ATLANTA (ResourceInvestor.com) -- In this report we take a look at the usual list of gold market indicators, but we also have a special segment looking at some aspects of the silver futures markets. Specifically whether or not the current commercial net short position on the COMEX is out of bounds.
All We Have to Fear (With a Capital "F")
A great deal of fear exists in global equity markets at the moment. A rush out of equities and into cash/gold/silver/safety continued in the two weeks since the last . That's good for things like gold, silver and the U.S. dollar and not so good for things like most stocks and real estate. When fear rules liquidity floods away from risk and into safety. That's one reason gold is advancing against all the world's fiat currencies, fast. That's likely to continue too, but not forever and not in straight lines.
Of course that just means more opportunity for those with the intestinal fortitude to take advantage of the inevitable imbalances and overreactions (mostly) free markets provide resource investors. Right now is a great example of just such an opportunity setting up in the legions of small resource companies that have been ironically hammered over the past few months even as precious metals are cutting new highs. Flight to cash/safety is also the main reason that even the bigger mining stocks have not answered the metals with their usual upside leverage, a temporary if indefinite condition. Please see a bit more on the subject in the Gold Indexes section below.
The past two weeks have also seen a return of positive money flow (more wealth entering than leaving) into gold exchange traded funds, but perhaps less than one might expect under the extreme volatility circumstances present in global equity markets. See the Gold ETF section below for the details.
Perhaps the most interesting action this week is the positioning of the largest of the largest gold futures traders. As gold moved lower at the beginning of the week it hit a reinforced concrete floor in the $880s and bottomed precisely on the weekly cutoff date for the commitments of traders reports (COT). Please see the details in the COT Changes section below, but the upshot is that the collective combined net short position of traders classed as commercial (the LCNS) has so far not shown a telltale bearish spike higher. Not yet.
We keep caution flags flying for short-term traders, but no change to long-term positions.
Repeating from the last Got Gold Report : "Global flight to cash out of equities and Big Market bear fear probably trumps greed for most equity markets for a while longer, but nothing has shaken the long-term bullish underlying fundamentals for both gold and silver. While gold mining shares continue to underwhelm, that is very likely more indicative of general equity market weakness instead of a more sinister non-confirmation of the bull market for gold metal.
Virtually all short positions are off side, so further advances, if any, could be very dramatic. (Especially for silver.)
On the other hand we have to note that the large, well funded and presumably well informed COMEX commercial traders are once again net short in near record proportions (nominally, but not percentage wise), gold is once again in the rarified air 24% above its popular 200-day moving average (it still is) ... We have reached the point where further advances could be legendary, with the gold market literally one hair trigger away from a runaway short killing breakout, but also where a correction has grown much more likely. Short-term traders: Fasten your seatbelts, but mind your stops well. Long-term investors: Continue to enjoy the fishing trip or vacation and keep stops normal for now."
About COMEX Silver Futures
Judging by vigorous and determined email traffic lately a number of resource investors believe some kind of extraordinary short squeeze is possible (some even say likely) in the global silver market apparently due to the very popular perception that U.S. silver futures markets are out of whack on the short side.
Silver closing at $17-plus for the first time since Ronald Reagan's first year as president has to be uncomfortable for the large traders betting on lower silver prices. But just how uncomfortable is it so far and are the silver futures markets all a kilter?
Well, taking a look at the figures from the largest U.S. silver futures market, the COMEX division of NYMEX in New York, as of the latest report issued by the Commodities Futures Trading Commission (CFTC) for February 5, the largest of the largest short sellers of silver, those classed by the CFTC as "commercial," had a collective combined net short position in silver futures of 70,099 contracts out of a total open interest for all traders of 184,677 contracts, each covering 5,000 ounces of metal.
So, as of Tuesday 2/5 the traders classed as "commercial" were net short futures contracts covering 350,495,000 ounces of silver and their net short position was about 37.9% of all contracts open. Strictly for comparison that's well under the recent record commercial net short percentage set on February 27, 2007 (last year) when the commercials then held a net short position of 73,053 out of a total 125,249 contracts or a bone chilling 58.3%. (Not incidentally that was just before a 16% plunge lower for silver metal.)
Before we go any further is 350.5 million ounces a lot? Yes and no. That's just under 11,000 tonnes of silver, about $6 billion worth as measured in the U.S. version of fiat currency, so it's not an insignificant amount per se. However, looking at it from a global total silver market perspective it really isn't all that big.
Consider that in December about 119.1 million ounces of silver changed hands daily at the London Bullion Market Association (LBMA). In other words the commercial net short position on the COMEX on February 5, 2008 represents about three days worth of LBMA silver action. The LBMA is the largest, but only one of many bourses and metals clearing houses large and small on the planet. For comparison the entire 2/5 COMEX open interest of 184,677 contracts, all the contracts for all delivery months, represents about 8 days worth of clearing at the LBMA. So compared to the total global market for silver the silver LCNS is not such a big number, is it?
