Topic: Gold and Silver
The Significance of Gold Backwardation Explained (4/5) "The [gold] bulls are on the warpath." - Dr. Antal Fekete, December 10, 2008by Jake Towne, the Champion of the Constitution
(libertarian)
Thursday, December 11, 2008
"And we are in no mood for prisoners." – Jake, the Champion of the Constitution
I’ve written what is amounting to a short series on what is, in my opinion, the major economic event of gold going into backwardation and what this will mean. Due to recent interest, particularly email comments, in this article I would like to further describe this event and in the next part share links to more gold and silver news on this topic with you (as well as some objective criticism of Fekete). I think it is also important to note that I am no expert. I fully realize I could be wrong for now, or misjudge how the government forces will intervene. It is far from clear whether this backwardation will become permanent. That said, I do believe that the resistance shackling gold and silver will be eventually be overwhelmed; it’s just a question of when. In the final analysis, Gold is the world’s greatest chance at economic liberty and a world with far less war. (photo2)
Let’s return to the rice example I used earlier which is traded on commodity futures markets in a similar fashion as gold and silver are today. Let’s say I absolutely must have 1000 bushels of rice 1 month from today. At the futures market, I have two options – I can buy a 1-month futures contract and take delivery right before I need it, or I can buy at the immediate market price (or spot price) and store it for a month.
Now, let’s say rice goes into backwardation. This means that the spot price is more expensive than the 1-month futures price. So, normally I would buy the futures contract since it is cheaper and the storage cost is borne by the other party. And if enough people did this, backwardation would quickly disappear. Now why would I buy at spot price?
I would buy at spot only if I feared that within a month the other party would not have any rice to deliver. Now the strange thing is that for backwardation to continue to exist, all rice traders at the market need to believe the same thing. Why?
If other traders holds surplus rice, and does not need it for a month, and believes they will get delivery 1 month later, they will release his stock into the market (driving the spot price down and the futures price up) and take delivery in a month’s time, which would give a tidy basis profit (spot price minus the futures price), plus the savings of not storing the rice for a month.
So therefore, backwardation is the sign of a very tight market, and a market that will be tight for sometime into the future – either 1) current supply is very tight, 2) future supply is projected to be very tight, or 3) there is a severe distrust in counterparties – that the short positions can deliver the goods on time per the contract, or vice versa that the long positions will not have the cash.
That said, backwardation in seasonable, weather-dependent perishable commodities like rice or corn is certainly not unheard of. It even sometime occurs with industrial commodities like lead or copper. Sometimes it can even be the natural state of the market.
However, gold futures are completely unlike these other commodity markets. Gold is mostly traded solely as a "store of value"; the jewelry or electronics or dentistry demand pales in comparison to the quantities of the yellow metal traded as a store of value (even an "anti-dollar" if you wish). In other words, gold is not a consumable market.
And here is the final piece to the above from South African Daan Joubert, quoted at lemetropolecafe.com. Gold backwardation can only mean that either "a) There are enough people so concerned about non-delivery that they will pay a large premium to get their hands on gold right now" or "b) There are no large holders of gold who have sufficient faith in the futures exchange to exploit the [backwardation]."
Dr. Fekete has issued two recent updates, "Has the Curtain Fallen on the Last Contango in Washington" and "There’s No Fever Like Gold Fever." I consider both must-reads, especially the conclusion to the "Gold Fever" article. I will freely admit to you that for some of the reasons Fekete mentions in the "Gold Fever" article I considered not writing this series under my own name (perhaps I may later regret it) but there is something about sharing the truth as I see it that forbids me what ultimately amounts to cowardice. Anyways, here is the intro to "Gold Fever":
"Here is an update on the backwardation in gold that started on December 2 at an annualized discount rate of 1.98% and 0.14% to spot in the December and February contracts. It continued and worsened on December 8, 9, and 10 as shown by the corresponding rates widening to 3.5% and 0.65%. It is nothing short of awesome. This is a premonition of a coming gold fever of unprecedented dimensions that will overwhelm the world as soon as its significance is fully digested by the doubting Thomases."
Keynesian economist John Keynes once pessimistically noted, "In the long run, we are all dead."
I say, YES, the day when gold or silver breaks the COMEX IS death.
Death to the Keynesians for all the havoc they have wrought.
We the People of the United States, in Order to form a more perfect Union, establish Justice, insure domestic Tranquility, provide for the common defence, promote the general Welfare, and secure the Blessings of Liberty to ourselves and our Posterity, do ordain and establish this Constitution for the United States of America.
