Banking | Margin Rich

Sa-wing Batta!

Posted on October 31, 2014 by Margin Rich

If you played, coached, or spectated little league baseball or watched Ferris Bueller’s Day Off, then you’re familiar with the age-old, friendly taunt of “Hey batta batta batta batta, sa-wing battaaaa.” During early morning Halloween hours, the Bank of Japan(BOJ) provided the treat of all Halloween-day treats for speculators around the world. They announced additional quantitative easing that set the stock markets around the world on FIYA! BOJ Governor Kuroda went and grabbed the 50oz special big-boy bat and took a monster swing at deflationary forces.

(photo courtesy of Reuters)

What a miraculously well timed announcement on the heels of the Federal Reserve reiterating the completion of its own QE program. Of course, the Fed’s not really wrapping up just yet as it will continue to roll as opposed to liquidate the assets it has purchased over the last 5 years. The Nikkei’s intraday move was over 4%. Most of the major indexes around the world gained over a percent today thanks to the “good” news.

Japan’s central bank will be upping its bond asset purchases to $60B(all numbers in this post are in USD) a month or $730B annually. The US dollar amount will fluctuate as the Yen weakens against it, however the BOJ will keep steady at about $6.7 trillion yen a month. They claim that the move is temporary until inflation targets have been sufficiently met. Yeah, about that temporary thing? Along with the bond purchase announcement, the BOJ also stated that they’ll be buying up Japanese ETFs and REITs to the tune of almost $7 billion and $1 billion a year, respectively. That’s a lot of dough to be tossing around and my guess is that it’ll drive enough positive sentiment that from a political standpoint, nobody’s going to want to sign off on terminating the purchases. Imagine the negative perception along with a move down in animal spirits. As they say in Jersey, dey don’t want nuttin ta’doo wit dat.

Additionally, the BOJ coordinated the announcement with the Government Pension and Investment Fund of Japan (GPIF), the largest pension entity in the world, which 1 day earlier stated they would be upping their own stock purchase program. Specifically, the GPIF announced it was paring back its Japanese debt holdings from 60% of its portfolio to only 35%. An unheard of allocation choice for a pension entity considering the lack of conservatism. They might as well have said “we’re all in on stocks.” They’ll be doubling their equity exposure to 50% of the portfolio.

Rational economic thought behind these massive moves is how will the unintended consequences manifest themselves down the road? Kuroda, like all central bankers, assures the public that they can control the inflationary forces that they so desperately desire. Maybe for a little bit. Maybe forever. Recall Kyle Bass’s thesis as the BOJ is walking a fine line. At this point in the game, it’s hard not to believe that central bankers really do have everything under control. This is despite the fact that monetary and economic policies in the advanced economies have no parallels in history, and in the short-term, things seem to be working out brilliantly on a statistical basis. It is difficult not to observe all the activity while thinking that the unintended, and most probably, uncontrollable consequences will be the ultimate arbiters of the societal value behind these unprecedented steps taken by the central banks of the westernized nations.

In the meantime, enjoy the ride and the implacable rise in financial asset prices. Actually, in a November 2013 report, McKinsey stated the impact of ZIRP on asset prices is inconclusive. Specifically, they state, “…we find little evidence that ultra-low interest rate policies have boosted equity prices in the long term. In the United States, the evidence on whether action by the Federal Reserve has lifted the housing market is also unclear, because it is difficult to disaggregate the impact of these measures from other forces at work in the market.” That’s curious.

One would think logically that there would be a direct correlation between record low mortgage rates and new home purchases. Combine that with a ridiculously low WACC for the biggest financial players and Americans said hello to their new landlords, yield-starved institutional investors and astute corporate vultures. It would also be logical to assume that when an entity can borrow at 1% and buy back its own stock yielding 2.5%, that there would be positive arbitrage opportunities. The fact that those opportunities lead to reduced share counts, increase earnings, and thus drive up stock prices has no correlation to ultra-low interest rates.

D-short presents a perfect illustration of the “low-correlation” effects of ZIRP and QE on the stock market.

