Shorting Gold: 8 More Signs Gold is Overdue for a Correction
Shorting Gold: 8 More Signs Gold is Overdue for a Correction
by Louis Basenese, Advisory Panelist
Senior Analyst, The Oxford Club
Two weeks ago I told you it was time to start shorting gold. And the recommendation, as I expected, ignited a brew-ha-ha on our Investment U message board.
That’s because there’s not much middle ground. Most investors are either fanatical or supremely skeptical. If you have any doubt, check out the comments - and all the wonderful names I got called - on our website.
But since I’m a glutton for punishment, and since gold moved in exactly the opposite direction I predicted, it’s time for an update and a little clarification.
A Morsel of Clarification on Shorting Gold
Let me start off with a morsel of clarification. I don’t hate gold. I own it, or more accurately, an interest in gold via gold mining shares. And I believe a small allocation (5% to 7%) has a useful place in a well-diversified portfolio. Over the long haul, studies confirm it helps increase returns while minimizing risk. A benefit we can all agree is desirable.
But over the short-to-intermediate term - the next six to nine months - I think gold is a terrible investment. After breaching the $1,000 per ounce mark again, as I suggested would happen to my subscribers on February 2, it is overdue for a retracement back to roughly $700 per ounce.
Those of you who expected it to drop the day after I suggested shorting gold need to understand that “short term” doesn’t mean “this week.” Just because it moved higher doesn’t negate the point of the recommendation.
Long story short, I view shorting gold as a way for me to hedge my long-term holdings. For traders, it’s a profit opportunity to consider. And whether we see eye to on this is irrelevant. Ultimately, the market will be the great arbiter of our differences.
For kicks though, let’s address a few of those minor points of disagreement…
Shorting Gold is Not Really Contrarian
A small army of you suggested I was being an “arbitrary” contrarian when I suggested that it was time to start shorting gold. That no evidence, just a warm and fuzzy feeling, existed to back up my call.
Are you kidding?
Sure your “Cousin Vinnie” as chronic poster Todd opined, the trash collector or the newspaper boy might not be investing in gold. But the rest of the lemmings certainly are…
- Investments in coins and bars increased 811% in the fourth quarter, according to the World Gold Council.
- Headlines abound in the mainstream press like this one from The Financial Times - “Gold primed to be ‘mania asset.’”
- Wannabe gold bugs are paying - willfully I might add - 20% premiums for coins and small bars. Forget buying gold, we should all become coin dealers!
- Investors - like teenage girls at New Kids on the Block concerts in the late 1980s - can’t reach out and touch the SPDR Gold ETF (GLD) enough. It’s now the second-largest ETF in the United States with a market cap of roughly $33 billion. With more than 1,000 metric tonnes of gold, speculators now control more gold than many industrialized nations. If that doesn’t scream “out of whack” I don’t know what does. Many of you respond by saying the investors here are institutions, so the inflows are not indicative of a top. You’re wrong. Individuals, according to Morningstar, accounted for an estimated 60% to 70% of the investments in the last four years.
- The world’s largest gold refinery is pumping gold coin blanks at a rate not seen in 23 years, according to Bloomberg.
- Reuters reports investment consultants are now advising pension funds and high-net worth clients to invest 5% to 7% percent allocation toward gold and gold stocks. After being an investment consultant to such clients, I can confirm such allocations are new. And will be followed, if they haven’t been already.
- If you’re a newsletter junkie, like myself, no doubt you also noticed the sudden explosion in “gold experts” that have some overlooked, stealth play on gold you need to consider. It’s poised for 500% gains (or more), they say! All you have to do is read a 16-page teaser and sign-up for some newsletter. Marketers tap into what’s hot, typically as a trend is cresting. Don’t expect this time to be any different.
- From today’s Wall Street Journal, futures investors are taking delivery of gold at more than double recent levels (4.5% versus 2%). Paranoia anyone?
If the above isn’t sufficient evidence to be a contrarian, I don’t know what qualifies then.
Why should I listen to you, Lou?
