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History In The Making
By Theodore Butler
(The following essay was written by silver analyst Theodore Butler. Investment Rarities does not necessarily endorse these views, which may or may not prove to be correct.
We live in financially troubling times. More troubling in many ways, I believe, than any I have witnessed in over 30 years of market observation. It’s not just the volatility of certain markets, like the stock market, that leads me to this conclusion. After all, I have participated in the volatility of $800 gold, $50 silver and sugar, $12 soybeans and 18% interest rates. It’s not just the terrible decline in the stock market and the horrific toll it has taken on so many millions of people, it’s something else that I can’t quite put my finger on. Maybe it’s the breakdown in trust in public and private institutions, or maybe it’s just my uneasiness at how many ordinary people are super tuned in to matters of finance and react in unison. Or, maybe it’s just my imagination.
What it might be that bothers me is that too many companies and, even industries, can, literally implode, often without notice, almost overnight. It’s as if there was no foundation to start with; Enron and the energy trading companies, Worldcom and the telecoms, Arthur Anderson. Everywhere you look there seems to be insupportable promises and guarantees, backed by massive debt. Who’s next? I don’t know.
What I do know is that silver won’t be next. We won’t wake up and discover that there was no strong foundation in real silver, or that it was massive debt that propped up silver. Silver doesn’t need an auditor’s approval. It doesn’t need a collective belief. It is not anyone else’s liability. It is in a completely different realm than the financial debacles we witness daily. Silver can’t go bankrupt. Oh, maybe from much higher levels, the risk factors in silver may grow, but not now, and not at these price levels.
I’m writing this article from the beauty and serenity of the North Carolina Mountains. I’m writing after the close of the market on July 26, a week sorely lacking in serenity in the silver (and gold) market. I will attempt to explain just what happened to cause the near 50-cent sell-off and what happens next. I’ll also include my new letter to the Chairman of the CFTC, James Newsome, which should be self-explanatory.
Silver dropped for one reason and one reason only. The concentrated shorts on the COMEX finally succeeded in engineering the sell-off. (By the way, this is also the only reason gold sold off last week, but I’ll confine, as usual, my remarks to silver). Let me give you my explanation to back my statement, and you can decide for yourself if you think I’m correct.
As is the case 99% of the time, the price of silver only moves when the COMEX is open, or about to open (when the COMEX Access electronic market is liquid). Last week, and most always, the price of silver was set on the COMEX. Not London, Zurich, Tokyo, Hong Kong, or Timbuktu. Maybe they trade some silver in those places, but it can’t be much if the price only moves when there is COMEX trading. In everything traded, the biggest market sets the price for smaller markets. There is no exception to this rule. It is the way of the markets and of the world. So, the first thing we can say about last week’s silver sell-off, without any fear of contradiction, is that it was a COMEX dictated event.
Since we can isolate the sell-off to actions on the COMEX, and therefore know where the sell-off emanated from, let’s now look at why silver sold-off. For this, we need to look at market structure, or more precisely, who was buying and selling. Fortunately, there are clear and reliable tools that can answer the “why” question. These tools are daily volume and open interest statistics and the Commitments of Traders Report (COT). While the COT covering the latter part of last week won’t be released until Friday, August 2, it’s not difficult to know what that report will show. It will show, and is verified by known volume and open interest statistics already available, that the technical hedge funds, who were massively long, sold out much of their position, responding to lower prices, on a pure mechanical basis. The funds buy on the way up, and sell on the way down. It is the essence of what they do. Into this selling, the concentrated commercial shorts bought back a lot of their short position.
So, I am saying that the price of silver (and gold) went down last week, due to one reason and one reason only – the technical hedge funds sold tens of thousands of contracts. There is no number two reason, or number three reason. This is the only reason. It was not the dollar, nor the stock market, nor interest rates, nor the central banks, nor anything else. Most importantly, it was not anything remotely connected to real supply and demand. It was strictly paper trading on the COMEX. This is my point.
Some people will be surprised to learn that in the biggest sell-off in silver in many a moon, the “bad guys”, the concentrated dealer short sellers, were the big buyers. Let me repeat that – the dealer shorts on the COMEX, who I consistently and publicly accuse as being the manipulators of silver, were the big buyers of silver last week. The biggest previous buyers, the technical hedge funds, who were the longs, were the biggest sellers, and the very immediate cause of the plunge in prices. Have I lost my mind? Have I confused myself as to who the real culprits are in the manipulation of silver? I don’t think so.