The complexion of the futures market is constantly changing as traders close old positions and open new ones. The average life of a futures contract is measured in days or weeks, so the average delivery price of all contracts is a constantly moving target. In addition due to contango contracts for later delivery are at higher prices than near delivery so the average contract price could be higher than the current cash price. Having said that, a big percentage of the action and the largest open interests on the COMEX are confined to the near active contract (in this case March '08) and in the year immediately ahead where contango is minimal.
Over the past two months (when most of the highly leveraged contracts net short today were layered in or rolled into) the price of silver has traded as low as the $13.70s and as high as the $17.30s.
Who knows what the average exposure really is but for this back-of-envelope calculation let's say the average contract strike or delivery price is about mid way or for ease of arithmetic about $15.50 (it's actually probably higher). If true then when silver hit $17 then the commercial net short position was something like $526 million underwater (350,495,000 X $1.50 avg.).
With a net short position of 70,099 contracts (it is also constantly changing) the collective pain that registers to the now significantly net short commercials is about $87.7 million for each $0.25 increase in the U.S. dollar price of silver. $350 million per dollar move. However, as the price escalates some underwater short positions are being closed out at the same time new ones are being opened, so the average delivery price is also moving higher.
As of the last COT report the four largest of the largest short sellers had about 31.8% of the reported net positions. If we say 31.8% of the 184,677 COMEX open interest is currently held by the four largest traders then their exposure is something like 293,636,430 ounces (about 9,133 metric tonnes). Assuming they don't change their position for a whole day, for each $1.00 advance in the price of silver they collectively feel the pain of about $293.6 million (spread over four well funded firms). That is unless of course they are hedged with corresponding options, outside contracts in other markets or have otherwise hedged their bets elsewhere (which they probably do).
These may sound like big numbers, but in the context of global finance and in comparison to other markets it's part of the business for the large, well funded and very experienced traders with the distinction of being one of the four largest of the 32 traders on the COMEX that are classed as commercial and held short silver futures positions as of Tuesday 2/5.
Yes, the COMEX commercials are strongly net short silver futures (they usually are near highs for the metal) and they are definitely underwater. Further advances in the price of silver could indeed ignite a short covering surge, maybe even a big surge, but unless silver were to suddenly shoot to the stratosphere 1980 style (as in consecutive limit up days for a week for example) the exposure to the large, well capitalized companies that have taken the short side doesn't seem all that huge when compared to the $15.8 billion in notional value represented by all of the COMEX open contracts or the 119 million ounces that changes hands each day at the LBMA (about 2.5 billion ounces changed hands in the month of December).
The current condition at the COMEX is not out of the ordinary in this report's opinion and the current constantly changing commercial net short position percentage to total open interest at 37.9% isn't really all that exciting, yet, but some readers still seem concerned that it is so we'll keep looking at it closely and reporting our findings here.
On to some of the indicators.
COT Changes. In the Tuesday 2/5 commitments of traders report (COT) the COMEX large commercials (LCs) collective combined net short positions (LCNS) fell 3,420 contracts or 1.4% from a near record high 245,001 to 241,582 contracts net short Tuesday to Tuesday as gold dropped a big $35.29 or 3.82% from $923.59 to $888.30. Importantly, the COT cutoff for this week came on what turned out to be the low close for the week as well as the intra-week low $885.32. (Near the peak of the then selling pressure. Had the selling pressure of that week peaked a day or two earlier the LCNS might have been considerably different.)
As of Tuesday's COT reporting cutoff, COMEX gold open interest fell another 27,003 from the previous week's 511,142 to 495,139 total open contracts. As 27,003 COMEX contracts were eliminated (5.3%) the collective commercial net short positions declined 3,420 lots (1.4%). That hints that as of Tuesday the LCs were expecting (and hoping) for more on the downside. Otherwise we would have seen the LCNS falling faster. They were once again short-term wrong.
Long-term February 2009 and beyond COMEX forwards added just 884 contracts to 67,996 lots open, which is about 13.73% of open contracts and still below average. Still no telltale ultra-bearish spike up in long-term forwards in other words.
Over the past three COT reporting periods as the price of gold fell a net $0.48 from $888.78 on 1/15 to $888.30 on 2/5 (almost flat) the collective net short positioning of the very large, well funded and presumably well informed traders classed by the CFTC as "commercial" FELL 9,533 lots or 3.8% from an all time record 251,114 to 241,581 contracts net short, but that was while the total open interest on the COMEX plunged 98,814 contracts or 16.6% from a COT record high 593,953 to 495,139 open contracts.