As always, unlike the NFL, the author grants full permission to allow any accounts of, rebroadcasts, retransmissions, repostings in part or full of this article to your blog or anywhere else in order to promote the Restoration of our Republic.
Veritas numquam perit. Veritas odit moras. Veritas vincit. Truth never perishes. Truth hates delay. Truth conquers.
America, Were Michael Phelps' Eight Olympic Gold Medals Worth Winning? Published: August 24, 2008 Michael Phelps and other American athletes are bringing back loads of Gold, Silver, and Bronze Medals from the Beijing Olympics. A young libertarian economist asks if it was worth it.
The Money Matrix - Prelude (PART 1/15) Published: August 1, 2008 Prelude and Source List to a Series on Global Monetary Policy of Control and Explaining Big Government's Finances
The Money Matrix - What the Heck Are Derivatives? (PART 10/15) Published: December 9, 2008 This article seeks to define financial derivatives and why they are so important. Future and spot market basics are also examined so the Reader understands how the price of gold and silver is determined.
Save Ron Paul's Voice - A Money Matrix Addendum Published: September 28, 2008 Learn how by reading. Article is intended as a poke-in-the-eye for members of the Ron Paul Revolution who complain about the bailouts and the financial, banking, and housing crises and do not realize that they may in fact be hypocrites.
MY PROPHECY - The Federal Reserve Will End! A Money Matrix Addendum Published: October 29, 2008 Many of the Prophecies of Ferdinand Lips from 2005 are becoming true. "Right now [the FED] is creating the biggest housing bubble in history. This may lead to economic collapse. I expect that a revolution will one day take place against the Fed. It must be abolished. After all, its founders were not that intelligent but rather stupid men. Or they were devils. It is a tragedy. Not only that: It is the biggest tragedy in world history, even worse than wars. Yes, worse than wars. It made most people poor. It damaged America. It caused wars and then helped to finance them."
The Next Bubble to Pop! Published: December 7, 2008 "These days, I am more concerned with the return OF my capital, not the return ON my capital." - attributed to Mark Twain
Fellow Nolan Chart columnist Republicae really has a wealth of experience on honest money and government control far exceeding my own, and is one of my favorite authors here at the Chart. Here are a few articles to take a look at:
GO GATA! The premise of the Gold Anti-Trust Action Committee that the world gold market is artificially suppressed by central banks in order to make their currencies look stronger.
www.GoldMoney.com - GoldMoney is an international gold and silver warehouse with insured vaults in London and Zurich. Ability to hold and pay interest on four major fiat currencies, issue payments in goldgrams, etc. Think of them as an alternative way to diversify where and how your physical metal is stored, but I urge you to be wary and thoroughly investigate this and ANY method where someone else holds your metal for you before investing. The best is always physical possession (or pay for storage at a Brinks-type depository) although you should always be creative with your storage locations :)
The World Gold Council - A wealth of information on central bank holding, gold derivatives, supply and demand statistics and more. Free login required.
www.jsmineset.com Expert Jim Sinclair shares his thoughts on gold investing, financial markets, and trading. For free!
www.DollarCollapse.com This site's main use is as a newsfeed for dollar, gold, and housing market current events. They explain their dollar collapse theory here, which I partly agree with.
www.SilverSeek.com I particularly enjoy reading the columns of Theodore Butler and Jason Hommel
www.GoldSeek.com The sister site of SilverSeek. The Mogambu Guru's (aka Richard Daughty) column has tunnel vision but hilarious and educational..
www.lemetropolecafe.com Offers timely gold market advice and a daily "Midas" column. Try the 2-week free trial.
Paul, Ron. "Pillars of Prosperity." (2008) A 400+ page compilation of Dr. Paul's writings. After reading these, one realizes that Dr. Paul did very little recent work in putting together his best-selling "The Revolution" as most of this book was written 20+ years ago.
The views expressed in this
article are those of Jake Towne, the Champion of the Constitution only and do not represent
the views of Nolan Chart, LLC or its affiliates. Jake Towne, the Champion of the Constitution is
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Posted By: Jake, the champion of the constitution
Date: 2008-12-11 16:01:10
First, I get the feed to Mish's column on a daily basis as an alternative perspective and read the first response right when it came out. I respect his opinion on a lot of things. My opinion is Mish's first response is garbage. fekete destroys it in his "Gold Fever" article (and the above actually). Gold is not a normal commodity. Decide for yourself.
