Gold has powered
higher in a strong new upleg since the Fed’s mid-December rate
hike. But the core group of traders who usually fuel early-upleg
gains has been missing in action in recent months. The gold-futures
speculators have not done any meaningful buying since gold
bottomed. This anomaly is a very-bullish omen for gold. Since
these traders’ buying has yet to start, they need to do lots of
catch-up buying.
Since the day
after the Fed’s second rate hike in 10.5 years in mid-December, gold
has surged 10.0% higher at best as of the middle of this week.
Naturally these strong gains were really amplified by the gold
miners’ stocks. The leading GDX VanEck Vectors Gold Miners ETF
blasted 34.6% higher over that same short span, trouncing the
broad-market S&P 500’s mere 1.4% gain! The gold sector is
really shining.
But nevertheless
it’s been a strange gold upleg distorted by the markets’ extreme
Trumphoria. Normally new gold uplegs see a distinct three-stage
buying pattern that fuels their advances. Gold’s initial gains
off lows are driven by futures speculators buying to cover their
shorts. The resulting gold reversal and surge entices in still more
futures speculators on the long side, which really accelerates
gold’s upside.
This early
gold-futures buying is essential, single-handedly pushing gold
high enough for long enough to reach critical mass psychologically.
That finally attracts investors to return, convincing them gold’s
new upleg is real and sustainable. They command vastly-larger pools
of capital than speculators, and fuel most of gold uplegs’ gains.
Futures speculators jump start the gold-driving engine of investment
buying.
This gold-upleg
buying sequence has proven the standard for so many years now that
it’s really hard to imagine it playing out any other way.
Speculators and investors have very-different mindsets and risk
tolerances, making them uniquely suited to buy at particular times.
When gold hits a deep low in extreme bearishness after a major
correction, the only buyers are speculators covering shorts to
realize profits.
Gold futures
actually have a wildly-outsized impact on gold prices,
punching way above their weight in capital terms. The main reason
is the extreme leverage inherent in futures trading. While the
decades-old legal limit for leverage in the stock markets is 2x, it
can run as high as 25x in gold-futures trading! So relatively-large
amounts of gold can be controlled with relatively-small amounts of
capital through futures.
This week, each
gold-futures contract of 100 troy ounces only required a small cash
margin of $5400 to trade. Yet at $1240 gold, that contract was
worth $124,000. Thus fully-margined futures speculators can run
leverage as high as 23.0x! Every dollar they bet on gold has up
to 23x the impact of another dollar used by investors to buy
gold outright. So futures trading can overpower investing to wag
the gold-price dog.
On top of the
disproportional influence of leveraged capital in gold-futures
trading, the gold price derived from it is the world’s reference
price. So big gold moves driven by hyper-leveraged futures
trading can greatly affect gold sentiment universally, leading other
traders to follow the lead of futures speculators. Gold-futures
trading utterly dominates short-term gold psychology, which is very
frustrating for investors.
So to see gold
reverse sharply higher since mid-December without any significant
gold-futures buying at all is an incredible anomaly. A strong new
upleg in gold igniting despite an effective boycott by the
futures speculators ought to be impossible based on past precedent.
Yet that’s exactly what we’ve seen over the past couple months!
These extreme Trumphoria-distorted markets since the election
continue to amaze.
Every week
speculators’ total long and short gold-futures positions are
published in the CFTC’s famous Commitments of Traders reports. They
are released late Friday afternoons, but current to the preceding
Tuesday closes. The latest CoT data available prior to this essay’s
publishing ran to February 14th. And it almost miraculously reveals
gold has enjoyed no meaningful gold-futures buying at all by
speculators!
This chart is
simple, with speculators’ total gold-futures long contracts rendered
in green and their total short contracts in red. That CoT data is
only available at a weekly resolution. Gold is superimposed over
the top in blue, along with its key moving averages. For many
years, gold-futures buying and selling by speculators has been the
dominant driver of short-term gold price action. Until the past
couple months’ anomaly.
