Despite gold and
silver consolidating in June, investment demand for these precious
metals remains robust. This is evidenced by continuing growth in
the bullion holdings of the leading precious-metals exchange-traded
funds. Both GLD?s and SLV?s physical metals held in trust for
investors have edged up to new all-time record highs this month!
These popular
precious-metals ETFs are radically changing the investment
landscape. They have created conduits for massive pools of
stock-market capital to quickly and easily migrate into gold and
silver. They are enabling non-traditional PM investors, including
pension funds, mutual funds, and hedge funds, to instantly add PM
exposure to their portfolios. Since this is the first time such
vehicles have even existed in secular PM bulls, no one knows what
their ultimate impact will be. But it should be revolutionary.
GLD, the world?s
premier gold ETF, was only born in November 2004. Yet its meteoric
rise since has led it to become the most successful ETF in history.
By the end of last month, GLD had grown into the second-largest ETF
on the planet (behind only the SPY S&P 500 ETF). No other ETF has
ever grown so big so rapidly. Investors who cannot or will not
participate in more traditional forms of gold investing like coins
have eagerly flocked to GLD to add gold-price exposure to their
portfolios.
And though SLV is
even younger, launched in April 2006, it is following in GLD?s big
footsteps. It is already on the verge of entering the elite ranks
of the world?s top 25 ETFs in terms of market capitalization. SLV
is nearly as large as XLF and XLE, the popular ETFs that track the
financial stocks and energy stocks of the S&P 500. This silver
ETF?s spectacular rise to prominence is second only to the gold
ETF?s.
Because these
unique vehicles have greatly widened participation in PM investing,
they are fascinating and exceedingly important. No PM investor,
whether they own these ETFs or not, can afford to ignore their
rapidly growing impact. If you?d like some background on either,
I?ve researched and written about both the
GLD gold ETF
and SLV silver ETF
extensively. These past essays explore these ETFs? methodologies,
performances, limitations, and concerns in depth.
But today I want
to concentrate on another aspect of GLD and SLV, their
?stickiness?. Before these ETFs were launched, there was
considerable
opposition to them in the traditional PM investor community.
One concern among many was that stock investors buying ETFs would be
fickle, they would overtrade and add to underlying metals
volatility. But interestingly, so far they really haven?t. Once
stock investors buy GLD and SLV, they have tended to stick with
their investments.
This is evidenced
by the bullion holdings of these ETFs. GLD and SLV are probably the
most transparent ETFs in the world, they provide extensive data on
their operations on a daily basis. This includes reporting how much
physical bullion they are currently holding on behalf of their
shareholders. Charting this data over time yields valuable insights
into PM demand from stock investors.
Like all ETFs, the
PM ETFs are designed to track the prices of their underlying
assets. To accomplish this, their custodians must expand and
contract the ETFs? assets in order to neutralize any differential
supply and demand. Both gold and GLD have unique and independent
supply-and-demand profiles. Just because futures traders are
selling gold doesn?t mean GLD shareholders are selling their ETF at
the same rate. If differential supply or demand develops,
the ETF will decouple from its underlying asset price and fail.
Consider SLV to
illustrate this. If there is a surge in demand for SLV shares
without a corresponding increase in demand for silver itself, SLV?s
price will rise faster than silver?s. But it is supposed to
track silver, not decouple to the upside. So SLV?s custodians
will immediately issue new shares to neutralize this excess demand.
When investors buy these shares, SLV?s custodians then use this new
capital to buy more physical silver bullion. This mechanism shunts
excess SLV demand directly into silver itself.
Opening such a
conduit for stock-market capital is a double-edged sword though. If
differential SLV selling develops, the ETF owners are selling faster
than underlying silver selling, the ETF will threaten to decouple to
the downside. SLV share supply exceeds silver supply. The
custodian must buy back these excess shares since market demand
isn?t there. To finance these purchases, it sells some of its
physical silver. Thus excess SLV selling bleeds into the underlying
silver market as well.
