Gold and Silver - its direction

There is still a big debate on the direction of gold.

On the mainstream media, gold is deemed something of no value, does not pay a dividend and probably just a barbarous relics as mentioned by economist Nouriel Roubini.  All these Keynesian academics including Bernanke, are of the view of economists who believe that the current pumping of money into the system is necessary to sustain the velocity of money or the world will not go into a deep depression. We have deflation now and not inflation. Deflation must be stopped.

In the academic world, gold is not accepted as a currency

In the mainstream, gold is usually portrayed negatively except for Jim Cramer who recently recommended buying gold in his TV show. Gold dropped from 1424 to 1330 2 days later after his talk. It was the biggest drop since the beginning of 2010.  To many, that is a sign of the top in gold if the mad trader recommended it! Most the high profile commentators include people like Dennis Gartman always say " it could go up a little more but....."

I was kind of surprise that when I heard Greg Jensen mentioned in an update on this Wednesday that gold price is on its way down. He anticipated it to crash. I have learned a lot from Greg on spread trading. He is  a great trader but I definitely disagree with his view on gold.

If  you hear a gold bug, you may got the feeling that these people are like strong headed and extreme fundamentalist who are thoroughly  dogmatic in their views. They look like fear mongers, last day evangelist trying to get the world back to morality. They are believers of conspiracy theories of the Fed and US Government. They are usually the gloom and doom preachers of the economy, high on emotions and conviction but low on logic. Interestingly, these people has been more right than wrong in their proclamation on the price of gold.

Fortunately, we also have fortunately a group of very smart money managers who had a consistent records of making money for many years are also in the same bullish camp for gold.

You may want to listen to recent interview by David Einhorn. In a surprise proclamation, he said clearly that gold is money! His thoughts are clear and arguments are very intelligent.

In the latest report, George Soros has an unusual large holding of gold ETFs and stocks.

We have Eric Sprout, Ambrose of Financial Times, Rick Rule and Bill Fleckenstein . I have followed these people for years.You cannot argue with the wildly successful track records. It is the direct opposite of perma-bear analyst like Nadler who have been wrong for almost a decade. Still today, people are listening to him!

There are  fundamentals that support the case for bullishness on gold. I will just list a few which I feel are most compelling.

1. The simplest argument in my non academic mind is that the whole world is in a crazy spiral of printing paper currency. USA with its bailouts aka  quantitative easing ( including a funny depiction of what is QE), Europe with the bailouts for Greece, now Ireland and eventually, Portugal, Spain and possibly Italy. China came out with a huge spending during the peak of the 2008 recession to revitalized the economy. Japan is determined to fight the appreciation of the Yen by buying back the Yen with their printing press with an amount almost unprecedented. Korea and Brazil are all fighting to keep their export economy. They will not lose out in their currency war by keep their the value of the real and won down.

The European situation is getting really serious. In the news, we know about Ireland but here all all the list of countries pending bailout:

Greece - required Euro 110  b bailout in May
Ireland - Requiring Euro 85 b bailout
Portugal - Pending imminent Euro 40-80  b  bailout
Belgium - Pending approx. Euro 50 b bailout
Spain - Pending Euro 400-500 b bailout
Italy - Pending approx Euro 1 trillion bailout.

Total funds available by all Euro members is estimiated at around Euro 750 b. They have no money. The results is most probably a dangerous spiral of money printing or quantitative easing. Government issue debt -->No demand for new money supply -->Print money to monetarize debt -->Pressure to raise interest rate -->Increase interest payments --->higher inflation - larger budget deficit and ever expanding spiral. Debt default is eventually inevitable in all these countries including USA. Currently, USA and Japan is saying hell to it and will continue to monetize debt forever!

This dangerous spiral is very bullish for all commodities especially gold. The probability of the system breaking down is high. If it does, there will be a parabolic mania in gold and silver. Certainly I do not want to miss this insane phase of the bullish cycle.

The result - where is the value of money anymore! The world is flooded with paper currency. People are "incentivized " to borrow just like the housing bubble. It is happening again. The value must go somewhere. The most logical flow is to hard assets and thus gold and silver are key commodities besides palladium, rare earth, copper, cotton, oil, and grains. Gold is a hedge for stored value.