![](http://www.24hgold.com/24hpmdata/articles/img/Adam Hamilton-Gold-Futures Buying Yet to Start-2017-02-24-001.gif)
Speculators have
four different ways to trade gold futures. They can buy to open new
long contracts, or buy to close existing short contracts. Either
type of buying has an identical upside price impact on gold.
They can sell to close existing long contracts, or sell to open new
short contracts. All selling has the same downside gold-price
impact. Buying is buying and selling is selling, regardless of
current positioning.
So the overall
gold-price impact from speculators’ gold-futures trading is a
combination of what they are doing on both the long and short
sides. When they are buying new long contracts as evidenced by
a rising green line above, they are bidding gold higher. When they
are buying longs to offset, cover, and close existing shorts, as
shown by a falling red line, they are also bidding gold higher.
Longs and shorts matter.
All the major gold
rallies
in the past couple years were driven by some mix of speculators
adding gold-futures longs and covering shorts. Gold only surged in
both bear-market rallies before late 2015 and bull-market uplegs
since when spec longs were rising and/or spec shorts were falling.
The opposite is also true. Every major gold selloff resulted from
some blend of speculators selling longs and adding new shorts.
Throughout most of
2015, gold slumped and plunged to a brutal 6.1-year secular low by
mid-December. That terminal 19.3% bear-market drop was partially
driven by speculators dumping 90.9k gold-futures long contracts
while adding 107.0k short ones. That made for the equivalent of
615.5 metric tons of gold selling in just 10.6 months, an
extreme 58.1t-per-month pace. Talk about a roaring deluge of gold
selling!
The world’s
definitive arbiter on global gold supply and demand is the World
Gold Council. Once every quarter it publishes fantastic reports
detailing gold’s fundamental trends. According to the newest data,
total worldwide gold investment demand in 2015 ran 918.7t. That
works out to 76.6t per month. So the gold-futures speculators
hemorrhaging the equivalent of over 3/4ths of that was far
too much to absorb.
But gold-futures
speculators’ capital is finite, and they finally reached selling
exhaustion the day after the Fed hiked rates for the first time in
9.5 years in mid-December 2015. A major new bull market was born,
which would catapult gold 29.9% higher over the next half-year or
so. That was partially driven by speculators adding 249.2k long
contracts while buying to cover another 82.8k short ones over just
6.7 months.
That was the
equivalent of a staggering 1032.4t of gold buying from this one
group of traders alone! At a monthly pace, we are talking about
a jaw-dropping 154.7t of ongoing buying! The World Gold Council
recently reported global gold investment demand only averaged 130.1t
per month in all of 2016. So the extreme gold-futures buying played
a big role in gold’s powerful new bull market over the first half of
last year.
When gold-futures
speculators are aggressively dumping contracts, the resulting heavy
downside price pressure forces gold dramatically lower as we saw in
2015. But when they later flood back in to buy and reestablish
their positions, gold powers far higher as witnessed in the first
half of 2016. These traders’ outsized dominance over gold’s
short-term price action extends back many years, it’s certainly
nothing new.
After digesting a
chart like this, it’s easy to assume gold-futures trading is all
that matters for gold’s price levels. But that’s not the case, as
gold actually has two primary drivers. While the futures
speculators command the short term, American stock investors exert
massive longer-term influence. Their capital flows into and out of
gold via the conduit of that leading GLD gold ETF are gold’s other
primary driver.
Any gold-futures
analysis without considering GLD capital flows is myopic and
potentially misleading. If you need to get up to speed on the GLD
juggernaut’s
overpowering influence on gold prices, I recently wrote an essay
on it. Gold’s price action and prevailing levels result from the
interplay between gold-futures speculation and stock-market gold
investment via GLD shares. Gold futures don’t operate in a vacuum.
Usually
speculators’ gold-futures trading and investors’ GLD-share trading
run in tandem, as the same gold sentiment motivates both groups of
traders. They are more likely to get greedy and want to buy gold
after it has already rallied, as everyone loves chasing a winner.
