Friday, December 4, 2009

The Dubai Debt Crisis Is Not Over

by a stretch of anyone's imagination.  This hit Bloomberg today: 
Bonds of Nakheel PJSC, the property unit of Dubai World that’s seeking to delay payments due this month, dropped to the lowest in four days before a call between creditors scheduled for today.  Nakheel’s securities fell to 54.88 cents on the dollar from 58 yesterday, the lowest price since Dec. 1 (here's the link:  Dubai Debt Crisis)
There are still a lot of unknowns surrounding this situation, not the least of which is to what extent foreign banks (U.S./UK) face billions in losses connected to plunging Dubai real estate values and failed investments. And the loans which are stated on these bank balance sheets can be quantified.  What can't be quantified is the notional amount of credit default swaps that are connected to the Dubai bank loans (ask AIG and Goldman Sachs how this works).  Furthermore, JPM and Citi, the two banks which appear to have the largest exposure, have been somewhat less than transparent with reporting the full extent of their liabilities - on and off balance sheet - and the Dubai crisis has all but disappeared from mainstream financial media.

The moral of the story is that the crisis in Dubai should be seen as a very bright warning flare to all that the global credit crisis is far from over.  Quite frankly, our leaders on Capitol Hill and at the Fed have done absolutely nothing to fix any of the financial or economic problems plaguing our collapsed system.  They have done a marvelous job printing paper to pay themselves and issue even more Treasury debt to pay for rediculously ineffective "stimulus" programs.  One massive simultaneous transfer of banking system debt onto the public (Govt) balance sheet and of public tax revenues into the bank accounts of Wall Street.

I have said all along that a second, more severe crisis is ahead of us and - now that the U.S. media has everyone "dumbed down" again - will originate from a source that very few will anticipate.  Given how the daisy chain of credit default swap counterparty defaults can be triggered, and given that monetizing such defaults globally are outside of Bernanke/Geither's ability to throw U.S. tax dollars at them, we won't know what kind of fuse has been lit by the Dubai default until it's too late to react to it.

Foretold is forewarned.  Get what you can out of the system and convert it into gold and silver bullion, especially on price corrections.


  1. Well, the PM correction is upon us. I suspect we have a month to six weeks of sideways to down ahead of us.

  2. Hard to say for sure Edwardo. There are good arguments for 1080 are pullback. I need to study some charts and look at what is going on in the physical markets as gets reported in Midas.

    Will depend on to what degree physical buying picks up. We met with an eploration mining company yesterday and they, like a lot people, mentioned that everyone is waiting for a pullback to buy/add. That sentiment may reduce the severity of the correction.

  3. If gold pulls back to 1080, I'll be backing up the truck.

  4. Bill, LOL. Agree. I don't think we go that low. Still evaluating some charts. I think the HUI can pullback to the 420-440 area. Silver is outperforming gold today. That's a positive signal.

    Coin dealers are nearly wiped out of bullion coins (I don't buy whacky bars or private minted coins).

  5. Dave,

    I made the same point about CDS at the Sudden Debt blog this week. There is no telling what the size of that pool is.


    I do not agree with a month long correction here. This is a pullback to ease an overbought condition. I see the rally picking back up next week.

    Joe M.

  6. Well, we'll see Joe. It's a correction in any event.

  7. Hi Dave,
    Thank you for all the good posts.

    How are the gold prices determined exactly? Is it the physical market that looks to the futures or is it the futures that looks to the physical market and then adding some? Or both?

    I am just wondering because if it is predominantly the first option, would that not be the perfect structure for bullion banks, if they were running out of physical gold for delivery in this month, then they could through a big bunch of futures contracts on the marked, thus pressing the price, only to buy a good chunk of tangible in the physical market in the same go?

    Would that be fair to say, or do I not get how this works at all?

    My gut feeling says that there is a big vacuum cleaner about these days - the target is any holder of physical - the vehicle is COMEX and the possibly jitterish dollar carry trade futures holders.

    Therefore two last questions. When someone long sells their futures contract, will it always be back to the short side (which is the bullion banks right?) or do the longs also trade the contracts to one another?

    And what can prompt the number of Open Interest contracts for december to be reduced dramatically in one week. Can the shorts demand to buy the contract back on certain terms - that is how do they disappear from circulation again?

