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Silver
has stolen the spotlight among investors in recent days after surging nearly
$50/oz. Lost in all the commotion, however, are the wildly disparate rumors
accompanying silver's rally. It's hard to believe that it has been only a
week since a widely circulated story concerning a large hedge fund which
supposedly made a "gargantuan" bet against silver. This story,
which smacked of being planted by speculative interests, was circulated by
some otherwise reputable financial publications.
As
we've talked about in past commentaries, whenever extremely bearish news
stories are circulated in the financial press it carries a contrarian
implication in most cases. In an established bull market like the one for
silver, it's dangerous to sell short based on a rumor since the major trend
is up and a large buildup in short interest can create explosive rallies when
everyone decides to short the market at the same time. This is what
apparently happened last week.
Here's
a quote from the story that appeared in the financial press last week:
"A
gargantuan bet against silver values was placed into position [April 11] with
the initiation of a one million-share-large put on the iShares Silver Trust
(SLV) - at the $25 level by July. The bet constituted the largest single
options trade on US exchanges and came as silver was touching the 31-year
high watermark near $42 per ounce. The (as yet) unidentified buyer of said
puts is in effect counting on a 37% decline in silver prices by that
timeframe and is perhaps reinforcing the UBS-originated opinion issued [April
11], that 'it takes a brave investor to buy silver right now.'"
Assuming
the above statement contains the truth, the fact that several financial news
wires picked up on this and circulated it with a scary headline definitely
helped generate a bearish bias in the silver market among inexperienced
retail traders. It also undoubtedly resulted in many of them losing their shirts.
 
Even
the normally level-headed market technicians who write for the popular
financial blogs apparently fell for the bearish rumor on silver last week.
One writer for the popular Seeking Alpha web site called for a 20% correction
in the silver price. He based this forecast on the fact that the silver price
was dramatically over-extended from the 200-day moving average. The lesson
here again is that's extremely dangerous to short an established uptrend
based on scanty technical evidence. Unless there is an extremely compelling
(and hopefully non-publicized) reason for doing so, the best policy is to
refrain from selling short in a bull market.
Now
that the evidently false rumors have been discredited by silver's major
rally, the shorts have been scrambling to cover and the embarrassed financial
press has been desperately searching for "reasons" to explain the
latest market action. What's particularly galling is that the very same
publication that circulated the tale about the hedge fund manager being a
heavy seller of silver has published a new story under the following
headline: "Silver Surges Over $46.25/oz as Rumors of a Short Squeeze and
Cornering Market Gain Credence." Apparently the publication has gone
from publicizing one misleading rumor to another one. The moral of this story
is to avoid giving credence to any headline rumor unless the rumor can be
conclusively proven.
Now let's
turn our attention to the energy market. This is something which is going to
affect all of us in the weeks and months ahead. As the crude oil price climbs
higher and the benchmark price of gasoline inches closer to $4/gallon, the
mainstream press continues to shrug it off as being due to "demand from
China." As with most major stories, this is only a small piece of the
big picture. Much of the rise in the crude oil price can be traced to the
Federal Reserve's insistence on keeping the U.S. economy on the equivalent of
economic life support via the quantitative easing (QE2) program. Many
economic observers believe that this extreme measure isn't as necessary as it
was in the early stages of the post-credit crisis recovery.
A
growing number of analysts also believe the excessive liquidity, courtesy of
the Fed, is finding its way to the commodity markets. Crude oil is a favorite
speculative medium of the market-moving hedge fund and institutional traders
and the last time speculative funds were funneled into oil it created a
massive bubble, the bursting of which coincided with the worst financial
crisis since the Great Depression. The oil price rally has been more gradual
this time around but it's starting to pick up steam.
The
following longer-term graph for Brent crude oil should send shivers down the
spine of any serious chart reader. It's currently in the early stages of what
can be classified as a potential parabolic blow-off. One can see the crude
oil price will soon reach $130/barrel and it doesn't take much imagination to
see that a re-test of the previous all-time high of $145/barrel isn't too far
off.
It's
also evident by now that the retail gasoline price will probably, by summer,
reach if not exceed that of the previous all-time high from summer 2008. Of
course a rising oil and gasoline price also means rising producer costs,
which in turn means higher prices across the board for a wide variety of
goods and serves. The economy was much stronger then and it's questionable
how much of the rising costs consumers will be able to absorb this time
around. Ironically, the Fed may well end up torpedoing the very economic
recovery it helped engender through its loose money policy.
The
price of gold and silver can initially respond to this in two ways. First,
we're likely to see a residual effect from the Fed's loose money policy and
indeed we're seeing it now. The current rally in the precious metals is less
a measure of fear and uncertainty than of speculative interest from momentum
traders.
The
second (and more important) way that gold and silver can respond to the
emerging oil price crisis is that once it fully dawns on market participants
that the oil price increase will undermine the economic recovery they will
begin seeking a safe haven. Gold will of course be the first thing that comes
to their mind.
While
gold is by no means totally immune from panics (as we saw in late 2008), it's
relative safety is always recognized once rational thought returns following
periods of extreme crises. That's one reason why gold has outperformed stocks
and other assets in recent years.
We're
entering the final "hard down" phase of the long-wave deflationary
cycle. This is where gold should come into its own as the ultimate hedge
against the ravages of deflation. And while a runaway oil price may at first
glance seem to be inflationary, it's actually deflationary in its longer-term
implication since it will lead to lower demand and consumption and,
eventually, lower oil prices (price cures price).
Clif Droke
Editor, The Daily
Durban Deep/XAU Report
Clifdroke.com
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