The ETF holdings
act like a sponge to smooth out surges and dips in stock-market
demand relative to underlying metals demand trends. When these
holdings are growing, stock investors are buying GLD and SLV at
faster rates than futures traders and physical users are buying gold
and silver themselves. When these holdings are contracting, stock
investors are selling the PM ETFs at faster rates than the metals.
So watching GLD?s and SLV?s holdings offers great insight into
stock-investor demand trends.
Now last autumn?s
stock panic, the first
in 101 years,
was inarguably the scariest financial-market episode anyone alive
today has ever witnessed. In less than 4 weeks in October, the
flagship S&P 500 stock index plummeted 27%! Almost all investors
were terrified, the great majority truly thought the sky was
falling. And gold and silver got sucked into this maelstrom of
selling too. It was a universal bloodbath, brutal.
If there was ever
an excuse for GLD and SLV shareholders to panic, that was it. Over
that exact 27% 19-trading-day stock-market-plunge span, gold fell
15% and silver 25%. The PMs certainly failed to live up to their
safe-haven reputations when general financial-market fear was the
most extreme. If GLD and SLV owners were less committed, more
excitable than investors directly owning physical bullion, the stock
panic would have revealed it. Yet the PM ETF owners held on during
this ultimate acid test.
The next two
charts illustrate GLD and SLV holdings over the last 18 months or
so, encompassing the panic and its aftermath. Physical bullion held
in trust for ETF investors is rendered in red off the left axes.
The price action in the underlying metals themselves is superimposed
over the top in blue. The stickiness of PM ETF holdings in the
abyss, and their subsequent surge to record highs, is nothing short
of amazing.
Gold peaked just
over $1000 in March 2008, the pinnacle of excitement over the last
18 months for PM investors. After failing to break decisively above
this crucial psychological resistance, the metal consolidated
sideways until the bond panic of August. The bond panic, like the
stock panic that followed, led to massive flows of flight capital
flooding into the US dollar. This enormous dollar buying hammered
gold.
But despite gold?s
generally weak behavior between March and August, GLD?s holdings
were pretty stable on balance. Yes, differential ETF buying demand
(GLD has to buy gold to equalize) was more likely when gold was
rallying. And differential ETF selling pressure (GLD has to sell
gold to sop up) was more likely when gold was falling. But despite
gold rolling over and sliding down from around $1000 to $750, the
GLD ETF holdings remained sticky. GLD shares? supply and demand
mirrored gold?s own pretty well.
The formal stock
panic (VXO fear gauge staying above 50) started in early October.
Gold initially fared quite well in this carnage, surging 10% to $916
in just 4 trading days. But then the mass exodus of capital fleeing
into cash and Treasuries, driving up the dollar, caught up with
gold. The unprecedented
dollar rally
crushed it. Gold plunged 22% over the next 5 weeks. It was
extremely disappointing to see this metal perform so poorly during a
stock panic, the very time it should have shined brilliantly.
I really expected
GLD owners to get discouraged. Their faith in diversifying a
fraction of their stock portfolio into GLD for gold exposure (to
counterbalance stock risk) should have been shaken. But amazingly,
they held strong. GLD?s custodians only had to sell 2.2% of its
gold bullion over the 5-week span where gold plunged 22% along with
everything else in the world (except the dollar). GLD?s holdings
were stable during the stock panic, there was no differential
selling pressure!
By mid-December
when the stock panic formally ended and the extreme fears started to
abate, gold really caught a bid. Stock investors started buying GLD
at a faster rate than futures and physical traders were buying gold
itself. GLD?s holdings broke above 800 metric tons for the first
time ever in January. And they just accelerated from there, soaring
vertical and breaking 900t and 1000t in short order in GLD?s best
month ever in February.
That month alone,
GLD?s holdings rocketed 22% higher! Demand for this ETF?s shares
was so great that its custodians had to buy 186t of gold bullion in
the open market. This was such a fascinating episode that I devoted
the entire March issue of our subscription newsletter to it. Our
current Zeal Intelligence subscribers can download this ?GLD Rush?
issue from the Archives section of our website. Because of the
explosion of GLD demand from stock investors, February was one of
the most interesting months of this entire gold bull.