Others of you simply wanted to know, why you should listen to me - a Wall Street flunky, “idiot” or a “young analyst who thinks he’s got the magic touch and will never be wrong.”
Forget that the last reader - and yes it’s the chronic poster and my new “buddy” Todd - is completely clueless and didn’t catch my transparent about-face on the dollar here. Or my confession that I flubbed the rebound in financials.
I’m human. I will be wrong. I’m man enough to admit it. But I don’t think shorting gold will be one of those times.
And if I don’t have enough credentials to make such a claim, in your opinion, fine by me. Listen to someone more “qualified.” Plenty of them exist that are also starting to question the merits of investing in gold, or at least acknowledge the mania…
…Newsletter god, Dennis Gartman says, “It’s a little worrisome that so many people are piling in [to gold].” He expects a pullback, too. Just not as far as me.
…Peter Munk, founder of Barrick Gold, says he’s never seen such strong interest in physical gold ownership.
…”This will all end badly, just like all other bubbles,” predicts Leonard Kaplan, President of Prospector Asset Management, a commodities futures brokerage in Evanston, Ill.
…”Historically, when stocks begin to underperform gold, that’s a sign that gold is running out of steam,” according to Ray Hanson, a technical analyst at RBC.
My Biggest Concern
What really scares me is that some people take gold investing to an extreme. They actually believe in a government-orchestrated conspiracy to suppress prices, as some of you revealed in your comments.
It’s pointless to engage in lengthy debates with conspiracy theorists. Logic means little. But let’s suspend disbelief for a millisecond and say you’re right, that the price of gold is being fixed.
Why in the world would you throw hard-earned money after the slim prospects of actually exposing and overturning the fix? Talk about a low probability of success.
But I digress. What’s most troubling is many investors, including some in my industry, say gold is a forever position and they are committed to “a lifetime pattern of purchasing” and will never sell. Some of you even revealed 50% of your portfolio is invested in gold.
Here’s the thing. I know that Christopher Columbus says, “Whoever possesses it [gold] is lord of all he wants. By means of gold one can even get souls into Paradise.” But if financial Armageddon unfolds, which many gold bulls predict and in some sickly way wish for, gold will be priceless and worthless at the same time.
How so?
If world governments collapse, social order goes to heck, McDonald’s won’t magically be set-up to “make change” for your gold bars. ATMs won’t spit out Krugerrands.
What’s more, even if the price of gold tops, say $5,000 per ounce under such circumstances, what can you do about it? Cashing in on the gains means accepting the thing gold bugs completely despise, paper currency, in return. So indeed, it will be priceless, useless and worthless all at the same time.
Bottom line, the world isn’t set up to handle gold as a currency. Not now. Not ever. It’s merely an asset. And like all other assets, it’s susceptible to bubbles.
If you’re in the speculative mood, I recommend shorting gold in the coming months. Especially since, as the saying goes, “gold goes up on an escalator and comes down in an elevator.”
At the very least, examine your reasons for owning gold. If you believe the end of capitalism is nigh and financial ruin is imminent, just remember you need gold to be liquid, acceptable and portable for your investment to be really worth anything.
All three are big question marks, convincing me John Maynard Keynes was more right than most want to admit. Outside of a small allocation for diversification purposes, gold is indeed a barbarous relic.
I’m off to the message board to prepare for the onslaught of “fan mail”…
Good investing,
Lou Basenese
P.S. If you’re looking to add the physical asset of Gold or Silver to your portfolio, we’ve found that one of the easiest ways is through our partners at Everbank. They allow physical delivery and don’t charge management fees.
*We disclose the fact that we have a marketing arrangement with Everbank. But we’d recommend their products anyways.
Editor’s Note: If you want to get one-step ahead of the small cap rally, and identify the big movers before the rest of Wall Street, check out Lou’s new advisory service - The White Cap Report. It does nothing but uncover small cap gems, destined for double- and triple-digit gains. In fact, Lou just closed out a 50% gain - in less than a month. To get ahead of gains like these, consider signing up for The White Cap Report.