    I would appreciate your insight on this, because I am fighting to try to understand a lot of things these days, and I do not have the technical background knowledge to help me.

    Best Regards

  8. Dave,
    a rough day to be sure. Silver did manage a bit of a bounce late day as you said, but it was small.

    Short term I may reposition some of my trading vehicles, but long term the story has not changed.

    So weird that the unemployment number, a dollar rally, and gold dropping would ALL COINCIDE with the jobs conference and Bernanke's confirmation hearings. This could just be a random happening, but something smells fishy here.

    I happen to like bars!

  9. @Solar: All very good questions. In terms of how the market clearing price of gold is set, if there were not a futures market, then the true laws of supply/demand would determine the market clearing price.

    Since the use of futures has proliferated, it has been easy for the bullion banks to, over periods of time, control the price of gold because all they had to do was keep selling paper contracts in order to "oversupply" the market. Especially since the major econonies were in a "goldilocks" economic environment with steady growth and relatively low price inflation (note: money supply was growing at a 45 degree upward sloping angle during this period). Also, Central Banks were leasing out their gold in a scheme that can ultimately be traced back Goldman Sachs' J. Aron unit (google J Aron gold leasing and you might find the article I say a while back describing it). So, as long as Central Banks were "disgorging" physical gold, the big Wall Street banks could flood the market with futures and control the price.

    Over the last 10 years or so, very very smart money started accumulating physical gold below $300/ounce. I know many who were doing this. I started when gold was around $300 in 2002. The people buying gold were doing so because of the obvious monetary-induced asset bubbles being fostered by Greenspan and several other Central Banks globally.

    The price was allowed higher in managed fashion by the bullion banks because the physical demand starting flexing its muscles. Fast forward, we now have a situation in which Central Banks have switched to being big net buyers, mined supply of gold is decreasing every month, and now institutions are entering the market as huge buyers.

    The paper shorts are screwed at this point. We are hearing of many accounts of futures contracts being settled for cash at prices well above contract prices.

  10. @Solar cont'd. To answer your question about how contracts trade and how buys and sells are matched, I would guess its the same way its done with OTC stocks, sort of, only in auction fashion in the pits. When you buy a contract at specified price it gets routed to the Comex floor and someone sells to you. If you want to sell it, your sell is routed to whoever is bidding. When contract settlement starts, if you are holding for delivery, you wait until your contract is assigned for delivery. That can take up 4 weeks during the "settlement" period.

    The vacuum cleaner you allude to is not targeted at holders of physical, since most people, once they buy bullion, will not sell for a long time. The target of these Comex price raids is the speculators who are long contracts, especially if they can run a lot of "stops" that are set by traders create margin calls.

    The real vacuum is the entities out there hoovering up huge quantities of physical gold - India, China, large hedge funds now, OPEC countries, Viet Nam etc.

    This is going to end very badly for the entities who are very short gold and silver via Comex/LME futures, OTC futures (JPM is a huge short in both) and AngloAshanti Gold (AU) who is still short well over 4mm ozs.

    Oh ya, the Central Banks who have leased out gold are not subjected to extreme counterparty default risk, because thousands of tons of gold have been leased out at much lower levels and have disappeared into vaults and it will take much much higher prices to induce the big holders of that gold to sell. A lot of it may never come out if the world reverts back to some kind of gold/silver/hard asset backed currency.

    Hope all that helps.

  11. @Joe: agree this will not be a month-long correction this time around. We'll eventually get a big 20-30% price correction and an extended consolidation period, but I think it starts at much higher levels. The physical demand is just too strong right now and I'm seeing this in everything I read about the Asian/Middle Eastern markets and with what I'm seeing at the big national price-competitive coin dealers like Tulving.

  12. Hi Dave,

    Thank you very much! - the over OTC stocks analogy helped. You have also confirmed that the futures DO play a big part of the price mechanism.

    While I was waiting for you to reply, I skipped by the Midas Letter. There I found an interesting article about an oil futures scam, which involves... yes you guessed it - J Aron as well. I will google your gold hint.

    The vacuum cleaner I was alluding to was in fact the BRICs, Euro Central Banks and other BIG players, who have now understood that a totally devastating collapse in the world's currencies is a very real possibility, if not inevitable, and that the only thing that will stand in the way of total annihilation of confidence in the sovereign entity, will be ability to root a systemic renaissance in the only thing all members of the human race alike associates with value - Gold.