At the time there
was no way to tell who was buying GLD so fast, so I used the generic
term ?stock investors?. But thanks to SEC filings in mid-May, the
biggest GLD buyer was finally revealed. It was one of the world?s
biggest, best, and most-highly-respected hedge funds! This fund,
discussed in the current June issue of
Zeal Intelligence,
bought an 8.7% stake in GLD by the end of Q1! It also bought large
stakes in major gold stocks. Elite mainstream investors were
flooding into GLD to get gold exposure in their portfolios, a
fantastically bullish development.
GLD had to buy so
much physical gold so fast to keep this hedge-fund buying from
driving an upside decoupling that physical gold shot up just shy of
$1000 again. It was very exciting at the time, even before we knew
who was buying. GLD?s total holdings soared over 1000t, a huge
milestone. But once this elite hedge fund was positioned, the
differential buying pressure tapered off and gold started
consolidating again.
After those
February highs, gold spent a couple months drifting lower then a
couple months rallying. On balance it has been a high
consolidation, not very exciting. Yet during this time, GLD?s
holdings have still usually been stable or growing. Stock investors
owning GLD not only didn?t sell it faster than gold itself
was being sold, but they bought and drove GLD holdings to new
all-time record highs of 1134t by early June.
To put this into
perspective, according to the World Gold Council 2407 metric tons of
gold were mined globally in 2008. So this GLD ETF alone, while
admittedly the world?s largest gold ETF by far, has already absorbed
the equivalent of 47% of an entire year?s worth of world mine
production! And GLD buyers are not the hardcore investors who
traditionally buy physical coins, but new investors who probably
wouldn?t or couldn?t invest in gold if the GLD ETF hadn?t made it so
quick, easy, and cheap.
Some investors,
when they learn how massive GLD has grown, wonder if it can possibly
get any bigger. But it still has vast room to grow. Every
investor should have at least 5% of their investment
portfolio allocated to gold. At the end of May, GLD had a market
capitalization of just $35b. On the same day, the S&P 500 stocks
had a collective market cap of $8246b. Thus GLD was running just
0.4% of stock-market capital in the S&P 500 stocks alone. This ETF
could grow 10x, from here, and still not hit the minimum 5%
gold portfolio allocation!
The stickiness of
GLD?s holdings, and the increasing interest large mainstream
investors have in using this ETF to gain gold exposure, are very
bullish. As long as stock investors are willing to buy GLD, it can
continue to grow indefinitely. And as long as demand for GLD shares
grows, this ETF?s custodians will have to shunt excess demand
directly into physical gold. GLD buying drives gold buying, which
pushes gold higher, which gets more stock investors excited to buy
GLD. It?s a beautiful virtuous circle!
While the SLV
silver ETF wasn?t fortunate enough to see a major hedge fund deploy
into it like GLD, SLV?s holdings have still been steadily growing.
And these bullion holdings have been at least as sticky as GLD?s.
The stock investors buying SLV are generally not selling it faster
than silver itself when the metal is falling, so SLV?s holdings are
remaining stable during such episodes.
Of course the
stock panic was the ultimate test of SLV owners? resolve. If
anything should have spooked them, that would have been it. From
late September to late November silver plunged 34%. While it had
been trading in the high teens for most of 2008 before the panic, it
was suddenly under $10 in October and November. Yet even though
silver is highly speculative, SLV owners held strong. Over the span
of this 34% selloff SLV?s holdings only fell 0.6%. Dead flat in the
face of extreme silver fear!
Since the panic
ended in mid-December, SLV has seen increasing stock-investor
interest just like GLD. In February SLV?s total silver holdings
surged above 250m ounces for the first time ever. And even when
silver started consolidating with gold over the last 4 months or so,
SLV?s holdings stayed high. Stock investors continued to buy SLV
faster than silver was being bought, driving a series of new record
highs in its holdings. The latest was seen just last week, a
staggering 281m ounces!
To put this into
perspective, according to the Silver Institute 681m ounces of silver
were mined worldwide in 2008. So SLV, barely 3 years old now, has
already absorbed the equivalent of 41% of an entire year?s mine
production. And just like GLD, these SLV buyers are not traditional
physical-silver investors. They are people and funds who wouldn?t
or couldn?t buy silver in its usual coin and bar forms.
