Monetary Metals Supply and Demand Report: 8 Dec, 2013

The gold and silver prices dropped this week, 22 bucks and 46 cents respectively. Is this the bottom? Will the dollar begin to resume its fall this week? We would not be short gold here, for sure. Read on…

Here is the graph of the metals’ prices.

The Prices of Gold and Silver

Letter Dec 8 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, 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 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. The ratio rose by just under half a percent this week.

The Ratio of the Gold Price to the Silver Price

letter dec 8 ratio

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. The February cobasis is now backwardated, at around 0.15% annualized positive carry.

The Gold Basis and Cobasis and the Dollar Price

Letter Dec 8 gold

The dark red lines show the rising dollar price—from 23.5mg to almost 25.5. This is about 7.7% in a month. As the price has risen, the cobasis has risen too. Think of the cobasis as a measure of scarcity.

The selloff this week was not led by dishoarding of physical metal. It was leveraged speculators capitulating. This does not mean the dollar couldn’t rise further, i.e. the gold price couldn’t go lower.

To put it in perspective, with this time to expiry for February, a cobasis of +0.15% is not atypical for 2013. The cobasis for the October contract was just above this level on August 6, and the August cobasis was just under this on June 6.

The market has taken up much of the slack it developed throughout August. Of course, the gold price is $100 lower now. If those ever-present rumors of physical-gold buying in India and Asia are true, then there is also selling physical-gold selling somewhere. Perhaps the selling either doesn’t fit the goldbug permabull case, or perhaps the selling is not being done by large, famous entities.

Who knows? The point is that the market is not so loose as it was.

Now let’s look at silver.

The Silver Basis and Cobasis and the Dollar Price

Letter Dec 8 silver

Last week we said, “We see a sharp rise in the cobasis, though it’s impossible to tell if this is just the poor liquidity or if this is the start of a major move…” This week, Monday kept the level of the prior Friday. Then on Tuesday, the cobasis shot up further and it has held there. Interestingly, the cobases of farther contracts rose at first with March, but then fell back.

We have repeatedly described the tendency towards temporary backwardation and the broader tendency of the cobasis to rise as we near each contract month as a “reality distortion field.” We do not yet believe that there is tightness or shortage in the silver market. Clearly, a lot of the slack we saw at $24 in September or $22 in October is out of the market. There is less silver for sale, or more buyers, at $19.

Assuming that the cobasis holds its current level at this price (we’ll believe that when we see it), then we would not express a strong stance on the silver price.

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