As I was saying, enjoy the ride. Buy every damn dip. Just buy and hold. Buy, buy, buy! In reality, I continue to think that raising cash levels due to a true lack of value across multiple sectors is prudent portfolio management. That doesn’t mean liquidate your portfolio. It just means that raising cash levels for potential bargains that avail themselves may prove more profitable than simply sitting in holdings that have already accumulated a very nice gain over the last few years. Look at the E&P’s off of oil’s slide. Myself, I don’t think we’re going to see an avalanche down to $30’s like we saw after the fall from the $150’s. Toe-dipping into the really well managed opportunities that possess prime shale or offshore acreage appears to be presenting quality value. Observe the P&C insurance players as well. They held up remarkably well in the most recent sell-off and continue to report tremendous profitability, however, in the face of a softening price cycle.

Just be careful. If you think momentum ignition and government intervention(jawbone or real) are fictional notions that don’t affect volatility, then have a look at this ZH chart.

Coming back to our little baseball reference, America was the 3rd and most valuable batter in this game of QE. Japan is hitting clean-up and protecting America’s own aggressive batting strategy. At some point, the 5th man in the lineup needs to show his power capabilities as well and drive in some runs. That 5th batter is Europe and Draghi is wielding the bat. If the game of central banks is to continue unimpeded, then he needs to put down the 36oz timber and go get his own corked 50oz bat to stave off deflationary forces in Europe. That damn German 3rd base coach keeps getting in the way though and giving the signal to sacrifice bunt.

Lastly, if you have kids, then take them to the wealthy neighborhoods to fill their bags full of candy. If you’re at home and not trick or treating, then give out the giant sized candy bars. You’ll be loved by the neighborhood children. If you’re in your 20’s and single, then go party it up with all the Halloween hotties(female or male) dressed to impress tonight…and be safe. Happy Halloween readers!

Some Things Matter and Some Things Don’t In the Financial World

Posted on December 23, 2013 by Margin Rich

Whoo boy! Talk about an explosive over-reaction to the Fed tapering. The US central bank has tapered their debt monetization from $85B monthly to $75B monthly or $1.02 trillion annually to a paltry $900 billion annually. So the “one-time” TARP bail-out of $700B to save the US banking system and the US economy was so unprecedented that hard assets like precious metals, farm land, and such were driven to extreme levels. The Fed upped that number to a trillion annually and people celebrate because Bernanke has placed a Put under the market. Any threat of excessive inflation in the core CPI has been eliminated and market participants celebrate easing and tapering with virtually equal fervor.

These are truly interesting times for investors. And since it is the most wonderful time of the year, why not get a seasonal bump in equity prices too? Everyone deserves to feel wealthier. It’s the American way.

I recognize that things appear to be looking up economically in the US and since America controls the world’s reserve currency, that should positively affect the rest of the planet. GDP is slowly but surely looking up as some growth projections show anywhere from 3.5% to 4.1% for the US in 2014. Core CPI is tamed so who am I to dispute or rain on any of this optimism? All the same, I think we should visit a list of some things that just don’t seem to matter anymore in the world. We’re looking predominantly in the financial world, but we can’t avoid a couple of views on politics either. As usual, I’ll trot out some charts to help illustrate the good and bad, where applicable.

1. To get the party started, let’s start with inflation. It’s one of the touchier economic subjects out there. There are those who are of the opinion that observing the core CPI and its tame 1.2ish% is the total story. That of course ignores the following chart of growth in the CPI since the 70’s and the advent of excess credit to fund the American lifestyle.

The funny thing about core CPI is that it excludes energy and food, aside from housing, the two biggest components that hard-earned money is spent on. Additionally, hard assets and financial assets are ignored by the focus on core CPI. Hard assets(ex-precious metals) have been rising like gangbusters in 2013. Fine art, diamonds, fine watches, fine & classic cars, and farmland are all being sold for record prices. Is this asset price inflation irrelevant?

How about equity prices in 2013? Is the rocket ride across all indices simply a matter of business fundamentals? Partly. Multiple expansion? Partly. Worldwide liquidity tidal wave? Definitely. Does it really matter though? Wealth is growing…or at least the Fed thinks people will perceive their wealth to be growing and thus spend more to organically grow the economy.

