No fireworks this week, with the gold price ending +$13 from last week and the silver price ending +$0.15.
Some chartists (and of course the ever-bullish contingency) are calling for a bottom in gold and the price will soon resume its way up to $5,000 and limitless profits. We have a slightly different view. The price of the dollar has fallen over the past two weeks or so, from over 27¼ mg gold to its current level well under 26mg. Priced in silver, the dollar has fallen from over 2 grams to under 1.9g.
For our unique picture of the supply and demand fundamentals, read on…
First, here is the graph of the metals’ prices.
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, is 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, and under the right conditions. 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.
Next, this is a graph of the gold price measured in silver, otherwise known as the gold to silver ratio. It rose slightly this week.
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.
We moved from graphing the December bases to the February contract (see the discussion under silver below).
The dollar fell by over a quarter of a milligram this week. Did the buyers of metal finally come to the market, perhaps ahead of the Swiss gold initiative? Not quite. The cobasis (i.e. scarcity) fell. Not a lot, but it looks like the basis (i.e. abundance) and cobasis are in a range for the entire month of November, oscillating and out of phase with each other.
This is not the behavior we’d expect to see for a large and durable drop in the dollar (i.e. rise in the gold price). When that happens, the cobasis should be rising or at least not falling as the price moves.
The February basis is just below zero and the cobasis now stands at -0.1%. These are hardly normal readings, but not atypical in the post-2008 reality.
Let’s put this into perspective. Last week, we calculated a fundamental price of gold $72 over the market price. This week, the fundamental is still above market, but only by $50.
Now let’s look at silver.
In silver, the market is not moving the way it is in gold. The gold cobasis is now slightly higher than it was on Nov 5. The silver cobasis is way below. The March cobasis currently stands below -0.8%. The basis is +0.2%.
As the dollar falls in terms of silver (i.e. the silver price rises) we just do not see any strength in the silver cobasis. It seems the silver hoarders haven’t yet got the message that the silver speculators have been getting for the last three years.
A continuation of the silver price rally of the past few weeks would not be surprising. But as with gold, we’d expect to see the cobasis behaving very differently if this is going to be a large and more importantly durable rally to $20 much less $50.
On the other hand, it wouldn’t surprise us to see the price drop a buck this week either. We wouldn’t bet either way at this point.
To provide the same perspective in silver, last week the fundamental price was 73 cents under the market price. This week, the fundamental price is $1.27 below.
We switched from watching the Dec contracts, to February in gold and March in silver. The graph below illustrates why, and also something else we talk about from time to time. Manipulation theories.
The December bases in silver give a very different picture than March. Cobasis is +1%, and basis has fallen off the chart into the abyss. It’s pretty, but it’s not an accurate picture of reality.
It is a picture of one-way pressure in the December contract. Selling pressure is relentless on the bid.
If the banks were naked short, they would have to relentlessly buy the contract before First Notice Day. Relentless buying would drive up the basis, as basis is future – spot. The opposite of what we see.
We see the result of naked longs and arbitraging banks: relentless selling. This pushes down the price of the future, especially the bid (the basis calculation depends on the bid on the future). That blue line shows a clear picture of this. Market makers bring down the ask price, which is why the red line is rising, but as we approach expiry the market makers become weaker as they close their positions and move on to the next contract.
In physics, theorists have endless debates about how certain really small or really far and distant things will behave. Once an experimentalist goes out and gets the data, the debate is settled. The gold and silver data is in. The bases do not behave in a way consistent with naked short selling. They behave consistently with banks as arbitragers. Make of it what you will, but please don’t put money in harm’s way based on manipulation theories (with due respect to Kevin O’Leary on Shark Tank).
Speaking of the Swiss gold initiative, Keith wrote an article that is somewhat critical of it.
© 2014 Monetary Metals