(This essay was written by silver analyst Theodore Butler, an independent consultant. Investment Rarities does not necessarily endorse these views, which may or may not prove to be correct.)
Old-time country music fans will recognize the title as one of the late Tammy Wynette’s greatest hits http://www.youtube.com/watch?v=S9J7XE-ctMU Men and women are alike in uncountable ways, yet are also remarkably different. In every species, the female is from Venus, the male from Mars. Sometimes, even relationships that have endured for the longest time end in divorce.
Today, I write of the pending divorce I see in a relationship that the world has grown comfortable in observing for hundreds of years. As such, when it becomes obvious that the two will part ways, most will be shocked and in disbelief. Yet there will be no reconciliation and the split should prove permanent. The divorce I speak of is in the price relationship between gold and silver.
Gold will still be gold, of course, and will remain as it has been since the dawn of civilization, valued by the world’s inhabitants for its beauty and rarity. As will silver. Each will exist forever, as they have existed through the ages. Each will rise and fall in price based upon supply and demand and investment flows and the presence (or absence) of manipulation. Nothing can change that. What will change is the price relationship they have shared in everyone’s living memory. They are about to begin separate journeys.
In the coming price relationship dissolution, silver will be the cause of the break up. That’s because it is the price of silver, relative to gold, that is out of line. Just like a spouse long-abused in a one-sided relationship, silver will be the one to blossom once the marriage is terminated. Certainly, I am not suggesting that gold has abused silver, as inert materials can’t possible abuse anything. The abuse of the silver price has come from the long-running manipulation. It is the coming end of the silver manipulation that will set silver free to begin its own new price life.
One of the irreconcilable differences in the gold-silver price relationship is something quite visible. Yes, both have been manipulated in price by the concentrated short selling of the big bullion banks on the COMEX. But the amount of short selling in gold never exceeded the amount of real gold existing in the world that could conceivably cover the short position. For example, the current total commercial net short position in COMEX gold futures sits at 20.4 million ounces (as of July 21). The net short position of the 4 largest traders is 16.1 million ounces. That’s a lot in terms of dollars, almost $20 billion and $16 billion respectively, but not so much in terms of the amount of gold bullion in the world (2 billion ounces). The total net short position in COMEX gold futures represents just 1% of the gold bullion in existence.
Half of the gold bullion in the world is owned by government entities (remember, I speak of gold bullion only, not the total 5 billion ounces of gold said to exist in all forms). The US government, alone, is reported to own 260 million ounces of gold. If the big 4 gold shorts really got into trouble, just 6% of the US Government’s gold stash could conceivably be used to bail them out completely and make delivery, if necessary. Let me be very clear here – I’m not saying this will happen. I am saying it could happen. If the US, or any number of other world governments decided that a gold short covering price fire must be extinguished, they could put it out with physical material if they chose. Not would, necessarily, but could.
This is not the case in silver. The 4 largest traders are net short 235 million ounces on COMEX futures. While that’s not very large in dollars, at just over $3 billion, it is enormous in terms of the amount of silver bullion in existence. The big 4 in silver are short more than 23 times what the big 4 are short in gold, relative to above ground bullion inventories. But here’s the kicker – there is no possible way for any government entity to extinguish a silver short covering price fire by actual delivery of government owned silver. That potential price smothering material simply does not exist in government hands. The US Government, the world’s largest owner of gold reserves, and formerly the largest owner of silver reserves, now owns no silver. For those that are convinced that there is government involvement in the gold and silver price manipulations, this is a difference worth considering.
This is not the only difference that will lead to a gold/silver price break up. The reason we have such a mismatch in the relative size of the short positions compared to world inventories, lies in the very nature of what silver has evolved into over the past century. Silver became a vital industrial material and its formerly large inventories have been consumed to the point where there is less silver bullion in existence than there is gold bullion. That one in a million of the world’s citizens know this fact, promises to make the gold/silver price divorce, when it occurs, as sensational as the most notorious celebrity split. Only instead of reading of racy details in a trashy tabloid, the specifics will be carried in the financial press and in price reporting. The growing awareness of the particulars of the divorce will drive many to want to buy silver.
I have long anticipated this divorce, but now its timing seems at hand. This has been the recent theme of my articles, where I have evoked images of this could be the last time and game changers. As an analyst studying supply and demand fundamentals, timing is not normally the focus of my attention. If I am to be wrong, it will likely come on the timing side. That said, there are two features in the current environment that may bear on the timing of the coming gold/silver split. Whether this is the time should be revealed in these two factors.
One, the current relative structure in the gold and silver futures markets, as defined by the Commitment of Traders Report (COT), suggest the divorce may be near. In gold, the commercials are shorting heavily again, showing no fear in selling into the recent price rally. So far, the big shorts have not yet shown a similar willingness to short additional silver contracts. This holds the promise that they may not short on further price gains. Simply put, if the big silver shorts don’t sell additional contracts, the silver price will fly and the divorce papers will be filed. If they do sell, the price marriage will be held together temporarily.
The second factor involved is the course of the CFTC in dealing with the issue of position limits in silver. This is directly related to whether the big shorts sell additional silver contracts. If the Commission does the right thing (as I hope), and levels the playing field in silver, then the big shorts can’t sell more COMEX silver short. If that occurs, as it should, the gold/silver divorce will be final. If not, the bad marriage will linger.
Just like a marriage that never should have occurred, given the real facts, silver has no business being less than 2% of the price of gold. Whether it deserves to be equal to gold in price is debatable, but it certainly doesn’t make sense for gold to be 70, or 50, or even 20 times more than the price of silver. On any reasonable and objective measurement, from annual production to existing inventories, the gold/silver price relationship is lopsided. You may think my divorce analogy is a bit extreme, but the coming price out-performance of silver compared to gold will reward those who back the real winner. The current price relationship is on the rocks. Those that can switch gold holdings to silver should do so without delay.
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