Gold and Silver Markets: Can Some Sense Be Imposed On These?

We recently talked about imposing sense on markets and the economy. We emphatically distinguished imposing sense from making sense. 

"When we try to make sense out of the economy and the financial markets, we typically try to analyzed what's actually happening and attempt to provide some explanation that makes some sense..."

"...Imposing sense is a different matter. Here we try to discern what should be when it comes to our economy and the financial markets. Put simply the difference is between what is and what should be..."     

Let's approach the recent dramatic drop and Gold prices with this distinction.

First an attempt to make sense: 

Relying on long-time proven resources, the dramatic drop in gold, and most especially silver prices seems to have been a carefully manipulated event. The likely chief culprits were the big banks who have shorted silver for many years. Now, many others had shorted silver as well, but the big banks were the big kahunas in this game. As the price rose dramatically from under 50 to 120 per oz, those short positions would have received margin calls. As the price and rose, the shorts would need to come up with cash to meet satisfy those calls. (Question: Did they sell gold to raise cash? God fell also, but not as dramatically as silver.)

Anyway the incredible swift rise in silver prices was the danger. The biggest ot the Biggies, JP Morgan, closed out their short position at the bottom of the drop on Friday. Coincidence? Hmmm...

Not only was this "coincidence" suspicious, but the Comex (the precious metals Exchange) raised margin requirements during this blood bath more than once during this bloodbath. As they did, other short positions desperately closed their positions, thus driving the price down even more.

We won't get into any more detail here. If you understand how short-selling and margin works, this will have made sense. If not, well, we'll leave it to you to poke around and get up to speed - if any of details really interest you.

Just know that if you own gold, particularly silver, you lost lots of money. Then again, unless you bought these recently, you're likely still sitting on some profits - perhaps handsome profits, despite all this manipulated drama.

So that's our attempt to make sense out of this. Now on to imposing sense.

Of course, while we can try to make sense, we likely can't impose sense. What we can do, though, is offer up our ideas about what should be.

This "should be" contains a ethical/moral component.  

In the case of the recent silver and gold debacle, we note that it was caused by speculation run rampant. The price was driven up to high too fast. Not only high and fast, but much higher and faster than you'd likely find in a speculative stock market rush to the moon.

How does this happen? Is it strictly a function of demand? Well, demand is certainly there. Central banks have been buying gold (and apparently now silver) for a long time now after many years of either not buying or actively taking measures to suppress the price. And there is a contingent of folks who have been "stacking" for a number of years now. (Stacking means buying smaller amounts of - usually - gold on a regular basis.)

But the demand would not account for the explosive rise since the year began. That was the result of the speculation in the paper markets.

The paper markets center on futures contracts - the ultimate speculative vehicle for trading in precious metals - as well as various other options contracts. These are typically bought with leverage - i.e., borrowing money rather than simply buying the metal.  The amount of leverage is supposed to be controlled by the regulators who oversee this market. But that's usually not the case. The regulators permit lots of leverage because big trading concerns - banks being at the center of this - want to borrow lots to make lots. Of course the flip side of this is when they have to pay back their borrowing - as was the case when silver and gold dropped suddenly - they lose lots.

If we were to impose some sense on the precious metals markets - which are relatively compared to stocks, bonds, and other commodities - you would think that regulators would be more vigilant in monitoring the speculation in these markets to avoid these almost cataclysmic collapses. But they don't.

But doesn't that put those big banks (and other big Wall Street traders) at undue risk? Yes - and no. Some of the Wall Street biggies - e.g. big hedge funds - might suffer huge losses. And perhaps one or two (as has happened in the past) would be "allowed" to fold. But banks, particularly the Big Banks? Always big, these, ever since the Great Financial Crisis of 2007-2009, these have grown ever bigger - much bigger. So big, in fact, they are consider too big to fail. As a result, they more or less expect the Fed and the government to rescue them if their speculative activity takes them to the brink of failure. And that indeed has been the pattern for a long time now.

What of the little guy - e.g. the stackers? No one's going to rescue them. And if they buy precious metals, they need to be wise enough to buy without using leverage, and in amounts that wont' cause them to sell when these manipulated events hit them hard.

There's more to the story of precious metals market speculation, but we're running short on time. Suffice it to say that if we were to impose some sense on these marekts, regulators would bear down on the extreme - completey over the top - speculation before it gets over the top. They would impose restrictions on how much can be borrowed and the number of contracts that can be created on silver and gold. 

Will they? At this point, don't hold your breath.