They are more prone to get scared and want to dump gold after it has
fallen, succumbing to prevailing fear. Gold futures and GLD rarely
oppose for long.
Zooming in this
same gold-futures chart to the past year or so, we can get a
higher-resolution read on what’s been going on in gold since last
summer. This perspective is essential to understanding the big
gold-futures anomaly today and why it is so darned bullish for gold
in the coming months. When this knowledge becomes more widely
known, speculators and investors alike will rush to buy gold again.
![](http://www.24hgold.com/24hpmdata/articles/img/Adam Hamilton-Gold-Futures Buying Yet to Start-2017-02-24-002.gif)
Gold topped in
early July because speculators were so heavily long gold futures
that buying exhaustion was hit. They were fully deployed in
gold, with no more capital to throw at it. That left a
record selling
overhang for gold when these guys inevitably started unwinding
their excessive longs. Their selling and the resulting downside
pressure on gold was mercifully modest until catalyzed by a couple
major events.
Gold-futures
trading is exceedingly risky and unforgiving due to its extreme
inherent leverage. At 20x, a mere 5% adverse move in gold against
traders’ positions results in 100% losses of their capital
risked! So running automatic stop-loss orders is all but mandatory
for survival. Last summer traders had a big mass of gold-futures
sell stops set near the psychologically-important $1300 level, which
held for months.
But as October
dawned, gold started drifting near this support and triggering these
stops. The resulting mechanical selling quickly cascaded, tripping
more stops. This unleashed heavy selling in gold-futures longs
bludgeoning gold sharply lower, just like it had in May after FOMC
minutes proved more hawkish than expected. That was the first
gold-futures mass
stopping in the fourth quarter, really damaging gold sentiment.
The second came in
the days after Trump’s surprise election win. For months, gold had
traded higher when Trump rose in the polls and lower when he fell.
On Election Day’s evening itself, gold futures rocketed 4.8% higher
from that afternoon alone when Trump’s lead mounted in the biggest
battleground state of Florida. All indications were that a Trump
win would be bullish for gold and bearish for the stock markets.
So when that
universal expectation proved wrong in the subsequent days,
speculators and investors alike started fleeing gold. That resulted
in more cascading gold-futures selling as stop-loss levels were
sequentially hit. Selling begets selling. The faster
traders dumped gold futures, the faster gold’s price fell spawning
even more selling. Gold plunged in the resulting vicious circle of
another mass stopping.
Gold kept falling
into a third mass stopping last quarter right after the Fed’s
meeting in mid-December. While its rate hike was universally
expected, the FOMC projected three more rate hikes in 2017
instead of the expected two. Gold-futures speculators irrationally
fear Fed rate hikes even despite the fact
gold has thrived
during Fed-rate-hike cycles historically! That’s when the
gold-futures selling finally started to moderate.
By gold’s bottom
the day after the Fed, speculators had jettisoned 174.0k long
contracts and added 32.2k short ones since early July. That was
enormous selling equivalent to 641.3t of gold, or a 116.1t monthly
pace that was far too extreme for the markets to absorb. But after
such a huge gold-futures liquidation, the speculators’
selling was
exhausting. So it was only a matter of time until gold-futures
buying returned.
That would trigger
gold’s next major upleg after its brutal 12.7% Q4 plunge, one of its
worst quarters ever witnessed. But as these charts reveal,
gold-futures speculators weren’t ready to buy. With the
prospect of the Fed hiking rates three times in 2017, and the US
dollar trading near extreme 14.0-year highs on rate-hike hopes, and
the stock markets hitting record after record on all the Trumphoria,
they didn’t want gold.
These traders’
serious bearishness on gold in late December was understandable
given where gold had come from and the fierce headwinds arrayed
against it. So speculators weren’t interested in covering their
gold-futures shorts, which triggers the initial rally in new gold
uplegs. And unlike short covering which is contractually-obligated,
long buying is totally voluntary. Speculators didn’t want to bet on
gold rising.