The fact of the matter is that the YoY rate of change in the core CPI has been basically flat, or as neo-Keynesians and monetary sophists say, non-existent. Since monetary inflation is apparently meaningless, this means that the Fed has everything under control. If or when the need to tighten up policies to rein in any perking up cost-push inflation, the Fed will pull the appropriate levers and all will be good. That continues to be a prevailing mindset.

2. Debt monetization i.e. QE is simply overlooked as the price of doing business in growing the equity markets. As I previously noted, market participants were aghast at the sheer size of the original TARP. Now we can’t live without it, but it’s tapering. According to a Bloomberg survey of 41 economists, the median forecast is for the Fed to taper by $10B over the next 7 FOMC meetings until there is no longer any sort of QE. Do you agree? That’s a tough one to swallow. Below you can see the growth in the M2 money stock since the turn of the century.

I have read that this chart can be regarded as irrelevant for a couple of reasons. One is that the creation of this money is simply a balance sheet transaction. Federal debts are monetized, but only sit on the balance sheets of the participating banks as excess reserves. Thus, there is not the requisite rise in costs that historically accompany such transactions because those excess reserves are not being spread around. The next chart shows the velocity, or rather lack there of, in the M2 and it’s a major reason why deflationists and current believers in the status quo believe there are no or will be no repercussions for excessive debt monetization.

This chart above is leading many to believe that everything is under control. Of course, any rational follower of economics and the markets know that it will be the unintended consequences and unforeseen actions that will shift the velocity upward. And by unforeseen, I mean things that are completely foreseeable such as a shift in international confidence in the USD or a marked increase in the Renminbi for transactional settlement at the sovereign level or a significant reduction in the use of the Petro dollar for energy settlement. The current logic goes that excess reserves will be coaxed out by the banks’ greed for yield and earnings, as the spigot is eventually closed. Then the US should see some of that cost-push inflation that was so widely anticipated after 2009.

As it stands, there is a terrifically tight correlation between 10-year US Treasury yields and money velocity. Since everyone and their mother expects the fixed income market to lift the yield of Treasuries, it stands to reason that velocity will be joining the ride. Everything is always about timing, though. None the less, observe the following chart courtesy of Business Insider, via Harrell at Loomis Sayles.

3. But in the meantime, the co-policy of ZIRP which has helped to enable the efficacy of QE has destroyed what it means to traditionally and conservatively save your money. ZIRP is forcing everyone to speculate, plain and simple. Savings accounts and CD’s pay nothing. Because of that, more and more reach for yield through the dividends of the stock markets. Even the high-yield debt market continues to perform robustly and I suspect it will continue until the T-rates begin to officially rise. The lack of spread between HY and plain old Treasuries is beginning to hit what, since 1997, has traditionally been the early part of a danger zone. Observe the following chart from Bespoke.

It shows we still have some time to go before confidence erodes, but as a canary in the coal mine, a message is being provided loud and clear to those potentially stretching a little too far for yield.

4. Can anyone honestly look at official unemployment reports and not raise an eyebrow? The BLS is currently showing an unemployment rate of 7%. Fantastic! America’s well on it’s way towards full employment again. Except there’s that nagging little fact that the entire demographic of individuals who have given up looking for work are simply not labeled as unemployed and thus do not factor into the equation. So if you gave up looking for work and still don’t have a job, not to worry. You don’t qualify for unemployment benefits anymore and we won’t count you as unemployed because you’ll receive a different form of welfare. Win-win.

It’s difficult to ignore the glaring convergence between the reducing unemployment rate and the continued decline in the workforce participation rate in the US. Have a look at the chart below of workforce participation over the last 10 years, courtesy of BI, via Gunha at ISI.

The Philly Fed states that this rate is entirely caused by workers entering retirement. Obviously, retirees factor into the equation but to state that the descent, which coincides with the nadir of the Great Recession, is entirely related to retiring workers is bold. “But it’s backed by statistics! I read the report.” Yeah, sure. Ok. Statistics are never presented in such a way to influence the thinking of others.

