The gold price dropped and recovered, ending basically unchanged. The silver price dropped but didn’t bounce the way gold did, ending down 72 cents.
As always, we want to know: what are the fundamentals? The speculators can run for a while in either direction, but reality will inexorably pull the price back in line sooner or later—to the speculators’ losses.
We are interested in the changing equilibrium created when some market participants are accumulating hoards and others are dishoarding. Of course, what makes it exciting is that speculators can (temporarily) exaggerate or fight against the trend. The speculators are often acting on rumors, technical analysis, or partial data about flows into or out of one corner of the market. That kind of information can’t tell them whether the globe, on net, hoarding or dishoarding.
One could point out that gold does not, on net, go into or out of anything. Yes, that is true. But it can come out of hoards and into carry trades. That is what we study. The gold basis tells us about this dynamic.
Conventional techniques for analyzing supply and demand are inapplicable to gold and silver, because the monetary metals have such high inventories. In normal commodities, inventories divided by annual production can be measured in months. The world just does not keep much inventory in wheat or oil.
With gold and silver, stocks to flows is measured in decades. Every ounce of those massive stockpiles is potential supply. Everyone on the planet is potential demand. At the right price. Looking at incremental changes in mine output or electronic manufacturing is not helpful to predict the future prices of the metals. For an introduction and guide to our concepts and theory, click here.
Here is the graph of the metals’ prices.
The Prices of Gold and Silver
Here is a graph of the ratio of the gold price to the silver price. This shows how many ounces of silver one needs, to buy an ounce of gold. There was a3.6% gain this week. At the end of last week, less than 60 ounces of silver could buy an ounce of gold. Now it’s over 62.
The Ratio of the Gold Price to the Silver Price
For each metal, we will look at a graph of the basis and cobasis overlaid with the price of the dollar in terms of the respective metal. It will make it easier to provide terse commentary. The dollar will be represented in green, the basis in blue and cobasis in red.
Here is the gold graph. NB that we have moved from the December contract to February. Under the pressures of the contract roll, December is becoming too volatile and is being pulled into temporary backwardation.
The Gold Basis and Cobasis and the Dollar Price
For several weeks, the cobasis has been tracking the price of the dollar. Increases in the dollar price (i.e. decreases in the gold price, measured in dollars) have been accompanied by increases in the cobasis (i.e. increases in scarcity).
This week, the dollar price was flat but the cobasis rose. We shall have to watch and see if this trend continues. Gold became a bit scarcer while its price did not move down. This signals that buyers of physical metal are balanced against sellers of futures. The net result is a (small, so far) rise in scarcity while price didn’t move.
It is interesting to look at this in the context of the gold:silver ratio. For a few months, the ratio had been moving down. Presumably, many traders put on an arbitrage position of long silver / short gold, using futures. This week, the ratio moved up sharply, causing pain to these traders. If they had been unwinding in a major way, then they would be buying gold futures and we would have seen that as a falling cobasis. Either there is not much of a long silver / short gold arbitrage position, or else there has not been much of an unwind yet.
Now let’s look at silver.
The Silver Basis and Cobasis and the Dollar Price
Moving to the March silver contract, we see the rise in the cobasis is quite muted for March (the December silver cobasis is now at exactly 0.0000). In this light, the rise in the dollar price (measured in silver, i.e. the fall in the silver price measured in dollars) stands out somewhat. This chart is not necessarily looking bearish for the dollar measured in silver, i.e. bullish for silver priced in dollars.
We reiterate our long-standing advice NEVER NAKED-SHORT THE MONETARY METALS. We are in the terminal decline of paper currencies, though we expect the other currencies to collapse before the dollar. The collapse of the yen or rupee could very well cause the prices of gold and especially silver to crash. Or the market could abruptly change sentiment from the pattern of the last few years.