Yet gold started
rallying anyway, rather sharply! While I was
expecting a new
gold upleg late last quarter after all the gold carnage, I
would’ve never believed it could happen with virtually no
participation by the futures speculators. I can’t remember a major
gold advance, both bear-market rallies and bull-market uplegs, that
erupted and grew without speculators buying gold futures. They are
the kings of short-term action.
But incredibly,
gold bounced and rallied anyway despite speculators boycotting
gold-futures buying! This new gold buying didn’t come from American
stock investors either, since GLD suffered serious draws in December
and January showing ongoing capital outflows. But there was a
critical clue as to where gold’s mysterious buying was coming from.
It came in the form of the timing of intraday gold rallies.
While American
gold futures trade 23 hours a day, the vast majority of their
trading activity comes during the normal US stock-market hours. The
same is true of GLD buying. Between late December and late January,
gold would often sell off during the US trading day. Most of the
gains came overnight when the American traders were sleeping!
The gold buying driving this strong new upleg was coming from Asia.
American investors
didn’t start returning to gold with heavy differential GLD-share
buying until the dawn of February. And as of the latest CoT current
to mid-February, futures speculators still haven’t done any
significant buying. That is stunningly bullish, since all their
buying fuel remains intact. They have yet to expend any of their
capital firepower buying gold, which means they have big catch-up
buying to do.
As of that newest
CoT when this essay was published, speculators’ total gold-futures
longs were way down at 252.0k contracts. That is actually
considerably lower than where they were when gold bottomed in
mid-December! And speculators’ total gold-futures shorts are
running 124.2k contracts, not far under mid-December levels. This
leaves vast room to buy when gold’s rally inevitably turns
speculators bullish again!
Back when gold
peaked in early July, speculators held an all-time-record-high
440.4k long contracts to bet on gold’s expected upside. To mean
revert back to those levels, speculators have a colossal 188.4k
contracts of long buying to do! That’s the equivalent of 585.9t of
gold, or 3/8ths of full-year-2016’s global gold investment demand.
They also have 24.1k contracts of short covering to do, for another
74.8t of buying.
And because of the
extreme leverage and risks inherent in futures trading, speculators
are rapid buyers once they wax bullish on gold again. So we are
looking at the equivalent of a potential 660.7 metric tons of gold
buying from this group of traders alone unfolding over a few months,
six on the outside. That is going to supercharge gold’s upleg
when it inevitably arrives, greatly accelerating gains and
bullishness.
If a full mean
reversion back to speculators’ early-July gold-futures levels seems
too fanciful, you can be very conservative and model a mere half
mean reversion. That still equates to 330.3t of gold buying via
gold futures over the coming months. Remember global gold
investment demand averaged 130.1t per month in all of 2016, so even
50t or 100t per month of gold-futures buying is a massive increase
in gold demand!
The fact a strong
new gold upleg is underway without speculators buying gold futures
is incredible, an extreme anomaly. The Trumphoria
stock-market rally, and sky-high US dollar, have greatly distorted
market psychology. But once these
lofty overvalued
stock markets and
euphoric topping
US dollar inevitably roll over, gold-futures speculators will be
shocked from their slumber. Then they will rush to do catch-up
buying.
That will really
accelerate gold’s strong new upleg. While investors can certainly
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The bottom line is
speculators’ gold-futures buying hasn’t even started yet despite
gold’s strong new upleg. While these elite traders sat on their
hands after gold’s mid-December bottoming, Asian buyers usurped
their usual early-upleg command. That’s left futures speculators
greatly under-positioned in gold. So they have massive catch-up
buying to do to leverage gold’s coming upleg gains, which is very
bullish.
Distracted by the
extreme Trumphoria market distortions, futures speculators have
totally missed this gold boat. They won’t stay on the sidelines for
long though as gold keeps powering higher. They will rush to get
properly positioned for more gold upside, aggressively adding longs
and covering shorts. All that coming buying will feed on itself and
really accelerate gold’s new upleg, catapulting this metal much
higher. |