So as of Tuesday's COT cutoff the commercials were less net short nominally than they were on January 15 with gold about the same price, but the percentage to the total open interest of their net short positioning INCREASED from 42.28% to 48.79%. Then gold took off in a kind of short seller sausage grinder as, among other things, rumors surfaced that at least one large hedge position was being closed out. (Turned out to be true too. At least one large company, Buenaventura, announced it had closed its hedge book by buying out contracts for over 780,000 ounces of long forwards. That's a little over 24 tonnes no longer sold forward.)
Since Tuesday gold clawed its way back on up over the $900 mark and accelerated on an apparent short covering surge Friday 2/8 to a near weekly high last trade of $922.89. That's $34.59 or 3.9% higher than Tuesday's close.
The Friday (apparent short covering) action notwithstanding, the large commercial traders on the COMEX remain near record net short in their collective positioning nominally. However, as of right now all but a very few of those net short positions are underwater and potentially vulnerable to any further increases in the gold price.
Incidentally, the last time the LCNS rose above 48% of the total COMEX open interest occurred on October 2, 2007 with gold then at $731.98. A month later (November 6) gold closed at a short strangling $825.00 (+12.7%) and the LCNS was back down to 43.1% of the total open interest. In other words the last time the commercial's short side bets were this high a percentage of the total COMEX gold ball game they were wrong. That's not a prediction, just an observation. Anything is possible going forward.
Gold versus the commercial net short positions as of the Tuesday COT cutoff:
Gold ETFs. Over the past week gold holdings at streetTRACKS Gold Shares, the largest gold exchange traded fund [NYSE:GLD], edged lower 0.21 to 631.15 tonnes. As of Friday's figures that's equal to $18.6 billion U.S. dollars worth of gold bars held by a custodian in London for the trust. GLD added 0.61 tonnes the previous week.
Gold holdings for the U.K. equivalent to GLD, LyxOR Gold Bullion Securities Limited, increased by 1.11 to 107.89 tonnes of gold held over the past week after adding 3.44 tonnes the week prior. Barclay's iShares COMEX Gold Trust [AMEX:IAU] gold holdings edged a maintenance 0.02 lower to 59.93 tonnes of gold held for its investors after adding 0.92 tonnes of gold in the prior week.
Over the past week all of the gold ETFs sponsored by the World Gold Council increased their collective gold holdings by a net 1.58 to 784.51 tonnes of the precious metal worth $23.1 billion. That's following the prior week's net increase in gold holdings of 5.6 tonnes.
Over the past two weeks as gold turned in a cash market high of $936.73 and a low of $885.32 we have to note modest positive money flow (more wealth entering gold ETFs than leaving) into the world's gold ETFs even as the global equity markets turned more fearful. Some might say it is remarkable that as investors frightfully sought liquidity, especially over the past week, that the gold ETFs realized net buying pressure, but if it is really as bad as the fear mongers say it is, shouldn't there have been much more capital flooding into the gold trading vehicles?
Source for data streetTRACKS Gold Trust
Silver started the week with a sell down attempt along with gold, but thanks to a late week apparent short covering surge the metal gained $0.39 (2.3%) for the calendar week on the cash market with a Friday last trade of $17.19. The last time silver had a weekly close above $17 nominal was the first year of Ronald Reagan's presidency in 1980.
As silver fell $0.36 from COT reporting Tuesday to Tuesday (from $16.70 to $16.34) the large commercial COMEX silver traders (LCs) ADDED 594 contracts to their collective net short positioning to 70,099 contracts of net short exposure. That was with an open interest of 184,677 COMEX 5,000-ounce contracts or 37.9% of total open contracts.
Although the silver LCNS increased slightly it's actually a lower percentage of the total open interest on the COMEX this week and well under the all time record commercial net short percentage to total open contracts of 58.3% set last February.
To compare the relative performance of gold and silver click here.
Source for data Barclay's iShares Silver Trust. As of Thursday, 2/7.
U.S. Dollar. As the USDX gained another 57 basis points Tuesday to Tuesday from 75.55 to 76.12 NYBOT commercials actually INCREASED their net long positioning by 3,450 to 8,949 contracts net long. Since then, as the ECB cut interest rates, some signals surfaced that Europe might follow and fear gripped most all equity markets, the greenback index gained another 50 ticks for a Friday 2/8 last trade of 76.62.
Although this indicator should be gold bearish due to the commercial net long position, as Brien Lundin of Jefferson LA based Gold Newsletter noted in emailed comments Friday, gold has advanced against all major currencies lately.