This wouldn?t and
couldn?t is important. Sure, every individual can buy physical
coins. But for many it is just too much of a hassle. They have to
find a reputable coin dealer, learn about the coins, buy the coins
(paying a hefty premium over spot), and store the coins. For
hardcore investors like me, this is no problem. But for many newer
or casual gold and silver investors, the ability to add GLD or SLV
to their portfolios instantly for trivial commissions is
irresistible. These ETFs are attracting new investors, broadening
PM participation.
Some investors,
particularly funds, usually cannot buy physical metals. Their
charters explicitly limit them to buying stocks. So these new ETFs
are the only way they can get PM exposure. Pension funds are
deploying into GLD, and probably SLV, to diversify in a way they
traditionally couldn?t. And even if some elite hedge fund could buy
physical, it probably wouldn?t want to. That fund that took such a
massive GLD stake in Q1 plowed nearly $3b into gold. Where would a
hedge fund physically and securely store $3b in bars? It?s far
easier to let the ETF?s custodians store the gold, plus it can be
traded instantly in the future.
While I personally
prefer traditional physical investing, my coins in my own immediate
physical possession, I am a huge fan of these new PM ETFs. The more
investors ?discover? gold and silver, the bigger their bulls will
ultimately be. These ETFs are creating a big tent where everyone
with a standard stock account can participate in these gold and
silver bulls. The more the merrier, and the more profitable! The
more capital that has easy access to gold and silver
exposure, the higher these metals will ultimately climb.
Still, there is
one key thing lacking in these ETFs. Leverage. At best in
GLD, an investor will mirror gold?s performance less GLD?s 0.4% of
assets annual management fee. At best in SLV, an investor will
match silver?s gains less SLV?s 0.5% annual expense ratio. For many
investors, especially those diversifying a small fraction of their
total portfolio into PMs, coming just shy of parity with the metals?
performances is just fine. But I want to amplify the gold and
silver gains.
So even though we
currently have profitable short-term trading positions deployed in
both GLD and SLV in our newsletters, I prefer the gold and silver
producers. They have immense profits leverage to the metals they
produce. If silver goes from $15 to $20, silver investors earn a
33% gain. But if a silver miner is producing silver for a cost of
$10 per ounce, and selling at market, its profits double in
such a silver move. And ultimately stock prices follow profits.
Thus gains in producer stocks far exceed their underlying metals?.
In our
monthly and
weekly
subscription newsletters, we usually attempt to leverage expected
moves in gold and silver by buying elite producer and explorer
stocks. This strategy has been exceedingly profitable over the
years. If you are interested in investing and speculating in these
secular gold and silver bulls, with high-potential stock trades
deployed when times look opportune,
subscribe today.
On the
silver-stock front, we just finished a comprehensive deep research
project looking at the universe of publicly-traded primary silver
companies. Over hundreds of hours we whittled this list down to our
dozen favorites. My business partner Scott Wright, a world-renowned
commodities-stock analyst, just finished an outstanding 33-page
report detailing
the fundamentals of our 12 favorite silver stocks. In addition to
being a fascinating read, this awesome piece of work will get you up
to speed on what we believe are the best silver stocks in the world
to own in this new post-panic environment.
Buy your copy today!
The bottom line is
the investors buying the gold and silver ETFs have been far more
committed than anyone ever expected. Even during the most
frightening market episode of modern times, PM ETF selling didn?t
materially exceed the rates of selling in the underlying metals.
Thus the ETF holdings have been sticky, they?ve remained stable on
balance even through sharp and scary selloffs in gold and silver.
Part of this
resilience reflects increasing mainstream stock-investor interest in
adding gold and silver exposure to their portfolios through GLD and
SLV. These ETFs? expanding popularity has enabled both to grow to
record holdings in recent weeks even though gold and silver have
been consolidating for months. And while GLD and SLV are already
large compared to the gold and silver markets, they remain very
small relative to the vast pools of stock-market capital. They
still have lots of room to grow.
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