Today’s Investment U Crib Sheet
Lou Basenese has been a firm believer that small-caps are the place to be for 2009. He’s been encouraging readers to consider adding small caps during the market’s slump. Here’s an excerpt from his Small Caps for 2009 article below.
Why 2009 Will Be a Small-Cap Stock World After All
“Let me tell you why jumping into the deep-end and buying traditionally riskier small cap stocks is actually the smartest bet right now. I’ll let the data, not my own personal convictions, do most of the talking…
- Coming out of recessions, nothing beats small caps. Last month, the National Bureau of Economic Research (NBER) made it official. The U.S. economy is in a recession. No matter when we make the calculation (after one month, six months, one year, even three years) small cap stocks trounce their larger brethren coming out of slowdowns, according to the data crunchers at Old Mutual and Morningstar.
- Even if the economy doesn’t recover in 2009, small cap stocks should shine. The latest from Citigroup Global Markets indicates small caps could care less about the underlying economy. Even in years of flat or negative GDP growth (up to 2%), small caps return an average of 44%.
- One month can make a difference. Based on the 10 worst years for stocks since 1927, small caps jumped 18.17% in January alone. Meanwhile, large caps barely showed up for the much-heralded January effect. They only muster a 3.1% gain, on average, according to Cambria investments. I don’t know about you, but the prospect of one-month double-digit gains, especially after this year’s drubbing, excites me. The fact that they could come just weeks from now is even more tempting.
In the end, only time will tell if a small-cap rally is truly underway. By then it will be too late. I suggest you heed the data that keeps piling up in favor of small caps. I’m not saying you should invest in nothing but such stocks. But you should at least consider increasing your exposure.
Here’s one last data point to chew on: Since 1926, Morgan Stanley found large caps return more, on average, when they trail small caps. When large caps lead the way they only return 7% per year on average. When small caps shine, large caps return 13% per year, on average.
Put more plainly, a small-cap rally is a win-win. Their strength brings our large-cap holdings along for the ride, too.”
Lou also touched on the Best Way to Play the Emerging Small Cap Rally and Two IPO’s the Market Should be Watching. In short (pun intended), there’s lots of data that’s pointing to reasons why you shouldn’t discount small caps for 2009.
For another way to take advantage of the upcoming small-cap rally, consider subscribing to The White Cap Report.
2009 Archives, Investing in Gold, Louis Basenese, Top Home Page, investing in precious metals
Whew! At last someone puts my mind at ease on the question: What the heck do I do with these pieces of gold?
Where I am, I can open what I call a “gold-denominated account” in a bank. The balance in the account changes with the price of gold. So, in a way, it’s like owning gold, only you own it in the form of money, not metal. I think that’s so much more useful.
I thought I was quite alone in this, and was wondering what I was missing in the decision not to rush into the gold rush. Well, now thanks to this article, I can feel fine about not being a gold bug.
BANK PARTICIPATION IN FUTURES MARKETS
(IN CONTRACTS)
BANK BANK LONG SHORT OPEN
DATE COMMODITY TYPE COUNT FUTURES% FUTURES% INTEREST
02/03/09 CMX GOLD U.S. 3 3,629 1.0 111,190 32.1 346,288
NON U.S. 23 33,434 9.7 42,335 12.2
—- ——— —- ——— —-
26 37,063 10.7 153,525 44.3
02/03/09 CMX SILVER U.S. 2 0 0.0 27,189 29.0 93,813
NON U.S. 13 8,416 9.0 1,871 2.0
—- ——— —- ——— —-
15 8,416 9.0 9,060 31.0
The Bank Participation Report for positions as of February 3, indicates that three or fewer U.S. banks hold a record short position in COMEX gold futures of 111,190 contracts (over 11 million oz). an increase of 28,690 contracts from the January report. The previous record short position by U.S. banks was 86,398 contracts in the August Bank Participation Report.
http://www.cftc.gov/marketreports/bankparticipation/index.htm
In other words, the current short position held by two or three U.S. banks is almost 30% greater than the previous record. After the previous record August short position was reported, gold prices fell almost $200 over the next two months. Will that happen again? I don’t know. What I do know is that if gold prices do suffer a sharp decline, it will only be because this manipulation by two or three U.S. banks was successful.
