Extreme Liquidation

Extreme Liquidation
By: Theodore Butler

-- Posted 3 October, 2006

The current market structure in both gold and silver, according to the Commitment of Traders Report (COT), is excellent. That’s one of the benefits of sharp sell-offs. I am not denying that these sell-offs cause extreme pain and damage to leveraged holders, as that would be to deny reality. Because there has already been a significant liquidation of speculative long positions and corresponding dealer buying to cover shorts, there appears to be little risk of a meaningful sell-off from current levels (just under $11 on silver). Instead, the path of least resistance from here should be to the upside. I know it doesn’t feel like that, but that’s the way markets, even manipulated markets, work.

Just so no one becomes confused by what I am saying, let me be as clear as possible. The total dealer net short position in gold and silver is low by any recent measurement, as the corresponding speculative (gross) long position, particularly in silver, is at lows not seen in years. This is good, as the likelihood of significant further speculative long liquidation is diminished. After all, you can only liquidate that which is capable of being forcibly liquidated, namely margined positions. People holding fully paid for positions get angry, upset, worried, and maybe even happy (if they can buy more), but very rarely do they sell into sharply declining prices. These sell-offs are designed to force sales from leveraged holders. Sadly, it works.

Yet, paradoxically, the concentrated net short position in silver held by the largest dealers has never been greater, relative to the total net dealer short position. The latest COT indicated the 4 largest traders still hold almost 97% of the total commercial net short position on the COMEX.

This situation, small total dealer overall short position, but super-extreme dealer concentrated short position is unprecedented. In fact, I am amazed that this concentrated position has become more concentrated precisely at the same time there have been so many public complaints about the concentration. If there were anything that could shut me up and prove me wrong it would be for the concentrated short position to be covered without an explosion in the silver price.

This short position is so large, relative to real world supplies, that it defies economic justification. It is so concentrated, that it is impossible for it not to be manipulative. I claim it cannot just quietly go away, as it is too dominant a market factor. If it does go quietly away at near current price levels, I will have been wrong on this issue. But I’m not wrong yet.

Long time readers know I have highlighted the COMEX short position consistently. It is not the only thing I write about, but it is certainly a central theme. Even the CFTC has repeatedly and publicly acknowledged that I have been alone in raising the issue with them for two decades. They deny it is evidence of manipulation, but they are forced to address the issue, because it is so glaring. As time goes on, more observers, not less, have come to understand the short position’s role in the silver manipulation and have rejected the CFTC’s denials of manipulation.

Get While The Getting Is Good.

Much has been written lately about the commodity bubble having burst, and how we’re about to enter a prolonged period of commodity weakness. This is especially true after days like today, when prices plunge across the board. But I don’t think this is a commodity bubble bursting. I don’t think we had a bubble to start with in most commodities. Yes, prices did move dramatically higher (measured from the lows), and speculative buying did get overdone at times. Nevertheless, the classic definition of a bubble was never met, namely, widespread involvement by the public.

When prices drop, many assume we are sliding into the abyss. I think we confuse the reasons behind the tremendous price volatility that has engulfed our commodity markets. We want to read deep meaning into short-term moves. A sharp daily move, up or down, in oil, silver, gold or copper does not mean there is so much less or more of that commodity suddenly available. It just means the speculative and leveraged forces that day (or week or month) dictated the short-term price moves. I think these speculative trading forces have gotten over done. Nowhere is this truer than in silver, with its verifiable concentrated short position.

That said, I think the prices of most resources, particularly metals, moved higher over the past few years on fundamentals. I don’t deny that speculation goosed prices (and caused sell-offs), but it was the fundamentals, persistent industrial demand from China and India, that exerted the strongest influence on prices.

Certainly, it wasn’t speculative demand that resulted in the shocking inventory declines in copper, nickel and zinc. It was not speculative demand that caused the LME to default on its nickel contract.

The evidence does not suggest immediate production increases that will result in rebuilding those inventories. The only way for inventories of base metals and silver to build is a fall-off in demand. That may occur, but then again, it may not. Yes, there appears to be a slowdown at hand in the US housing market and this is a factor on the demand side of the equation. But I don’t think it was US housing that propelled demand for base metals in the first place. The US makes up a smaller (although significant) component of world GDP as time marches forward. Will demand from China and India and elsewhere collapse? I don’t know, but I don’t think anyone else knows either. I do know that economic growth and peoples’ desire to improve their standards of living are powerful ongoing factors.