5. Capital expenditures and the organic growth of the economy are simply not a priority for now. CapEx levels provide that behind-the-scenes, real snapshot of economic growth, and for now, CapEx is in the dumps. Businesses simply do not want to risk the capital to expand or grow sales and the work force. Instead, the current business fads are buy-backs and dividend increases. Selfishly, I’m all about the share repurchases and dividend growth in my own long-term holdings. But to use cheap capital or current cash flows for such short term benefits with little to no thought on how to build for the future seems a bit backwards to me. Getting by with less is SOP for so many corporations since 2008, but at some point CapEx will have to pick up, because SG&A can only be sliced and diced for so long to help generate earnings.

Have a look at this chart, also from BI, courtesy of Soss at Credit Suisse. It displays the ratio of business fixed investments to corporate cash flows. You can see it is still at its lowest points over the last 50 years. Corporations just don’t want to spend their money on CapEx.

Now that squiggle-pic above just depicts what corporations are willing to spend from out of their own kitty. Despite all the access to cheap capital for the corporations to borrow in order to finance the future, there isn’t a pick-up in that area for CapEx either. Observe the following chart, additionally from BI, via Chandler at Brothers Brown Harriman.

Just look at that spread on the right side of the chart. It’s very telling of the current methods being utilized to generate further corporate earnings without the CapEx investment to build a solid foundation for future earnings growth. At some point soon though, that spread will begin to converge as the US should see genuine economic progress. Companies will actually begin to invest in their future as opposed to just provide shareholder value through buy-back’s and divvy’s.

This is very important, because even though CapEx doesn’t seem to matter right now, at some point it could be a key point in the inflation argument. The scenario has the potential to play out like this: economic growth picks up and so maybe the Fed moves rates up just a quarter percent or whatever. Banks get scared that their Fed window cash machine is going to go bye-bye so they increase lending across many facets of their operations. Companies begin borrowing the still cheap capital to invest in operations and hiring actually picks up. This begins the upward shift in money velocity which should then begin to push prices upward. This is a scenario that investors will want to keep their eyes on, because it has the potential to make you a lot of money as markets grow, but it could be the mask that covers the arrival of the next financial crisis. Because we all know, nobody ever sees the next financial crisis coming.

6. Sovereign debts and sovereign solvency are issues that are front and center and yet hidden in plain sight. The numbers are simply so huge that it’s as if nobody cares anymore. Central banks are able to keep rates at or near zero percent and gin up funding on demand, so everything is under control. Unfunded liabilities are on the back burner as massive liquidity continues to be mistaken for solvency. Developed nations around the world have debt levels that are between 1:1 to 2:1 of GDP and it doesn’t matter. Here’s what matters:

7. The old banking model is dead and has been dead since the repealing of Glass-Steagall but really even earlier than that with the creation of mortgage backed securities. The so popularly and prevalently quoted old banking model was the 3-6-3 of borrow at 3% – lend at 6% – be on the golf course at 3pm. Banking pretty much used to be that simple. That’s how it should be. Banks shouldn’t be systemically risky to the entire world economy. And if the regulators around the world were actually doing their job, then these SIFI’s wouldn’t be SIFI’s. Banks now simply take in as much capital as they can and use it as collateral across the spectrum of their “sophisticated” trading operations.

Why lend to entrepreneurs or businesses in need when you can lend to sovereigns and use that asset as collateral in additional transactions in an endless chain of profit generation. The widespread acceptance of the current banking model is truly a thing to behold. Have a look at a couple of countries from over in Europe who simply appear to be clueless. This chart from BI, via Commerz Bank, shows how the Italian and Spanish banks are simply reflating their balance sheets in an attempt to stay resuscitated for as long as possible before the ECB starts monetizing like they’ve promised. Unbelievably, the entities that need access the most to that capital to help grow each respective economy is barred from access as the banks maintain their favorability to “govie” holdings.

