by Turd Ferguson, TF Metals Report:
Well, this is something that you’re definitely going to want to read…
OK, so, it has been a long 3-day weekend and I just got in from the road. I’m clearing out my accumulated emails and I find a note from Andy Maguire. In it, he stated that it was “about time to update everyone” but that there was more to say than just through KWN or TFMR. Therefore, he was going to make public his weekly subscriber commentary…which we’ve turned into this “guest post”.
I’m tired and my head is spinning so even yours truly is going to need to read and re-read this post in order to get my head around all that Andy is stating here. Suffice it to say, however, that I found it so imminently important that I felt I needed to get it posted for all of you as quickly as possible. Since much of this is written in Andy’s “trader lingo”, you may be left with some questions that need clarification so I’ll try to help where I can in the comments section. However, there’s A LOT here and I strongly encourage you to read it thoroughly.
“The Heightened Risk Of A Gold Price Reset”
by, Andrew Maguire
On Feb 6th I warned of a heightened risk of a gold price reset based upon evidence that the all-important physical markets are increasingly influencing the price setting synthetic markets at time we are experiencing extremely strong physical demand into tight immediately deliverable supplies.
I have been drawing attention the increasing outflows of liquidity from the paper markets into the physical markets for over a year now. The last selloff from 1380 in July to 1130 in December provided clear footprints of a disconnect between the 2 markets and bears all the hallmarks that the rigged decline broke the back of the paper market. By December 2016, an ‘abyss’ had appeared between these 2 distinctly different markets, very visible to wholesale market liquidity providers and takers, but also verifiable by the corresponding reported data.
The cobasis, backwardations, GOFO, Opex pricing and structure, SGE premiums as high as $46 per oz., backed up what I was reporting from a wholesale market perspective, which is why we knew with certainty that gold would not settle below 1130, almost $100 above the target of 1045 that almost all analysts were touting. In fact, during the entire selloff from 1380, at no time had ‘fair value’ drop below 1300. (more on fair value later).
Synthetic players are disconnected from the delivery markets and, as a result, are blinkered to all-important real supply demand inputs, however, officials and agent COT’s, (driving the directional HFT’s), exposed to the physical markets clearly are. Consequently, despite bearish sentiment & momentum having ignited and fuelled a major selloff, (capitulations & sucked in spec short selling), gold bounced exactly at the PHYSICAL support level, NOT the synthetic market target. 1130 PHYSICAL support was well above of the COT/central planners sweetspot and despite evidence they were taking the long side of spec selling, (after expending large short fuel anticipating a much deeper discount), the residual short COT/Official OI lines did not cross equitably at 1130. Even worse, this support rose from there.
This left sizeable naked short Comex OI & related derivative positions locked out of Futures short cover but worse, leaving COT’s significantly off side on billions of dollars’ worth of bearish derivative bets. Furthermore, recognising CB and sovereign support at 1130, COT’s were forced to front run these physical orders to ensure they wouldn’t fill. Given these front run CB sovereign limit orders were largely unfilled, we have since witnessed an uncharacteristic chasing of price by these buyers. Historically, Sovereign entities and well informed CB buyers were afforded the luxury being able to read synthetic data and relying on fractional deliveries vs. OI, were able to wait for the synthetic non-delivery market to bring price to them. With the physical dog now heavily influencing the paper market tail, this is no longer the case. Each subsequent stair step, 1176, 1204 & 1222 has further locked out commercial short cover. On Friday, although not yet of sufficient size to call solid support yet, the threat of 1232.30 becoming support started to materialise. So close to the Fibo inflection point at 1250.60, such a stair step rise in PHYSICAL support, poses a serious threat that threatens a commercial signal failure.
As noted on Friday in my opening post, “There is always a danger that COT’s can short with impunity when the synthetic price gaps too far above these stair step support levels, however, with support so close under the market and steady physical accumulations noted yesterday at 1240 off Loco London, COT’s have to be careful in shorting into such tight conditions with tightening spreads and a rising cobasis implies that only limited short cover is available. Footprints provide more evidence of an increasingly driven physically market forcing some discipline upon COT’s who although offside on Opex positions are forced to deliver physical.”
To those who are concerned that historical patterns will repeat themselves, there is an unprecedented difference between the December 2016 $1130 bottom and the December 2015 $1045 bottom, this time the physical market had gained sufficient traction to limit the scope of directional HFT behaviour. Why? Because the paper price set in London is ultimately deliverable both on & off Loco London. Dips inspire under the radar OTC spot index buying which members know, lock in the price and when presented for delivery force COT’s to go to market and buy gold to meet delivery. The BOE flywheels daily shortfalls but then lays the liability onto the BB’s who have gold bank account facilities with the BOE. Note the German repatriation had to wait almost 3 years for the Fed to be able buy gold at market to repay loaned out physical bars.
The commercial short squeeze is leaving central planners little ability to pay back loaned/leased /swapped gold at anywhere close to equitable prices. Based upon the footprints into February, I stated that there was a potential for price reset in as little as 90 Days. Although this window may possibly be extended to the end of the 2nd Q, the action since my assessment on Feb 6th has reaffirmed my view.
This naturally sparked off some questions. Namely, what will happen to Futures and option positions in the case of a reset.
From time to time I share specific members’ questions in commentary. This was the specific question I received related to the Feb 6th commentary regarding the inevitable gold price reset. Q. “if the day before the reset I am long both in-the-money and out of -the-money Silver calls on the COMEX, and after the reset I have profitable positions, will I be able to sell my Silver calls for a profit? It sounds to me that if I am long silver calls on the COMEX, I may be frozen out from doing anything.”
To answer this, we have to look at the bigger picture. We looked in detail at how billions of fractionally anchored offside Gold and Silver derivative positions had accrued, (OCC report), while a competing physical market has increasingly preyed on the visible price disconnect below supply demand ‘fair value’. It should be noted that the Cobasis currently pointing to a fair value close to $1350, is anchored upon a 92/1 dilutive fractional reserve price. However, real physically derived ‘fair value’ is unknown and after 4 decades of synthetic dilution since the gold peg was removed, a true price can only be estimated, but clearly and conservatively, several hundred dollars above the current diluted price. This is not just my view, this is also consensus of my largest instuitional clients who are close enough to Sovereign/ CB buyers competing for physical below fair value.
Liquidity outflows into the physical market has created a fracture between the paper & physical markets, now developing into an ‘abyss’ caused by strong physical market demand disrupting fractional reserve pricing mechanisms. Other than the slow train wreck of an unthinkable daisy chain TBTF default, there is only one solution, a paper price reset.
I use the word ‘abyss’ deliberately and draw your attention to the most prominent recorded paper price ‘default’ evidenced in 1999. This was when GS spun out of control after being hung with the auditable recorded 100/1 naked short gold position that LTCM had accrued before they failed. To avert a TBTF daisy chain BB default, in an emergency move, GS was bailed out by the BOE 400 tonne PHYSICAL gold sale known as ‘Browns Bottom’.
Please follow SGT Report on Twitter & help share the message.