I’d like to pass along an observation from my silver mentor, Izzy. Over the past five or six years we have seen world mine production increases in most metals and resources. Certainly we have witnessed the Chinese scouring the earth for all types of scrap supplies. (I remember Jim Cook’s story of the scrap yard owner’s sale of his inventory to the Chinese, where they even dug up the dirt to ship back to China). In spite of increased production and extreme scrap recovery, inventories still declined sharply, due to stronger industrial demand. The observation from Izzy was where will the production increases come from in the future if we are going down in price? Where will the scrap supplies come from after the earth has already been scoured over the past five years?

What we do know is that there is not a large, speculative long presence in commodities currently. There has been a flush out of epic proportions of speculative positions in most commodities. Some, like copper, actually show speculators net short (basis COMEX) for the first time in years. So, even if there was a bubble in commodities, there’s no bubble now. And with such low speculative interest, it’s hard to imagine significant long liquidation and waterfall declines.

We have witnessed sharp speculative liquidation and severe price sell-offs in the resource segment several times over the past few years. Each time it looked like the commodity boom was over. Each time after those sell-offs we have achieved new highs. Each time we were presented with terrific buying opportunities Will that be the case this time? I don’t know, but with collective inventories so low and no dramatic production increases on the horizon, the markets seem to be pricing in a world recession, or worse. If we don’t get that recession, prices will surprise on the upside.

The ironic aspect is that I think there will eventually be a slowdown in demand for silver, but it will not come from a world recession. The demand fall-off will come from price-induced rationing due to extremely high prices. When that occurs, the sharp sell-offs of the past (like now) will be looked upon differently than they are looked at today. Then, they will be remembered as the opportunities that too many people missed.

-- Posted 3 October, 2006

Silver ETF share registration increase doesn't require metal purchases

Barclays Files to Add Shares to Silver ETF

From Reuters
Monday, October 2, 2006

NEW YORK -- Barclays Global Investors on Monday said it had filed with the Securities and Exchange Commission to register 15.2 million new shares of the iShares Silver Trust (SLV), which has proven popular with investors as a silver play this year.

"It provides us with flexibility," said Barclays spokeswoman Christine Hudacko.

The registration would almost double the amount that could potentially be invested in the trust to 32 million shares.

iShares Silver Trust is traded on the American Stock Exchange. Barclays launched the exchange traded fund in April with a cap of about 16.8 million iShares available for investors.

"We are registering additional shares. That does not mean the trust is automatically going to buy additional metal," Hudacko said, adding that the SEC requires that a ceiling be established for the size of the fund.

The ETF is backed by silver bullion stored in vaults in allocated accounts. Each share is worth 10 ounces of silver, meaning that, fully subscribed, it could now hold 320 million ounces, an increase of 152 million.

Investors must buy the shares before the trust administrators will buy the bullion to back it.

* * *

Analysts predict soaring silver prices

Coeur d'Alene, Idaho (Platts)--25Sep2006

Whether or not the price of silver, along with gold, is being
manipulated to the downside by bullion banks and big
Wall Street traders was the subject of some disagreement at
the 4th annual Silver Summit in Idaho last week.
However, analysts told Platts they were unanimous on one
point: the silver price is headed seriously upward, fueled both
by fundamentals and near-historic levels of investor and
speculator interests.

"I am rabidly bullish on silver, and as we digest the first stage
of this bull market, we are poised to reach new real-time price
highs," said Sprott Asset Management's John Embry, adding that
he expected silver to be more volatile than gold but, in the end,
to outperform the yellow metal.

Embry continued: "As we slide down the slippery slope of credit
expansion, we will see further erosion of faith in fiat money.
The Federal Reserve will be faced with a monetary policy either of
deflation or hyperinflation as debt piles up. Hyperinflation will be
the more likely policy, and far from being a relic, silver will
re-assert itself as money."

Embry referred to a Sprott-issued report in 2004
entitled "Not Free, Not Fair in which he suggested that
in leasing gold banks and other major traders had conspired
to suppress the gold price.
At the Silver Summit he declared there was similar "obvious
price fixing" in the silver markets. "The silence of the silver-mining
companies in the wake of these manipulations must end," he said.