There has been so much debt created between the sovereigns and the SIFI’s and so many derivatives are traded underneath it all to keep the illusion of solvency alive that nobody knows what’s what anymore. In a previous post last June, I expounded fairly extensively on the derivatives rife throughout the banking system. Click the link and have a read if you’re inclined. The old banking model is dead and I suspect that even after the next crisis, the system still won’t be cleansed of the systemic risk of the new banking era. If and or when a serious dislocation arrives, I’ll hold out hope for real, positive change that creates a balanced financial platform from which the world of finance, investing, banking, and economics can work. I ain’t holding my breath.

8. I don’t want to go off the deep end of a rant here after sharing what I think I are some important notions to consider in understanding some concepts behind the macro economic and financial outlook, but a couple of comments on statesmanship and justice are warranted. Civic duty in the political arena appears to be as dead as the old banking model. It really seems as if the Boomer politicians with their 60’s era non-inhaling, non-conformity or 70’s era dancing in polyester have forgotten what it means to build and develop a nation. Even the the X’ers in positions of power are infected by the commercialism they were so subjected to as youth. Both groups who control US politics seem to be consumed with consolidating and maintaining a power base, as opposed to building a nation up and maintaining an image of America as a fair, free world power. Obviously, these statements are highly generalized and that’s all I gots to say about politics.

As for justice, where is it for the bankers? Where is it for the corrupt? I realize it’s a tired question, but it’s difficult to let go. When you hear responses from Eric Holder on a slew of subjects, you just want to puke…literally. A handful of traders take the fall for the Great Recession. No banking executives are indicted in America, but during the S&L crisis going into the 90’s, hundreds of banking of executives were incarcerated and indicted for their malfeasance. Look at Iceland’s accountability of the executives from their largest banks; convicted and sentenced already. Is Iceland, an island of 300,000 people, a model of financial reform that America should be closely following? Not necessarily. That’s not the point. The point is you have a sovereign nation that held those accountable who deserved to be held accountable in the banking system. Enough about that as well.

9. The last notion on the list of things that don’t matter is volatility in the equity markets. No need to go short or hedge as you can simply go long and outperform on an absolute basis. That’s what ample liquidity across the world does. It drives up certain asset prices, and stocks are the asset du jour to be driven up by current liquidity levels in the economy. Volatility is one of those funny things though, where it doesn’t matter until it does in a very big way.

It does appear as if now may be a dangerous time to enter new positions as things seem a bit frothy, but as the liquidity continues to flow and the volatility is non-existent, it may be more imprudent to not get positioned going into the new year. At this point, hoping for a correction just to get the absolute best price on new positions may prove to be unsound. But then again, so could diving into new positions just to potentially play catch-up. For now it does appear as if the economy may begin to mend, and when combined with liquidity levels, ZIRP, and the general trend, one has to position their portfolio accordingly.

In my next post, I’d like to share a simple portfolio that may be able to take advantage of the current trends while hedging some of the correction risk; in addition to taking a contrarian stance in some of the positions. If I don’t share another post this week, have a great holidays and happy new year. And thank you so, so much for taking the time to stop by my site and having a read.

Early to the Unattended Short Party Again

Posted on December 9, 2013 by Margin Rich

Just wanted to apologize for a lack of posting activity. For newer readers expecting a little more activity, it gets tough around the holidays with family demands and traveling. My goal going forward is to post at least twice a week, and at the very least, once a week. I know that’s not on par with your favorite daily reads, but I hope I can continue to potentially add value to your investment life.

The markets just keep running, even with this past week’s slight consolidation. Hell, Friday’s pop was enough to put the S&P 500 at basically even for the week, the Russell 2000 a touch off the highs for the year, the NASDAQ at post-2000 highs, and the DOW in the same position as the Russell at a touch off the highs. Some consolidation, huh? Previously, I reasoned that a correction was on the horizon and illustrated with some charts why I thought that a correction was imminent. The results…

WRONG! The markets have been looking like a small blow-off would occur since the summer. Those signals were all false though and chartists who have been attempting to short the market keep coming up just that…short. The lesson that you should not fight the Fed keeps getting firmly taught in 2013, as noted by the under-performance of hedge funds, shorts artists, and tape readers. None the less, have a look at the following set of charts from several weeks ago. In a normal world that’s not flooded with liquidity chasing up financial assets around the world, these charts would generally portend of a change in trend. However, this ain’t a normal world to be speculating in.