Allow me to put the concentrated short positions in gold and silver into perspective. As the February BP report indicates, one or two U.S. banks held a 29% share of the COMEX silver market and two or three U.S banks held a 32.1% share of COMEX gold futures. Of the 73 markets covered in the report, no other market has a U.S. bank percentage even close to silver and gold, save the smallest market listed, 90-day EuroYen Tibor (Although I have over 35 years of futures experience, I don’t know, nor do I wish to know, what that is).
Please keep in mind that the Hunt Brothers and all their reported associates had a futures market position (COMEX and CBOT combined) that was under a 10% share of the total silver futures contracts outstanding at that time and were charged with manipulation. What aren’t short positions three times as large also manipulative?
As large as the current gold and silver percentages of the market held by one, two or three U.S. banks may be, those percentages are grossly understated because spread positions are included in open interest totals. Remove all spread positions (non-commercial and commercial) and the share of the market held by one or two U.S. banks in silver rises to 41.5%, and not 29%. In gold, the share of the market held by two or three US banks is really 45%, not 32.1%. How could one or two traders holding 41.5% of any market, or two or three traders holding 45% of any market not be manipulative?
When the market share of the one, or two, or three U.S. banks in silver and gold are compared to the total share of all commercial traders, the result is truly shocking. In silver, the one or two U.S. banks account for more than 81.6% of the total net short position of all commercial traders. In gold the three or fewer U.S. banks account for more than 62.3% of all commercial shorts. With such a lion’s share, these big banks completely dominate and control the gold and silver markets.
Lastly, by comparing corresponding COT and BP report data from January 6 to February 3, I can make the following statement. The entire net increase in the commercial short position in silver and gold (2,500 contracts in silver and 28,000 contracts in gold) basically came as a result of new shorting by the big U.S. banks. In other words, neither the 5 through 8 largest traders, nor the 9+ commercial traders (the raptors) changed their positions much during that period. Almost all the selling was by the big U.S. banks in both silver and gold. Ask yourself this - what would the price of gold or silver have been if these big U.S. banks hadn’t sold short in such quantities? How can that not be manipulation?
It appears obvious that the CFTC began its current silver investigation as a result of revelations in my article “The Smoking Gun” http://www.investmentrarities.com/08-22-08.html and because many hundreds of you wrote in to the Commission. Without that public participation, there would have been no investigation. But one thing always puzzled me, namely, why did that investigation appear to center on silver? What about gold? After all, in my article, I highlighted the extreme concentration on the short side of COMEX silver and gold futures and asked how it was possible that such concentrations could not be considered manipulative in both markets. Make no mistake, the silver market is the most manipulated market in the world. But gold is close behind.
For the record, I am neither a gold proponent or antagonist. I am a gold agnostic. I like to think that makes me more objective than most. I understand why people buy and hold gold, and I respect their reasoning. I study the facts concerning gold closely. If there were no such substance and story as silver, I would imagine I would be a gold proponent. Certainly, higher gold prices do not harm silver. I know there are times when gold is positioned to rise and fall and I try to analyze appropriately. While I profess to a neutrality on gold, I don’t profess to a neutrality on manipulation. The latest data from the CFTC confirm a manipulation in gold. Gold people should not tolerate it. Since there must be at least a hundred times more people interested in gold than are interested in silver, their collective voice could be forceful.
The evidence in the February Bank Participation report is clear - two or three U.S. banks held a record net short position equal to 15% of total world annual production of gold, a staggering and unprecedented number, exceeded only by the absurd percentage in silver (currently 20%). In every reasonable measurement of market share, two or three U.S. banks are completely dominating and controlling the gold market. All according to government data.
Who gave these U.S. banks the right to manipulate gold prices? The U.S. Treasury Department? Why are banks who are receiving taxpayer bailout funds even shorting gold and silver in the first place, especially at a time when so few other big entities chose not to? Shouldn’t they be looking to make loans to real people and businesses and leave market speculation to others? Are there no honest market regulators left? I sure hope gold people get to the bottom of this and give these crooks what they deserve.