CPM Group's Managing Director Jeffrey M. Christian said he could
find no evidence of silver price manipulation, but said market forces
would drive the white metal's prices much higher than current levels
in the near term, should investor or speculator interest top 150 million oz.

"The silver market is shifting from 16 years of persistent net
sales from inventories to net purchases for addition to inventories,"
said Christian. "Investors are buying silver. The iShares silver ETF is
only a sideline, a consequence, of the surge of investor interest in silver."

According to Christian, the Indian government sold 35-mil oz
of silver in 2005, but sales could decline to 32.5-mil oz in 2006.
"Silver was legally re-exported from India in March and April 2006
after stocks of unsold new imports built up there," said Christian.
"The silver went mostly to dealer holdings in London, where the metal
will be available for delivery into the silver ETF."

Christian likened current market conditions to those of 1979,
when silver shot up to nearly $50/oz and the silver-gold ratio
dipped below 10:1. "This represents investors buying more silver,"
he said. Total silver bullion inventories, meanwhile, have fallen from
more than 2-billion oz in 1986 to nearly zero now, he noted.

--David Bond, newsdesk@platts.com

World Silver Survey 2006

http://www.silverinstitute.org/gfmswssny06.pdf

Buzz is about silver at Denver Gold Forum

Silver Bulls Seize Day at Major Gold Industry Parley

By Steve James and Rachelle Younglai
Reuters
Monday, September 25, 2006


DENVER -- At North America's major annual gold industry conference, the talk on Monday was about silver -- and how the price of bullion's less attractive rival could climb even higher.

"I think silver will be potentially more explosive than gold," Ian Telfer, chief executive of Goldcorp., told Reuters during the Denver Gold Forum.

Telfer, who said he was "really bullish" on silver, predicted the price could hit $20 per ounce in the next two years.

Phil Baker, chief executive officer of Hecla Mining Co., agreed, saying during his presentation: "We see a lot of potential for it to go even higher.

"Fundamental indications are very good and with investment demand like we have not seen in two decades, we see the price continuing to rise."

Asked afterwards to be more specific, Baker told Reuters: "There will be volatility, but we will see the silver price generally rise in the $15-$20 range and stay in place for the next four to five years.

"There will be some input if the base metal complex falls, but what happens in the next five to 10 years, who knows? Maybe the mines will produce more than the market needs."

Silver, which hit a 23-year high in April of $13.38 per ounce, was selling on Monday for around $11.30. Since last year's Denver Gold Forum, the price of gold soared to its highest level in a quarter century. It is still higher than it was at the start of the year, even though it has dropped to around $580 per ounce from a high of $640.

Telfer explained silver's change in fortunes thus: "The difference between silver and gold is that silver gets used up, gold doesn't. Gold just gets moved around, whereas silver gets used up so inventories of silver are low."

That's why he is bullish on silver -- a view shared by Coeur d'Alene, the world's largest publicly traded silver producer.

"There is a bullish trend in the silver market and the prospects are for these conditions to continue," said Chief Financial Officer James Sabala. "That's because of a fundamental continued imbalance between mine supply, relatively low above-ground stocks, and continued speculative interest.

"These factors caused silver prices earlier this year to reach their highest level in more than two decades. But our bullish view of the market goes beyond short-term excitement at the spike in prices," he told the Gold Forum.

The optimistic view of the market is largely based on the long-term growth in demand for silver, he said. "Silver is the world's most widely used metal above and beyond the well known uses in coins and photography."

He noted silver is used in electronics, water purification systems, health care, textiles, and wood preservation. "Overall silver demand has been driven primarily by record-setting growth in industrial applications. We don't see any sign of a significant letdown in this segment," Sabala said.

Also the silver exchange-traded fund, which began trading in April, has already taken approximately 100 million ounces of silver off the market, he said. And although mine production rose last year it still lagged consumption for the 17th consecutive year.

"That's one of the reasons silver has outperformed gold in the recent market and we expect it to continue to do so."

Sabala said two-thirds of Coeur's revenue is from silver and it does not hedge silver or gold.