These charts depict several factors of risk taking and risk abating, which one would think would normally affect the greater markets. Divergences abound and yet the rising continues. Observe:

1. SentimentTrader displayed the Rydex family of funds’ 12 year low in assets allocated to their money market funds

2. The stock to bond ratio – one of SentimentTrader’s daily charts showing periods of over/under value in equities

3. S&P 500 to JNK (junk bond ETF) – notice the previous downturns in the S&P 500 earlier this year when JNK turned down

4. ZeroHedge provides a Bloomberg terminal snapshot of a nosedive in IWM shares outstanding while price remains stable

5. Here’s another junkbond relative performance chart. Apologies to the author. I forgot from which blog I nicked it.

6. Courtesy of DecisionPoint, going back to to 1999 one can see what a divergence from the PBI for the SPX generally means for the SPX

Alright, enough with the slide show. There are so many more squiggle pictures that chartists could call upon to attempt to prove that a downturn is imminent but why bother? Liquidity is not going to dry up. Interest rates aren’t going to spike up past 6% and send the planet into recession tomorrow. Based on the performance of equity markets and despite a ton of divergent indicators, I’m beginning to get the feeling that the markets may just consolidate in a semi-volatile sideways range. There’s a real possibility that the markets just bounce along up and down plus or minus 1% – 3% into the new year before resuming an advance.

We keep coming back to this now overly used quote from 2007 by Chuck Prince, former head of CitiBank: “As long as the music is playing, you’ve got to get up and dance. We’re still dancing.” This little gem has popped up almost everywhere in the financial blogosphere recently, so I figured I’d find a gratuitous reason to post it too as it is quite apropos. Good old Chucky “Cheese” Prince made this statement at the peak of the markets back in 2007 because he knew how unstable things were and yet he continued to allow the SIFI(systemically important financial institution) he ran to trade and underwrite garbage.

And while I’m at it, in case you don’t know what the co-crown prince of golden parachutes looks like; here’s his picture. Truly a face you can trust with managing hundreds of billions.

(picture courtesy of: Yamaguchi/ Bloomberg/BLOOMBERG NEWS)

For those ill-informed about Mr. Prince, he walked away from Citi with a cool $100M for overseeing the destruction of the bank. The reason he’s a co-crown prince of the golden parachute set is because he shares the crown with Stanley O’Neal, but I digress. We’re talking about the potential for a sideways consolidation in the market and not rehashing sour grapes on a who’s who behind the SIFI’s that have changed our world as we know it. As for speculative advice, well I have exited my short positions. I hedged my last move against the SPY and simply broke even. I’m currently taking a step back and allowing for the picture to clear up a little for a trader such as myself.

In my next post, I intend to touch on what matters and what doesn’t matter anymore in finance, investing, and economics. And there just may be a hint of informed sarcasm. As for speculating, if you are positioned long, stay long. Enjoy your paper profit ride, but don’t forget to mind your stops and make those profits real if needed. If you’re trading and miss the lack of real volatility, then now may be a good time to catch up on some insightful reads. Seriously, look at that picture up above one more time. Tell me that’s not exactly who my last post was describing. Cheers!

Fear of Patience or Haste? Some Light Reading May Be Just What You Need

Posted on September 3, 2013 by Margin Rich

One of the notions I come across in conversations regarding the game of investing is the fear of making mistakes due to missing out(lack of action) or not waiting long enough(lack of patience). Bear in mind, we’re not talking about seasoned investment professionals(including myself). Oftentimes, this person is like many other hard-working individuals just trying to build something for the future. For the most part, that fear is completely unfounded as it generally stems from a person’s desire to invest or speculate outside of their competence levels. Why do people do that? Greed? Idiocy? Hubris? Ignorance? Naiveté? Who knows, but it definitely occurs on a daily basis with the retail set.