Gold Indexes. The AMEX Gold Bugs index, [AMEX:^HUI] which follows a basket of fifteen of the most popular mining companies that generally do not use hedging and therefore should have more leverage to the gold market, is one of the most popular gold indexes and is the index that this report tends to focus on.
As poor as the action has been for mining shares relative to gold and silver, the miner indexes have blown the doors off the rest of the equity markets lately. However, the small, much more speculative and highly liquidity dependent miners and explorers well down the mining company food chain have just been murdered over the past four months or so.
Judging by the volume and tenor of email over the past few weeks and especially over the past few days a very significant amount of pain and fear exists right now in the markets for the little guys. A true buyer's strike is on for them and historically that's usually been a great time to be a stock vulture, hasn't it? This report contends that we are nearing one of the best buying opportunities for small resource companies since the Great Gold Bull began in 2001-2002 precisely because of the ongoing speculative stock buyer's strike.
Highly illiquid markets such as in Canada and the OTCBB where there are have-to-sell-now sellers (now even panic sellers in some issues) and very few buyers can make mincemeat out of otherwise promising junior miners and explorers. Lots of really promising companies now find themselves 50%, 60% and even 70% off their 2007 highs today. That seems especially true for those companies that have exposure to or explore for uranium which has sold off its highs in the $130s per pound but is still at a very attractive price (in the $70s) compared to a few years ago.
Illiquid markets can seem illogical for a period of time and the overwhelming selling pressure into weak buying pressure can and has made for exciting opportunities for the brave souls who put high risk money to work with the most speculative juniors. Buyer's strikes are always temporary, but they can last much longer than we'd like so it pays to take a long-term view and only buy when able to wait for a full recovery.
The current buyer's strike has been vicious and has already lasted longer than some investors could stand, but there may be light at the end of the tunnel. "By and large, the junior exploration and development plays remain moribund, although there was much more green on the screen today that I've seen recently," Lundin wrote. "This may be an indication that excitement is once again stirring in the junior sector," he added.
Well, maybe it may not represent excitement, but several very savvy long-time vulture-like contrarian traders this report corresponds with regularly have definitely been placing stink bids in large numbers for their favorite promising juniors over the past week. Are they early? If they are then probably not by much in price or in time. We'll see. Got spec mining shares?
HUI:Gold Ratio. The popular HUI:Gold Ratio measures the relative performance of mining shares versus gold. When the ratio is rising mining shares are putting in a stronger performance relative to the metal and vice versa.
Short-Term Outlook: (Upside breakouts underway. Caution flags flying for both short term trading bulls and bears. Trailing stops elevated to "near resistance" strategy.)
Short-term traders should have already tightened trailing stops to at least a "" strategy as discussed in previous reports.
We can continue to expect additional pressure for nearly all highly speculative issues for the time being as the ongoing credit-crunch-driven melt down for global equities waxes, but many of the most promising junior miners and explorers are already trading at highly discounted levels, closer to multi-year bottoms than tops and they could literally explode to the upside if precious metals continue to see demand-driven upward price pressure. Buyer's strikes can only last so long before greed replaces fear as the prime motivator.
Both sides of the gold market battlefield can and should expect heightened volatility near term. Both short-term trading bulls and bears should exercise caution and meticulously manage their respective trailing stop strategies accordingly.
If a harsh pullback materializes for gold, silver and selected mining shares, it is still this report's contention that strong dips can be bought in measured increments provided traders are disciplined in the use and management of new-trade trailing stops for protection.
Until next time, scheduled for two weeks from now, as always MIND YOUR STOPS.
Long-Term Outlook: (Continued cautiously bullish, trailing stops normal.)
This report remains long-term cautiously bullish, but new positions should only be added into weakness. Strong dips can be bought provided traders are disciplined in the use and management of appropriate new-trade trailing stops for protection.
Long-term gold market drivers have not changed: A secular bullish perfect storm trend for precious metals continues. Rapidly escalating global investor demand, easier participation by investors via ETFs, conversion of Middle East petroleum dollars to gold, rising new demand from Asia, possible central bank buying partially offsetting central bank selling, conversion from dollars to gold by large U.S. dollar denominated foreign exchange reserves, declining gold production, increased political and NGO interference to bring new sources on line, rapidly escalating costs to produce, delays and shortages of equipment and manpower, previous two-decade bear-market-induced shortage of intellectual capital for miners, safe-haven buying to hedge strong, reckless, competitive dilution of under-backed fiat paper currencies, probably continued de-hedging and continued troubling global political and religious tensions are just some of the factors contributing to the long-term bullish winds now blowing. In real terms gold remains undervalued versus nearly all other commodities and strongly undervalued as measured by the world's fiat paper promises. ... The Great Gold Bull has a long way to go. It just won't go straight up. Got gold?
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 various long positions in mining and exploration companies.