Saturday, November 27, 2010

Silver (and Gold) May Be Set-Up To Launch and the HUI To Do A Moonshot

Friday's action in the metals was quite predictable and a look "behind the headlines" reveals some interesting information.  I had mentioned to several colleagues after this week's option expiry, in which the cartel failed to slam the metals below key call option strike prices, that if a lot of the in-the-money call holders exercised and took delivery of their contracts the metals might get slammed during Wed/Fri low volumn trading.  I guess it was another lucky guess on my part per yesterday's ambush.

As it turns out, Monday is "first notice" day for December gold/silver.  What this means is that anyone with a long position has to either sell their position by yesterday's access close OR have an account that can 1) to accept delivery (most online trading futures accounts to not allow this) and 2) if the account can take delivery, it has to be fully funded to accept a delivery notice as of Friday evening.  What typically happens leading into the day before first notice is that the cartel will make an aggressive attempt to force the market lower knowing that many smaller traders will be natural sellers going into the day before first notice.  Moreover, the thin volumn on Wed/Fri makes this task a lot easier - ergo yesterday's action.

With this as the context, a couple of data points in silver and gold could make next week very interesting - to the upside.  First, as of Wednesday, there were 28,000 open silver contracts.  Yesterday's ambush may have forced most of those to sell (see the previous paragraph).  Preliminarily, and I do not put a lot of faith in the Comex "prelimary" open interest report, only about 7900 December silver contracts liquidated.  That would mean about 105 million ounces are standing for potential delivery.  The Comex would default if this were to play out like that.  It is likely that the silver contract liquidation was closer 20,000 contracts.  We'll find out Monday mid-morning.  That would leave 8k contracts standing, or 40mm ounces.  That is still about 80% of the silver reported to be available for delivery. If that scenario plays out, the price of silver is going to explode over the next couple of weeks.

The second interesting piece of data was reported yesterday evening by  Right at the close of the afternoon electronic trading session, someone bought 2000 contracts of February gold.  I don't think I've ever seen something like that in 9 years of doing this sector exclusively.   That is an enormous purchase.  It was either desperate short-covering ahead of news that could propel the metals higher next week or a very big player has decided to square off against the egregiously corrupt maneuvers of JPM/HSBC.  You can read about that trade and some interesting volatility color here:  LINK

Are gold stocks poised to stage a big move higher?

The answer to this depends on which the way metals move.  I've posted a chart which shows the ratio of the HUI to gold over the past year.  The chart shows the relative price performance between mining stocks and gold.  As you can see, the ratio is roughly in the middle of its trading range for the past year.  It has bumped up against resistance again and appears to be headed lower.  If this is the case, the mining stocks are likely to outperform gold/silver for awhile.

(click on chart to enlarge)

If my trading scenario for higher gold/silver outlined above plays out, the mining stocks should really start to move higher in December.  From a technical/fundamental standpoint, I would argue that the metals are set up to rally big-time.  We have already seen that the Fed/Treasury are willing to do whatever it takes in terms of monetizing the system in order to stimulate a big holiday season and keep the economy from collapsing.  Furthermore, the Fed typically injects a lot of extra short-term liquidity into the banking system via repos in December for several reasons, not the least of which is to fuel a year-end/January-effect rally in the stock market.  Gold and silver will smell this if it occurs again and will outperform the stock market to the upside.  The mining stocks will do that times-2.  

In addition, with Europe melting down again and the geopolitical climate heating up (see the Koreas, the U.S./China battleship tension and the China/Russia currency announcement), I think we can expect a considerable flood of global money to seek shelter from fiat currencies and reckless Government policies everywhere.  Layer on top of that the Islamic world returning from an extended religious hiatus, which will likely create a bullish influence on the metals.  And finally, the sentiment indicators in the precious metals, using several metrics, have plummeted in the past week.  From a contrarian perspective, this is usually quite bullish.

So, will the metals/mining stocks move a lot higher in December?  I have no idea - anything can happen.  I would suggest though that the conditions are set up for a possible significant move higher.  If that is the case, you want to be positioned accordingly because once this freight train leaves the station, you will have a hard time convincing yourself to jump on board.


  1. Dave,

    I appreciate the post on a slow holiday weekend. Care to elaborate on what a Silver price explosion would look like?

    Joe M.

  2. Your guess is as good as mine. I think Embry or Turk or someone like that thinks we could see $50 silver by the late spring if a squeeze scenario plays out.

  3. Hi Dave,

    I don't understand this comment on the HUI/Gold ratio :

    "It has bumped up against resistance again and appears to be headed lower. If this is the case, the mining stocks are likely to outperform gold/silver for a while."

    If the ratio is headed lower, wouldn't that mean that mining stocks would be underperforming gold ?

  4. I think it's likely we break up and thru resistance, but I can see where it's confusing.

  5. Dave,

    I don't know if you have noticed but a lot of
    what used to be called Tier 2 capital in London and elsewhere outside of the US in the major banks doesn't really move. For example the
    Japanese particularly operate in trading groups
    intermediated by the old national government banks. Names and ownerships change but the principal remains. They finance themselves particularly the capital markets subsidiaries through corresponding bond issues. The banks issue medium or long term paper which is bought by a subsidiary of a trading house and the banks in turn lend a short term six month acceptance credit against the their own paper to pay for the issue. The banks hold their own bond in the safe as security and the matching loan and deposit in the trading house are mute on the right of offset in the event of wind-up. This creates unlimited ammounts of what used to be called Tier 2 capital on demand and underlies a considerable amount of overseas trading. The coupon on the bonds and the short term loan are back to back so money passes hands except as an accounting entry and when you look at what used to be called Tier 2 bonds they are totally moribund and don't appear to be affected by credit downgrades.

    Of course what we are talking about is not just limited to the Japanese but is common across the the bond markets worldwide. In effect we have far less capital in the system than one would think. This is what BCCI did to finance virtually it's whole operation from Abu Dabhi.

    One of the banks whose name comes up in the context of bond washing from the Gulf is BAC? Have you heard anything about this. Because if it is true a lot of the bonds are going to be paid straight out of the customer accounts if it winds up.

    their own bond as security so it is nearly zero risk weighted and the

  6. Dave,

    You seems to have missed out the $ before gold in your chart and in fact have plotted HUI/Randgold Resources.

  7. re: tier 2 capital. That's great color. I have not heard about the bond washing as it relates to BAC but it wouldn't surprise me. BAC is technically involvent if they had to do a true mark to market of their assets. I'm sure they do whatever than can, like bond washing, to create the illusion of liquidity.

  8. Damn applesbear. thanks for pointing that out. my original chart template was HUI/GLD and I changed it to GOLD w/out putting in the "$." I guess writing a blog post first thing in the morning from bed on my laptop is not the best way to foster attention-to-detail. lol


  10. Dave, Great commentary, again.

    Are you in RBY? Rumors of an imminent release of a 43-101. The stock was moving Friday.

    Also, If someone stands for delivery and exposes the game, what will stop Da Boyz from changing the rules a la the Hunt Bros. episode, to allow selling only? And would it work to crater the metals?