Two qualities that help to destroy the fear are knowledge and experience. With a healthy foundation of knowledge laid comes confidence. When combined with practical experience, one gets that level of seasoning that can lead to consistent investment success whether one is a pro or amateur. You may be thinking to yourself, “But I don’t have an MBA in finance from Wharton.” So what. Neither do a lot of successful professional investors. You going to work on Wall St.? No? Then who cares. There’s an endless supply of readily available books on everything one needs to at least complete the knowledge-half of the equation to start gaining investment confidence. The experience-half of the equation simply comes with practice, which obviously comes with time and repetition. Do you care enough about your financial future to put in the requisite time?

It all starts with one book, and if you really catch the bug, then it’ll turn into dozens or hundreds as you endeavor to consume as much information as possible to round out your self-education. Feel free to visit the MarginRich Books & Educational Content link at the top of the page(or click here if you suffer from acute wrist fatigue) to see some of the books that had the most positive influence on my own investing or speculating abilities. One can argue that there are better books or I should have read more economics or history or whatever. That’s true, but based on the population of books I have read so far, these had the most impact. When combined with regular perusal of relevant sites on the WWW, one can begin to reach that comfort level with taking appropriate action at the appropriate time based on a quality base of knowledge. Obviously, it’s my opinion that the list of links in Some Favorites off to the side or at the bottom on a mobile device, is a great place to start for web sources of relevant market information.

It is my experience that most people are simply too lazy to take the time to read or research. That’s why they listen to their Fidelity 401k advisor or their 2-bit Schwab financial advisor and wonder why they get average returns. It’s certainly true that just passively indexing in the recent past would have blown away many “complex” strategies, but any real downside protection is effectively eliminated in a down-move bust of the regular market cycle. Strategies really come down to timelines, so whether your horizon is way out or just ahead, it pays to be financially educated enough to truly take matters into your own hands. Building the foundation of knowledge and continuing to add to it will allow one to see value when it truly exists or determine extreme levels when potential outcomes are stretched; hence the tagline at the bottom of all the missives of “Read, Read, and Read some more.”

And let’s not forget the blue-blooded, Ivy League knuckleheads, allegedly the most educated financial professionals on the planet, that virtually blew up the whole system. I’ll never be convinced that it takes their magical, special sort of smarts to run a billion-dollar portfolio for an elite bank or large-scale insurance company and idiotically allow an excessive amount of funds to be gambled in the complex universe of the most esoteric derivatives all over the counter without any central clearing or oversight what so ever to potential worldwide ramifications. GTFOH with that! These fools almost blew it all up once, and you can be sure, the next time they’ll succeed…but life will go on and markets will continue to exist. Pick up a book you’ve been meaning to read and start perusing it. Whether it’s about investing or economics or history or anything, as long as it’s going to positively impact your overall investment skill set. Just…

Read, Read, and Read some more. Good luck out there.

Currencies, Derivatives, and Metals…WTF!

Posted on June 24, 2013 by Margin Rich

Since it’s been awhile, this piece is sort of a long one. Read it in chunks over a few days if you have attention issues or if you get bored; but grab your mom’s reading glasses from Rite Aid and follow along because I’ve compiled more derivatives data that I think you’ll find useful even if you already feel knowledgeable enough about the subject matter. Now let me just state for the record that I’m not some cutting edge journalist or a former banker and I rely heavily on info garnered from public sources, but of course I make every attempt to validate facts. There is quite a bit of content form ZeroHedge in this post as they provide content with great depth when it comes to derivatives. I don’t claim to have perfect knowledge of the mechanics of the entire exotic derivatives universe, but I do feel I have a perfunctory level understanding which allows me to comment with relative intelligence on the subject. Now back to the message…

Volatility, volatility, volatility in all markets. Taper or no Taper? That’s the question that Mr. Market continues to ask itself across bonds, equities, currencies, and commodities; basically all the markets. Consequently, traders are being provided sweet treats in these markets because the volatility is virtually a trader’s best friend. If you’re trying to time the markets, I hope you’re effectively managing risk. If not, continue to stick with a long-term strategy that helps you feel comfortable because it really is one giant rigged casino and long holding periods are the big body guards of the unskilled timers.