2. Supply is tight. Total gold demand in the third quarter of 2010 was 922 tonnes, an increase of 12% from the same period a year ago. In U.S. dollar value terms, demand grew 43% to $36.4 billion over the same period.
As to silver, the situation is also aggravated by a tight supply situation. The supply is so tight that a severe shortage can occur anytime. Demand from industrial applications, world bank treasury, and ETFs and supply are totally out of whack. In a chart not shown normally on mainstream press, it can be shown that cumulative open interest of silver is about more than 2 times of net long positions of silver.








3. I wrote about a development on silver in April this year. Recently, things are getting very interesting.

It is well known that one of the major holders of short position of silver is JP Morgan. Also, it is supposed to be confidential with CFTC but this is well known in the precious resource investment community.The CFTC is taking a more serious interest now within its new proactive chairman Gary Gensler.. He seems to be an intelligent, straight shooter and no nonsense guy who wants to get to the bottom of the theory of silver manipulation over the years. To have short position concentrated at 4 largest traders at volume of more than 25% ( or 200 million ounces ) of silver mine annual production capacity, this is definitely unacceptable. Something is fishy. To get more details, read the recent intriguing interview by world leader silver analysts, Ted Butler.

In a surprise statement on October 26th 2010, CFTC commissioner, Bart Chilton admitted the silver market is suspected to be under manipulation and is fraudulent. He will get to the bottom of the matter.  Since then there are about 20 lawsuits filed against JPM by law firms. Many of these are from top tier law firms. It will be interesting to see the outcome

Signs are there that JPM is trying to wind down the shorts. During the last 2 option expirations, silver and gold successfully held their prices. The last expiration was just on Tuesday and it was gratifying to see the price did not drop. For many years, at option expiration prices would be pushed down so that short traders could roll their options to the next month. As a result, huge short positions are accumulated. Gene Arensberg in his report said that he had not seen this kind of actions for years.It is suspected JP Morgan has probably lost lot of money now winding down their shorts.

I have many other reasons to be bullish but I will just list one more important factors. For the first time in many years, central banks are net buyer and not seller of gold Just last month, Russia increased their holding of gold by 600,000 ounces. China is accumulating gold steadily and quietly.

The US has 72.8% of its reserves in gold and. China has only 1.6% of its reserves in gold. China will continue to be a big buyer although they tried very hard not rock the boat and drive the price higher too fast.

So what is my position? Of course I am still bullish. I have been bullish for the last 5 years.

But I am not a buy and hold investor although I suspect that if you have the guts over the last 5 years to do that, you would have made a lot of money. The volatility can be brutal.  I cannot tolerate the uncertainty. So I trade, hedge, buy and sell!

The dynamic collar is the best strategy to manage the trade. I have to depend on my signals from my technical analysis for adjustment. If bullish, I remove the short calls or puts. There are times I go completely naked.  Fortunately, the system allows some mistakes to be made but overall I am maintaining my bullish bias but I will not fall in love with the trade. I will not get out unless fundamentally, the situation has changed.

I remember I bought AAPL at 55 and sold at 90. I bought AMZN at 60 and sold at 85. I bought Bidu when it was 90 and sold at around 130 and today it is more than 1000 if you take out the split.

I learned that there is a tendency for a trade to get out too early that you missed the upside completely.The volatility WILL scare you out. I am getting better at handling it over the years especially after after I started to use option strategies as a key tool for my trade structure.

It is like riding a rodeo in a bull market. The weaker players will be shaken out! The key is that if you finally fall, you know how to break the fall and not get seriously hurt. At least now, I  managed to ride SLW from $3 at at the end of 2008 to about 36 now without wavering and actually added to my positions. It is the single biggest position in my portfolio now.

Similarly, I had done it with a number of stocks which are multi baggers. If I get out too early, I will miss the enjoyable ride. In between, I trade. I make mistakes. But I maintain my conviction on the fundamentals. I use the shorter term trends and adjust accordingly.

Take the example of the recent drop of gold and silver, many people called me and ask what I was doing. I wrote on Nov 16th and update with a comments on my adjustment. I will not have the time to update everything. One day, I can probably show a complete example of my adjustments with all the mistakes and how I am still profitable finally.

There is one condition when I will get out of a trade structure although I am bullish fundamentally. It is when my overall trade starts to lose more than 10%. At this juncture, I know I have lost control of the trade. I will get out.. If I try to stay in the trade, I will make more mistakes. Also, I will lose my risk control.It is my way of breaking the fall. If the ride is still available, I will get on again. I will watch carefully for the right time to get back again. I will try not to forget to get back as long as the fundamentals are intact. It will be on the top priority on my watch list.

Ultimately,  you will  have to develop your own experience and trading style.