fannie Mae in the sub-prime lending mess: Fannie Mae CEO calling Obama and the Dems the "Family" and "Conscience" of Fannie Mae 

That's it for this offering of the Got Gold Report. Until next time, hopefully in about two weeks, as always, MIND YOUR STOPS.  


The above contains opinion and commentary of the author.  Each person should study the issues carefully and, as always, make their own informed decisions. Disclosure:  The author currently holds a long position in iShares Silver Trust, and holds various long positions in mining and exploration companies.   


© Copyright 2008, Resource Investor.

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