"We are poised to report strong production and low cash costs for 2006, with our net income for the first half of this year already exceeding that for the full year 2005," he said.

* * *

Silver is More Rare than Gold

First things first, silver isn't more rare than gold when we account for jewelry and silverware supplies, but if we look only at the amount of identifiable silver bullion then silver is indeed more rare than gold.

Almost all the gold ever mined has been used in either jewelry or bullion. The difference between gold and silver jewelry, is that gold jewelry only trades at a small premium above the current market price when compared with silver, and therefore a price rise of say 100%-200% would be adequate incentive to melt the gold down, though who knows if people really would in such an environment where fiat is dying. For silver to acquire that much 'incentive', prices would need to rise in excess of $50-$80/ounce, and that's before the dollar starts to slip in purchasing power!

According to the World Gold Council (and others) there are between 4-5 billion ounces of gold remaining in the world. I say 'remaining' somewhat unnecessarily, as it is estimated that 95% of all the gold mined in the history of the world is still around. Quite simply, gold is not used up, rather, it is preserved. This also use to be the case with silver, but times have changed dramatically since WWII.
According to the Silver Institute and GMS, there are only 671 million ounces left of identifiable silver bullion left in the world (World Silver Survey 2004).

The other form of silver that exists is stored in various forms in the hands of private individuals (i.e. coins, jewelry, and silverware). This brings the grand total of above- ground silver closer towards an estimated 25 billion ounces. But silver in these forms cannot be included in the market accessible total, as jewelry and silverware, most especially, are not likely to be sold back into the market in any considerable quantity until the price of silver rises much higher (c. $50/ounce - $80/ounce). Today, the majority of above-ground, refined, identifiable silver bullion is held at the COMEX warehouse, the largest supply of silver inventory in the world. It holds a mere 120 million ounces, less than what Warren Buffet is reported to have purchased in the late 1990's. Similarly pitiful is the fact the the U.S. Government used to hold several billions of ounces of silver in its coffers, but as of today it has nothing! In fact, the US Government actually had to begin purchasing considerable amounts of silver on the open market in 2002 in order to continue minting its popular 1 ounce Silver Eagles.

$1,000/ounce Silver?
With the above numbers, we can now calculate silver and gold's relative value in terms of the 'almighty' US dollar, using silver's identifiable bullion figure of 671 million ounces and the 4.5 billion ounce figure for gold. At prices of $9.7/ounce silver and $558/ounce gold, what we find is that the dollar amount of gold in existence is over $2.5 trillion while the total dollar amount of silver is only about $6.5 billion.
The difference between the two numbers is almost $2.5 trillion dollars! That's $2,500 billion. In other words, the total value of gold when comparing these forms is about 386 times that of silver. Even if we calculate this comparison using the estimated total amount of silver still in existence, 25 billion ounces, all the silver in the world is still only worth about 1/10 of all the gold in the world!

Also consider that the amount of gold increases daily, as more is mined and preserved, where as much of the silver that is mined every year is literally consumed by industry, and has undergone a 63 year deficit beginning in 1942!

I expect that some day down the road the total value of silver in existence will approach the total value of gold, reaching an extreme ratio of 1:1. This doesn't mean that their price ratio would approach 1:1. The extreme gold to silver price ratio implied by this valuation would be about 1 to 5.6, not factoring in the continually diminishing supplies of silver and the ever growing supplies of gold. In other words, a silver price of over $100 at today's gold price, a price of about $360/ounce at a gold price of 2,000/ounce, and a price of $1785/ounce at a gold price of $10,000/ounce.

Without serious dollar dilution, which seems unlikely, I expect silver to peak at around $200/ounce and gold at around $5,000/ounce. Prices would then probably correct significantly lower, say 70%, and stabilize in that area as large numbers of presently uneconomic mineral resources are quickly (1-3 years) brought into production, not to mention increased sales of silver jewelry and silverware. That is to say, a long term silver price of about $50/ounce without dollar drama and disaster.

On the one hand you make a nice return of some 500%, and on the other you save yourself from a possible economic catastrophe that will beset most of the debt earth dwellers with the exception some several hundred million frugal Asians who will only get smarter about where they should and shouldn't invest their hard earned and saved money (wake up people, stop spending and start saving!). Silver looks to be as good as gold either way.