Second one I just read. Intelligent but I still reject it.
Mish ""Gold is no longer for sale at any price" is the exact sentence that I dispute. Gold is still for sale."
Fekete is alluding to permanent backwardation, albeit academically not the current situation. I am surprised Mish cant grasp this, and I doubt Fekete will take the time to clarify such a simple-minded mistake.
Mish "I do not believe there is going to be a failure to deliver December gold, or any other month anytime soon. And even if it were to happen it hardly means hyperinflation. "
Again, that's not the question, although I agree there will likely be no default in December. The question is, what is the traders psychology? What is the government planning? Gold in backwardation means fiat currencies will be under a type of forced devaluation that is completely separate type of monetary phenomena from (though an end result of) the Austrian money supply type of inflation that Mish mentions.
Doug on your "Conclusion: No backwardation and the U.S. is not Zimbabwe"
First, there is still backwardation right now in both silver (just a little but its been there for awhile) and gold. Gold is in substantial backwardation for the first time in history.
Dude, the US is not Iceland either, neither is it Japan. Nor Germany. Nor Canada. With all due respect, what's your point? Please do not play at charades, I know you probably have a good reason behind your comment (and I think I know exactly what you mean, Zimbabwe's dictatorship and economy is much different from our corporatocracy and consumer/service economy) but look at what you wrote objectively. Its unsubstantiatable, where is your reasoning?? Reminds me of the poem I posted in my Fred T article yesterday
"Whisper in the yard and turn the trees all into toys. Lay there on the ground, and turn the dirt into your joy. From what I see and what I know, it's all been boring lately. So I suggest we trade a question mark in for a maybe. Time your riddles right, and make a point that has no sense. Make sure that you're smiling, and the money's been well spent. Innocence and ignorance, it all goes hand in hand."
No, I think Mish has been tricked (and many others) by what I termed "deflationary riptides in an inflationary double-overhead". Surfer talk for the dollar (and all fiat) to get slammed. Eventually.
Thanks for writing back! Sorry for being a little curt with you, but I've already reviewed this and made up my mind (but, hey Mish could be right, but I dont think for the reasons he used), so this was nothing new to me. And I know you won't mind since I follow your articles religiously and read each and every one. Including Iceland vs. USA Economic Analysis
And I know you will probably write me back, and tell me why I am wrong instead of posting 2 links and 2 sentences. Pretty please? :)
Previously you wrote to me that anyone writing about gold gets a thumbs up, how about me?? :)
I really believe you’re way off in your explanation of things again, this time with your famous gold “backwardation”. Your explanation doesn’t accurately explain why this is happening, or why it hasn’t been corrected.
You say, for instance, that if gold (or rice, in your initial example) IS NOT DELIVERED, that is the fear of the spot buyers. They buy the spot price because they are afraid that the product (gold or rice) will NOT be there to settle the FUTURES CONTRACT. But, let me remind you, you’re talking about a CONTRACT not an OPTION. A contract MUST be fulfilled by all parties. An option is only the OPPORTUNITY to buy. If a party is not able to provide the product of the FUTURES CONTRACT, then they must pay the holder of the contract in CASH. There is no fear of NOT receiving your FUTURES CONTRACT. On the other hand, if you have an OPTION to buy, there is a fear (or undesired condition) that there might NOT be enough of the product to purchase at the time the OPTION is due. What this does, then, is makes the OPTIONS market (for gold or rice, or whatever) take that possibility into consideration. But, the FUTURES MARKET does NOT have that possibility. The futures holder will get paid or get the product no matter what happens.
The market is really played differently than you seem to think. The reason for gold, in particular, to be declining in price (really just hovering between some highs and lows, but we’ll use your “backwardation” term to make you happy) is because there are some big GOVERNMENTAL players in the market, as well as some trading cabals that don’t want people to run into gold. If they allow the price of gold to skyrocket, EVERYONE will surge into the market and push it even higher. And, other sectors will fail. The fluctuations we see with gold are not due as much to trading differences between spot and futures prices as they are manipulated by HUGE trading cabals who don’t want gold to rise significantly to dry up other markets.
I, personally, think your guru Antal Fekete is just pushing to make headlines and isn’t using his head. Maybe you’re in that boat, too.
Here is a link to what Mish Shedlock says that you might want to consider, in particular the part about “Where the Fraud/Double Standard Case Goes Wrong”:
Posted By: Jahfre Fire Eater
Date: 2008-12-11 18:20:44
Hi Jake,
Thanks for pointing this out. I'd never heard of backwardization before now. As for its significance, I don't think I'll do anything differently tomorrow for having learned about backwardization today.