Law & Order
I want to thank all who wrote to me about the recent testimony of Harry Markopolos before a congressional committee regarding his prior warnings to the SEC about Bernard Madoff. All compared this episode to my two-decades long campaign to get the CFTC to end the silver manipulation. If you haven’t heard or read Mr. Markopolos’s testimony, you should do so. It’s long, but it’s very instructive http://financialservices.house.gov/markopolos020409.pdf
In his statement, Mr. Markopolos highlights the SEC’s ineptness and arrogance, and comes up with a no-nonsense solution - fire and replace the entire senior staff who should have caught Madoff years earlier and revamp the structure for uncovering fraud. As far as the comparison to the CFTC, let me just note that it is widely acknowledged that the SEC is considered much more competent and alert than the CFTC. So, if the SEC could bungle and miss a major fraud for more than a decade, despite repeated warnings, is it not possible that a much smaller staffed agency could do the very same thing?
There was a sharp contrast between the television coverage of Mr. Markopolos’s testimony and what I usually watch on TV for entertainment. Most of my leisure television viewing time involves watching reruns of the show “Law & Order.” It’s been that way for many years. I watch the show for much the same reason I imagine children watch Disney cartoons, namely, for fantasy escape purposes. Where Disney portrays heroic and kindly animal cartoon characters, “Law & Order” portrays dedicated public servants, police and prosecutors alike, who risk their lives and devote all their time to protecting society and upholding the law.
The show allows me to balance the reality I face each day with a nightly escape of what should be. There is no SEC ignoring credible warnings, nor a CFTC dismissing hundreds of bona fide complaints on any of the nightly reruns. Instead, the public servants on TV leave no stone unturned to get to the truth and let justice and the law prevail. Oftentimes, the TV public servants cross the line and are too aggressive in their pursuit of the bad guys and are reprimanded, with the resultant message that the rule of law must be observed at all times. The irony is that the fictional characters on TV have sworn to the same oath of office as have their real-life counterparts at the CFTC and other government agencies.
I accept that my TV viewing is fantasy and escape, as much as I accept that the CFTC is incompetent, uncaring or worse. The only issue is what to do about it? Live in a world where the law is upheld only on television, or bring pressure in the real world where it is not? For me, it’s an easy choice. I know I must do what I can to terminate the silver manipulation. That’s the primary purpose why I write publicly. Specifically, my role has evolved into presenting credible evidence of the manipulation and then trying to persuade you to pressure public officials to terminate the manipulation.
Before you bury gold in trail dust, I suggest you be informed that we are sitting on not only a 3,000 year (at 24/7 production from our own mines) supply from our own privately held mines but also more long term orders for both dore’ and bullion priced at moving scales upward over thirty six months. Up and down shorting sure, but constant upward pressure from existing orders to 1800/2500 per troy ounce by July, 2010. DR. C Reuben Geeslin, Ch,
Gold Network Mines Pte. Ltd, Singapore
Lou-
Bravo…
I’m not very knowledgeable about gold per say, but
if I ever read a more insightful article regarding same, I can’t remember!
Let the know-it-alls beat you up over your article, the’ll wish they had understood when gold is down under 800 dollars. Well Done!
As I said in that “other” thread, previously I had twice ignored Lou to my loss and this time I spoke to my trader with more understanding and I decided Lou was right and I sold my gold and silver three days ago (for a small profit) and went short on Silver which as I write was the right thing to do. I shorted yesterday at $13.70 and this morning we are down to 13.08.
I’d be interest to know how Lou get his $700 gold target as my trader has a low target of $880 - a big difference.
Lou,
Thanks for clarifying your position - glad you made it clear you were only talking about a trade for possible short-term gain.
But is 9 months really an intermediate time frame?
More importantly, for those of us with a longer investment horizon (say 1 year or longer), shouldn’t we be more concerned about the possible inflationary consequences of the large increase in the money supply that the Fed has been orchestrating since the financial crisis hit? If so, then it seems to me that jumping in and out of gold at this point is like playing with fire.