Update 2: Is There Danger?
[I have been struggling with the Wordpress software and server all day, not being able to post except for what you've seen. Finally it looks like I've figured out something that works. So, here is the second part of the post that was originally meant to go with the update on "Is There Danger?" posted earlier today.]
Okay, let’s get back to ‘reality’. Fortunately for silver, if it weren’t for its monetary affinity to the Midas metal, it too might have been in meltdown mode on this wild day because industrial users were likely offloading it along with every other metal, commodity and hard asset. Both the investment and business world are back in liquidity and liquidation mode. Industrial users do not differentiate silver as a monetary metal, it is purely business to them. They will not stockpile silver - even if prices are soaring - as long as the future business climate looks horrid. And while investment demand may be incredibly strong and could overwhelm any shortfall in industrial demand, that is not yet demonstrably the case.
If and when investment demand does overwhelm the silver market (specifically the wholesale market in the same manner as the retail market), watch out! Under the right circumstances, silver prices could easily double in just a few days. Back in the Spring of 2007, I believed we were actually pretty close to that happening (because I saw the possibility of investment demand overwhelming the wholesale market), but the incipient demand fell apart by the early summer. My sense this time is that it could take as little as 25-50 million ounces of net investment demand (between ETFs and private buyers) to overwhelm the wholesale market. That might seem like a lot, but it is actually tiny: less than $1 billion at current silver prices. For comparison purposes, let me point out that the U.S. Treasury securities market likely had a volume of tens, if not hundreds, of billions of dollars today. In other words, the silver market could not withstand as little as 1% of a single day’s worth of safe haven buying of U.S. Treasuries without a substantial price rise. Indeed, even just a minor re-allocation of gold safe haven buying to silver could have a tremendous effect on investment demand for silver.
Before we get carried away, however, let me point out that none of this is a given. In truth, there is simply no way to determine which way the axe will swing next or where it will strike. The situation in the markets is extremely fluid because the failure to pass the $700 billion bailout package — or any package — has created a huge crisis of confidence. Until some semblance of order is restored, the markets will continue to be very wild and it would be risky to take large position bets, much less leveraged ones. My only positions in the silver/gold markets right now are bullion, some options, and gold/silver mining companies (many of them held with some regrets).
My primary short-term outlook with respect to the construction of my silver/gold investment portfolio is that silver tends to lag gold in the early phases of a PM run, only to catch up in a spectacular fashion as the rally starts to peak. I’ve kept a few call options in gold over the past several months and have started to take profits off the table during the recent run up. I am now thinking about switching some of my remaining December gold call options to silver. Should the financial system continue to unwind?in the manner?it has over the past few days, there might be some good risk-reward in the December 2008 $16 to $20 strikes.
Now, please allow me to address the claim that it is silly to speculate on options (or other ‘fiat’ investment vehicles) because there will be a market default, especially if the dollar collapses, and I’ll never get paid even if I win big. And if I do get paid, it will be with vastly depreciated dollars. Well, I have a simple if (purposefully) naive answer: I have a mortgage on my house denominated in dollars, and I would be more than happy if my option speculation were to “merely” pay off that mortgage regardless of how depreciated the dollars will be. Perhaps you’ve heard of the Texas hedge (buying long futures on cattle to hedge the price on a herd headed for market)? Well, I call this the California hedge (carrying mortgage debt with the expectation that it could be paid off by holding appropriate investments during a bout with deflation and hyperinflation). Of course it is risky–a true deflation could result in all assets including gold and silver losing value relative to the fiat dollar–but it is a calculated risk: (1) I’m still relatively young; (2) I have some expertise in corporate bankruptcy, which presumably would be in demand during a deflationary period, hopefully keeping me gainfully employed and able to make mortgage payments; (3) I have copper put options; and most importantly (4) I have a position in physical gold and silver. Unless you are in a similar situation, the California hedge might not be appropriate for you.
Speaking of copper put options, they are finally coming into their own. Copper fell about 20 cents today and is now sitting right on support at the Nov-Dec 2007 lows. If this fails, the next stop will be the $2.40-$2.50 area marked by the early 2007 lows. Below that there is nothing until about $1.50. It might be worth noting that copper is the last metal–other than gold (and aluminum, which ‘only’ gained 100% or so during the bull market)–that has not yet suffered a 50% or greater drop from the peak. My expectation is that a “matching performance” could come in a big hurry, if it comes. That would mean copper declining to somewhere around $1.50 - $2.00. One of the few attractive things about the copper put option on the COMEX is that each dollar move in copper translates to $25,000 per option. Not so attractive is the fact that COMEX copper is a very thin market. For example, I personally hold over 10% of the options in March 2009 COMEX copper (the second most active month) and about 2% in December 2008 (the most active month). Of course, that is easy to do when the total number of options outstanding can be counted out using fingers and toes. I just hope that the Ted Butler-equivalent in copper doesn’t come after me for short manipulation!