I'm not a trader and don't pay much attention to markets except in the broadest terms. So I have nothing but my own spot analysis of the referenced articles to base my comments on.
I think at some point there will be an inability to deliver physical gold. However, there are so many other interconnected activities taking place on scale never before seen that I wouldn't dare guess at how it will all play out.
I think a lot mines will cut production and scale back operations if it looks like they are being given the same deal as the oil producers. (Turn on the spigots and leave them running as fast as you can at the price we are comfortable with.) At some point, a mine owner has to see that gold in the ground is a better store of purchasing power than gold on the market.
If this happens depends on what happens in the monetary world and when. It also depends on what happens in the oil world. Nothing is stable, every person in charge of their little policy levers are leaning on them for all they're worth all over the globe. I imagine this as a scene from Lucy in a factory of some kind. There is simply no predicting how any of this will go. Will it wind down or blow up? Different sectors and geographies may do a bit of each, I suppose.
Today, I don't really care what the price of gold is because I believe having it is more important than its price for the time being. I don't think having it is worth the current retail premium. I haven't bought any gold or silver in several months because of the high mark-up. If I were a gold dealer, I'd be marking it up too because letting it go is a bigger risk every day.
Posted By: Jake, the champion of the constitution
Date: 2008-12-12 04:50:19
Dear MC,
On gold futures contracts, if the contract is fulfilled in fiat cash, the market is broken. Thanks for your thoughts though. I admit I am a little surprised to hear you talk about governmental forces/trading cabals controlling the price of gold. You sound like me.
Fekete isnt right on everything, but he called the basis thing 2 years ago. Now that day arrived. He is just acting out his convictions, although he is pissed Sprott cancelled his GS Univ, thats for sure. We will eventually know if Dec2 is on the same level as the failing of the London Gold Pool, but only time will tell for sure.
Mish is right about being too focused on where the newly mined gold is going, most of what is traded is preexisting gold. He is also correct there is no outright fraud As long as gold can be delivered there is simply no fraud unless you count JP Morgan basically trading the market back and forth amongst itself as legit. :) There are CFTC investigations going on right now, but whatever, I dont have much confidence in them
Mish seems to be a favorite... I think hes worth reading, but there are plenty of smarter guys out there.
Found the link to an article he edited on the failure of fiat FYI. heres the link.
I don't know what you think you mean by "the market is broken"? If you mean that the contract was settled in cash, that's right. But, so what? Nobody loses. Contracts go on. What are you trying to wiggle out of now?
And, if people don't have commodities (as with gold, etc) to bring to market, then there is no offering ~ even if people have OPTIONS for it. Nothing illegal about it, or even ominous.
I think you're mixing up CONTRACTS and OPTIONS and don't seem to know the difference. But, that's not the first time that's happened ~ nor will it "hold your kangaroo down, sport". You just plunge into places where you don't often know how deep the water is! Fearless, but not always a good idea.
Posted By: Jake, the champion of the constitution
Date: 2008-12-12 14:33:04
Dear MC -
You don't get it. Gold is money (though not used as currency). For the COMEX to default and run out of gold and settle in cash would unleash the price. The consequences for the dollar wouldprobably be grievous.
Just look at what happened when the COMEX defaulted on nickel, and that wasnt even a monetary metal.
Not true, my friend. Running out of gold is like running out of grapefruit ~ if they don't have it, they settle the contract with cash. That doesn't make for runaway prices unless investors think it will be worth more in the future. Then, if they buy a CONTRACT, they may not get the product. But, if they buy an OPTION, there just will be none to buy.
I don't see, for a minute, how not having gold ~ or any other commodity ~ would be grievous for the dollar. The dollar is traded just like any other commodity, too. Weaker or stronger just makes the market better or worse for investors.
I think you and Walt, et. al., are so frightened of fiat currencies that you see "The Beast In the Jungle" lurking around every corner. And, if you read Henry James' short story, you'll see that THE BEAST never appeared and ruined poor John Marcher's life because he was so sure the BEAST was going to do something awful to him so he never made any plans for the future and life just passed him by until he died ~ a thankless, purposeless, fearful life.
A few more months will convince you that you're wrong, I'm sure. Same with all this MILITIA talk about troops running wild in the streets arresting people and locking up insurrectionists. I think it's the BEAST again, my friend. Do you still worry about the boogey man under your bed, too?