This would be a good time to reread my previous offerings on the COT, and my many, many letters to the CFTC this year concerning the manipulation by the large concentrated dealer shorts – the 4 or less, or 8 or less big sellers. Read my warnings to the Chairman about the 4 or less traders selling massive and uneconomic amounts, hundreds of million of unbacked ounces, whose only intent was to cap the price and then drive it lower. I tried my level best to get the CFTC to end this manipulation and force the large shorts to close out, or buy back, their short positions. I enlisted your support in that effort (and I still profusely thank you for your participation.) Unfortunately, the CFTC turned a blind eye towards our complaints of manipulation, even refusing to respond to Senators and Congressmen.
But we must deal with reality, and the reality is that the CFTC sided with the concentrated shorts. This all but guaranteed that the technical funds would be forced (by the lower prices caused by the heavy selling of the dealers) to turn aggressive sellers at some point. That point was last week. The manipulation didn’t start last week, it just manifested itself last week. The manipulation began when the concentrated dealer short sellers sold massive quantities of stuff they didn’t have or have a prayer of getting. The dealers sold for one reason – to cap the price. They knew that the tech fund buyers would turn sellers soon enough, as they always did.
I’m no big fan of the technical hedge funds. I feel strongly that their indiscriminate and mechanical buying and selling disrupts all markets, not just silver. I feel that they should be more tightly controlled so as not to disrupt the markets the way they do. After all, the number one premise of commodity law is that speculators should not set or influence the price of a commodity, only real producers and consumers should determine prices. The CFTC has lost its bearings in overlooking that key aspect of the law, and need to be reacquainted with the law.
But compared to the disruptions that the technical funds cause in our markets, the commercial dealers on the COMEX make the funds look like choirboys. These COMEX crooks not only make the funds’ market disruptions possible, they orchestrate the disruptions and control every aspect of the market. And even though the CFTC has sided with them and has allowed these dealers to continue to rig the market, the good news is that they have stepped so far over the line, in terms of violating the law, that they have left a paper trail a mile-wide (the COT). This, and the growing public demand for the stamping out of corporate fraud, will prove to be their demise, in my opinion.
My intent, clearly, is to turn as many folks as possible into long-term investors in real silver, not convert anyone into a short-term silver trader. You should be a long-term investor in silver for the right reason – the fundamentals. This is all that really matters. Silver is in a long term structural deficit. The world consumes more silver than it produces, meaning every single day, without exception, there is less silver in existence than the day before. When that changes, namely, when the world produces more silver than it consumes, you should think about selling. Of course, that can only happen when a high price discourages consumption and encourages production. We are a very long way from that.
Once you grasp just how bullish the silver fundamentals are, you must be able to reconcile why the price does not reflect those fundamentals. The answer, of course, is leasing and short selling on the COMEX. It is mandatory, for your mental health, to understand this dichotomy. It took me many years to fully understand just how we could have the most bullish situation a commodity could have, coupled with the lowest inflation-adjusted prices in history. This story in silver is historical in nature. Never has the world witnessed such a situation.
Most importantly, you must grasp the personal significance of the leasing and COMEX manipulation, superimposed upon the wildly bullish fundamental situation of silver. While it’s natural to feel frustrated and even angry about blatant manipulation and negative price action, it is far more important for your family’s financial welfare to understand and take advantage of what is literally a once in a lifetime opportunity. These COMEX manipulators are doing you and your family the biggest favor possible. They are enabling you to take advantage of the surest and best risk/reward investment opportunity ever. They are quite unintentionally presenting you with a gift on a silver platter. It is extremely unlikely any of us will be presented with such an opportunity again.
The trick, as I said, is to put the COMEX manipulation into proper context. While paper actions there caused the sell-off last week, events in the real world of silver told a different story. Last Tuesday, July 23, President Bush signed into law the authorization for the US Mint to buy silver on the open market to produce Silver Eagles and other silver commemorative coins. With little fanfare, the US Government has turned into silver buyers for the first time in most of our lifetimes. This is profoundly bullish. Not only will Uncle Sam add to the silver deficit from now to eternity, the government, by acknowledging it is out of silver for the first time in the history of the Republic, can never drive the price lower with sales or threatened sales of silver, as it had on numerous occasions in the past. When we finally blast off in silver, for the first time in modern US history, the Feds won’t be able to stop the price with arbitrary sales. (That is a key difference between silver and gold).