    In short, I think that the paradigm shift is very real. Not that we will have a new version of the old gold standard, but that we will see a division of labor for the monetary units, so that Unit of Account and Medium of Exchange will be handled by paper notes, but the Store of Wealth function will come to increasingly favor Gold in some way again.

    It is really scary to have become involved in a market, where so much is at stake. I have decided that it is safer to store my physical golden nest egg, within the reamls of the industry in professional vaults, rather than taking physical possession myself. I do not believe that I can protect it myself, if the worst case scenario should unfold. On the other hand, I am worried if the majestic powers involved want whatever is in the professional vaults, they will take it - one way or the other.

    What I am most worried about though, is the aftermath of a black swan event. Even if the courts of the world stepped up and started bringing all the fraudsters to justice, they would be overburdened for years. And people who have lost everything, and who are getting hungry, are not patient people. Need I say more.

    Uhrrh! When I get depressed about these dire prospects, I think about farming. Not factory farming, but real farming. The one that is hard physical work, in all kinds of weather, together with your family and community, and where you sleep well at night, because your body is tired and content. Today farm land is overleveraged, but if all hell breaks loose one day, this will change too. If noone has stolen my gold by then, I think I will buy a nice patch of black fat land, and grow some pretty amazing carrots.

    Thanks again for your input Dave.

    Brgds Solar

  13. Dave, Mr Williams interviewed at kingworldnews... MUST listen!!!

  14. Thanks for the heads up anliu - Williams should be the recipient of the Nobel Prize for economics - not Krugman.

  15. Dave,
    Please explain this for me as I am stupid. Clive Maund says in the article the Dubai Financial Nuke" that the banking market is going to blow up because of Dubai. He says Dubai is full of derivatives on it's debt and that the exposure is trillions not billions and therefore boom. Clive Maund recomends getting out of all gold and silver positions and into cash or short positions on JP Morgan and Goldman Sachs who are going to blow up with the Dubai derivatives.
    However JP Morgan has the sole major short position of 200 million ounces in silver, if it blows up then the 200 miilion ounce short can not be added to and the COMEX must assume the JP Morgan debt and either close out the position or call a default. How is this bad for silver. Silver rose to $19.20 on a rumour JP Morgan was in trouble on it's derivatives how much further would it go if it were confirmed. The Fed got JP Morgan to take over Bear Sterns position in silver in this market who would take over JP Morgan's? This is also true in gold. How does the gold cartel blowing up hurt the price of gold?
    Also the Bank of England bailed out the clearing banks and the Fed bailed out everybody how are these institutions going to react to Dubai and the Emirates walking away from their debts? Surely, RBS, Barclays, HSBC, UBS, JP Morgan and Goldman Sachs sit on trillions of Arab deposits to think they are going to send them back without a fight is lunancy. There is going to be a bare knuckle fight over this and the Swiss deposits will be pulled in and a run will start on Saudi Banks from overseas if they do not play ball. How does this puff up the dollar when all the accopunts get frozen and every Arab in world walks away from a dollar deposit because the international money system is freezing all their accounts.
    I don't get, couuld you explain?

  16. @Anonymous: I stopped reading Clive Maund back in like 2002. He's a nutball. His precious metals market forecasting is so inaccurate, I have no idea how he keeps a subscriber base.

    I don't have he brain cells to waste on his article, but based on your description of what he says, his commentary is worthless.

    My best guess is that the Dubai thing is relatively small enough that the Fed, BOE and UAE Central Banks will be able to paper over the situation. It's not even worth addressing his view with respect to how gold and silver would behave in the event of another major global financial dislocation (which I believe will occur sooner or later) because his view is utter garbage.

    The best thing that could happen for everyone who is long silver would be for JPM to blow up and default on its massive silver short. Silver will do a literal moonshot in that event.

    Do yourself a favor and skip Maund's freebie postings which pimp his useless subscription service. We have a LONG way to go in this precious metals bull market and MUCH HIGHER to go in price.

    You should be more worried about what the world will look like when gold gets over $2000 and silver is over $50, because the variables that drive gold/silver up like that will make conditions all around us quite unpleasant.