Posted By: Jake, the champion of the constitution
Date: 2008-12-12 18:17:23
Dear MC -
It's fine to disagree, thanks for sharing your opinion. Well, so far the beast has chawed up about 97% of the purchasing of the dollar since 1913. I break out my calculator and even based on pre-bailout numbers, I scratch my head since gold should be in the $1000 - $1200 range, particularly when its needed to calm markets (like now). When I say calm, I suppose I mean to rise gradually, I agree with you a shock would be completely destabilizing.
I am not sure where in my writings I ramble about martial law, so please do not infer that I do.
And sorry to burst your bubble but "boogeymen" are real. The term became widespread when sailors for the British empire returned home and scared their kids with stories of the Bugimen, pirates in Indonesia.
Like with the real Bugimen (you can still meet them today!! just go to Indonesia), what you call the BEAST is just a collection of men acting out their principles. Same with little old me. Same with you. Take care, Jake
You're more than welcome to come tot he site where there are those that can explain the fallacies and Fekete's misunderstanding of backwardation to you.
This thread will be a good starting place: http://honestmoneyreport.com/forum/index.php?topic=12236.0
Read the comments of Zorro as he does this for a living.
The main difference between Zimbabwe and the U.S. is we don't have 80% unemployment. There's no substance to back GDP in Zimbabwe. That's I believe the point Mish was making.
Since you've been following Mish, then you know he has called things pretty good. He was one of the first to call deflation. He's one of the best out there.
Lastly, there is a reason that Lew Rockwell and company don't post Fekete's articles. It's because some of Lew's crowd have battled it out with Fekete in the past (over Real Bills).
I do however agree with some of Fekete's work and admire him for wanting to educate those who don't know about gold. It's too bad Sprott pulled out of funding his Gold Standard University.
I see no reason why these folks can't work together, as you and I can, in the cause of Honest Money.
Posted By: Jake, the champion of the constitution
Date: 2008-12-13 09:35:15
Doug -
Thanks for the link, and we are on the same team for sure! Pasted in Zorro's comments below. My limited knowledge is out of gas here, and I need to get some clarification. There's an article from James Turk looking at GOFO November rates that went negative for 3 days.
from Zorro:
As much as I hate to say this, Fakete is as uneducated about the futures market as Ted Butler.
The COMEX gold contract did not go into backwardation.....not for one second. Backwardation is a lower price in each succeeding month not just for the next month out or for even just a few months out....all forward months must be lower to get backwardation. This nonsense about gold deliveries is crap too. These guys keep harping on the COMEX delivery reports as if these were demands for delivery, they are not..... they are notices sent out to contract holders. The most recent list of notices shows there were only 255 notices of delivery sent out yesterday. None of the 12,419 in cumulative notices have taken delivery and of all those notices, only 255 owners of long contracts remain in the December contract. These guys need to get this right in their heads before they go blasting this trash all over the internet. Cumulative notices (which are the numbers these guys are using to say has been demanded for delivery) are the amount of notices that have been sent out to traders over time. It is not how many contracts that are active and able to take (or have taken delivery) over time. There are 255 owners of 486 active long contracts that can take delivery of December gold as of yesterday.....not over 11,000.
I, like you, am just an individual who is trying to understand it all. I claim to be no expert in anything, but know enough to be dangerous in everything.
When I don't have all the answers, I turn to the experts and try to soak in what they know to increase my understanding. Zorro fits the bill when it comes to things like commitment of traders, taking delivery and backwardation combined with the "what's happening now" in the markets reality.
Heck, if we trusted professor's to tell us things, we would have voted for Obama right?
But I do give Fekete credit for his desire to establish a gold standard. Huge credit!
I'll give you a thumbs up because of the effort you put into the replies to your articles. And yes, for writing about gold, which no one else seems to do on Nolan Chart. Kudos to you!
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I’ve written what is amounting to a short series on what is, in my opinion, the major economic event of gold going into backwardation and what this will mean. Due to recent interest, particularly email comments, in this article I would like to further describe this event and in the next part share links to more gold and silver news on this topic with you (as well as some objective criticism of Fekete). I think it is also important to note that I am no expert. I fully realize I could be wrong for now, or misjudge how the government forces will intervene. It is far from clear whether this backwardation will become permanent. That said, I do believe that the resistance shackling gold and silver will be eventually be overwhelmed; it’s just a question of when. In the final analysis, Gold is the world’s greatest chance at economic liberty and a world with far less war. (