Something else that has been overlooked are signs of tightness in the wholesale physical silver market. A little while ago, I speculated that there would be physical withdrawals from the COMEX silver warehouses that would confirm my guess that the recent publicly announced purchase by the Central Fund of Canada of 4 million ounces of silver would have to come from the COMEX warehouses, because it wasn’t available elsewhere. I promised a follow-up. Well, it turned out more bullish than I anticipated. Not only were much more than 4 million ounces removed from the COMEX since then, when I last checked, the Fund had still not received all their silver. I want to be very clear on what I am saying. There were also shipments of silver into the COMEX warehouses during this time period, so that the net decline in warehouse stocks were minimal, maybe 2 to three million ounces. But that doesn’t concern me. What I was looking for was gross turnover – real movement in COMEX silver inventories. Remember, the COMEX silver warehouse inventories usually don’t move much. Most days there is no movement. That’s because virtually all the silver in the COMEX warehouses is held for investment purposes. There is no good reason for an investor to move COMEX silver around. I speculated there would suddenly be movement to satisfy the Central Fund’s purchase. What I actually discovered surprised me. What I found was unprecedented movement of silver into and out of the COMEX warehouse since the date of my speculation. And in spite of this great physical movement, the Central Fund still hadn’t received all its silver. What that tells me is this – there is suddenly great wholesale demand for silver possibly for industrial purposes, as investors don’t usually move silver. This could be a signal that the last remaining known stockpile of silver in the world is suddenly being tapped. As far as new stuff still coming in, I could imagine that the shorts are bringing in silver from all over to prevent the total amount from declining. If I’m correct in my guess, that is a very short-term solution for them.
There you have it – on a fundamental, consumption/production, real world supply and demand basis, silver is spectacular. We have disappearing inventories and a deficit that’s the most bullish condition in which a commodity could possibly exist. The price is not sky-high as it should be, to reflect these fundamentals, but depressed beyond belief due to an obvious manipulation growing more obvious daily. The growing awareness of the manipulation guarantees its demise. When this manipulation dies, as it surely will, silver prices will make history on the upside. Make sure you’re part of that history.
The price drop caused me to write this letter to the CFTC and express my distress over why it happened.
July 29, 2002
The Honorable James E. Newsome
Commodity Futures Trading Commission VIA FAX and E-MAIL
Three Lafayette Centre
1155 21st Street, NW
Washington DC 20581
Dear Chairman Newsome:
Despite numerous warnings over the past six months, concerning the stranglehold that the concentrated shorts on the Commodity Exchange, Inc. (COMEX) held on the silver market, the Commission turned a deaf ear. Now, innocent silver producers and investors have suffered the consequences of the Commission’s inaction. Because you gave the concentrated shorts the green light to manipulate the silver market, they have succeeded in capping the price and driving it sharply lower, in contrast to what has been happening in the real world of supply and demand. This is expressly in violation of the primary intent of commodity law. Worse, the Commission has not even had the decency to respond publicly to complaints by citizens and elected officials alike.
The concentrated shorts had finally sold the sufficient hundreds of millions of ounces of paper naked contracts to smother the market and engineer the sell-off by the technical funds, as they have done for years. The Commission ignored, once again, black letter law in permitting this. The concentrated shorts are obviously hiding behind the hedge exemption to avoid being labeled as speculators. But it is easy to prove these commercial shorts are pure speculators, who are using the hedge status to trade speculatively in unlimited quantities. The proof is this – what legitimate hedger would first sell massive uneconomic amounts of any commodity below the cost of production, and then cover on a short-term break? Like Enron, these dealers (and you know who they are) are just bullying the market by buying and selling massive and uneconomic quantities. Like Enron, you are looking the other way, while genuine market participants suffer.
In addition, the dealer-inspired sell-off on the COMEX came in the same week that President Bush signed into law the authorization for the US to buy silver for the first time in either of our lifetimes. More bullish news is not possible for any commodity, and only reinforces the fact that phony trade practices on the COMEX are setting the price, and not real supply and demand.
Our primary silver mining industry will go bankrupt and disappear at the current manipulated price of silver. The price of silver is not where it is currently, due to the free workings of real supply and demand. Silver is priced where the COMEX crooks decide it should be priced. Congress had created the Commodity Futures Trading Commission to prevent such an occurrence. Congress is now, with the full approval of the American people, taking swift measures to strengthen financial anti-fraud laws and increase the punishment for offenders. Yet your Commission refuses to act or even respond to substantive and specific allegations of fraud. You took an oath of office, swearing to uphold commodity law. Commodity law is being violated, in a most offensive manner. If you won’t enforce the law, or explain why it isn’t being violated, then step aside and let someone else do the job.