JPM, the BIG Short, is up 10% today, SLV down big. The CTFC is going to tell us JPM is not manipulating the POS, yet there is concrete evidence they they have been, and still are.
The Fed is feeding JPM free money, and JPM is manipulating the POS, which helps strengthen the $, and makes the Fed look less powerless and ignorant.
Write letters to Obama, McCain, your 2 senators, and your congressman. Tell them you know what’s going on, and you want it stopped because it’s illegal. They will listen right now, more than ever. Tell them if they make a specific promises to stop the manipulative short positions, and the naked shorting, they can earn your vote!
So are we basically facing either deflation or hyperinflation? All I hear about is how we’re heading towards deflation, which if you look at any leveraged asset is hard to deny. But as debt is monetized, how can inflationary forces be restrained?
tom,
Be careful with copper. The COT shows very high levels of speculative short positions and commercial long positions, and high short positions for the general public traders. This is a set up for the bottom in copper prices.
Also, at some point the Chinese will buy up all the copper they can get if the price gets low enough.
bottom line: I doubt you will see $2.00/lb copper.
Tom : the deflation threat is real now and there seems to be no-where to hide. Cash is the place to be now. volatility in all asset classes will rise. i keep an eye on dollar index 80. that remains the key resistance. if that is taken for good, expect the dam to break especially for commodities.
having said that the US Govt has not exhausted all its bullets as yet. Interest rates could fall. SWF could come into action. The big shorts could become the big longs. Opec could try to rig the oil market after the US elections. the list could continue. And the biggest one could be - WAR.
Cartel in action again: plunge today right after COMEX close.
eddy sharpe: Please don’t worry about me, I’m up more than 500% so far and have taken the initial investment off the table. The COMEX copper market is so thin that it is really irrelevant in the scheme of things. Even the LME has seen a decline in market share over the years. So where is all the copper being held/traded? In the OTC market. As for the Chinese, they haven’t stepped in to buy lead, zinc or nickel despite much lower prices and greater relative demand for these metals compared to copper. One strike against copper that the other metals don’t face is the ability to substitute copper in many of its uses, especially given the way the Chinese use copper. [As a sidenote, let me mention that the Chinese might be able to fund a stimulus package consisting of infrastructure projects by simply drawing down existing copper stocks]. I personally believe the Chinese have amassed several million tons of copper in private warehouses over the years and they have no need for further inventory buildup. This is higher than most industry analysts calculate, but many still believe there is substantial stockpiling nevertheless. See here for example: http://rusmet.com/news.php?id=14096. Then there is the question of exactly how much copper China uses in its own infrastructure vs. copper that is incorporated in goods manufactured for export. Clearly the latter would be impacted by a global slowdown even if China forges ahead. Also, my studies suggest copper is actually used within China for infrastructure and building in “opportunistic” fashion that is not at all standardized and can easily be substituted. For example, most residential wiring in the U.S. is copper because most construction is single family homes. In China, however, most construction is multi-family or combined office/industrial use where aluminum is more likely to be used especially for branch lines to individual units. In addition, aluminum is already the primary metal used for power distribution and in many cases for main electrical distribution lines within buildings, while copper does not appear to be in widespread use for water pipes. That leaves electrical components as the most durable source of demand (with a large portion of that being motor and generator parts and windings). Yet China’s share of that market in terms of total worldwide copper demand is under 15% (less than 2 million tons per year). In conclusion, I believe copper is a growth story only with respect to about 2 million tons whereas the other 15 million tons of demand is currently in decline.
The “cartel” now has a name, JPM and Barclays. That’s the whole gang of 2. It makes you realize how unfair the manipulation is, when you see how few benefit.
Tom, sounds like you’re arguing for deflation.
mark: See my post from a few weeks ago where I identified JPM as the primary U.S. bank involved in the gold and silver markets, which would make JPM the bank most likely to be the one holding those large COMEX short positions in gold and silver right before the big drop.