I came across an intriguing article the other day from a trading site I like to visit, MercenaryTrader.com. Please bear in mind that I greatly respect and enjoy the work generated by the team at MercenaryTrader, but I simply have a difference of opinion in regards to the following article. They have an interesting take on the US Dollar as they feel it is the premier currency now and going forward. I want to share quite a bit of their content here as they take such a stark, contrasting view to what the doom & gloom crowd believe is the fate of the USD. They present why the USD is in a secular i.e. long-term bull market and determine that the USD’s rise will highly correlate with the stock market’s own rise. Here’s a few choice thoughts from the piece by Jack Sparrow(they use nom de plume’s for their article writing because obviously the author’s not a fictional pirate):

“Our thesis has long been that weakness in the USD was temporary — in large part driven by temporary unwinding of the yen carry trade. Basic fundamentals, plus confirming price action, put the USD in a long-term secular bull market after ten years of decline. This is the flipside of emerging markets imploding, which you also saw yesterday…Why did the dollar respond so powerfully to the Federal Reserve testimony? In part, we believe, because a clearer picture is finally emerging. The US economy is a juggernaut relative to dire Europe and weakening emerging markets. Asia is in a lot of trouble. Japan has already expressed the necessity of forcing a much weaker yen in order for Abenomics to work. In addition to this, you have serious credit crunch problems developing in China — and for the first time in a long time, the real prospect of a China crash. Investors are seeing inflation problems sweep through emerging markets — note the huge protests in Brazil. All these factors are combining to fuel a massive repatriation of funds out of EM assets and back into home-based dollars, again strengthening the greenback… As the great speculator George Soros once said, “I am good at riding the tide, but not the ripples of a swimming pool.” Translation: Traders need big trends to make the truly big money. The return of the US dollar — and the secular outperformance of the USD vs the rest of the world — is a HUGE, huge trend. HUGE.

Why has this possibility been so universally missed (or flat-out dismissed)? Perhaps, in part, because a large contingent of the trading community is bottom-up focused — not overly concerned with sea-change macro factors. And another large contingent of the trading community — call it the “Zero Hedge contingent” — has been myopically, religiously obsessed with the debt side of America’s balance sheet, without properly considering 1) the ASSET side of America’s balance sheet or 2) the positioning of the US vis a vis the rest of the world…

I mean, just stop and ponder for a second. The United States is:

· 1. an agrarian superpower (number one food exporter not counting multiple-country EU)

· 2. a military superpower (who else controls two oceans?)

· 3. a demographic superpower (look at our aging trends vs Europe, Japan, China)

· 4. a technology superpower (Google, Apple, Amazon, Intel, IBM, need I go on?)

· 5. a soon to be energy superpower (we are about to start exporting oil again)

· 6. the domicile of +$70 trillion in household wealth

· 7. the home of the most desired real estate in the world

And the United States government has access to all of the above, in terms of assets to draw down on, by dint of our representative democracy.”

MarginRich here; he goes on to explain the correlation values between the USD and the S&P 500:

” Some other good news: A lasting resurgence in the US dollar need not be bearish for US equities. For many years, as I’m sure you’ll remember, the dollar was a key “risk off” indicator. When the dollar was up, equities tended to be down and vice versa. This was a function of heavy asset flows into emerging markets and multinational blue chips benefiting from emerging market revenues. But now the situation has reversed. With US domestic equities the new sweet spot for bullish positioning (see Bernstein argument), US equities can rise even as dollar flows repatriate back home to the United States. Think of this not just as a “great rotation” but a “great unwinding.” For a long time EM debt and EM equities seemed the place to be. With the dollar strengthening and the rest of the world faltering relative to the United States, that is no longer the case. With every uptick in the greenback, EM assets look a little bit less attractive in relative currency terms (not to mention the problems they are facing — riots in the streets anyone?). The massive over-allocation to emerging markets in recent years is being unwound, as the whole “emerging markets century” idea is getting its license revoked.

(And by the way, a side note to Jim Rogers: I love you Jimmy, your book “Investment Biker” was my literal inspiration for getting into markets. But your uber-bullish China call was about as long-term wrong as it is humanly possible to be. You are even wronger on that call than the Dow 36,000 guys circa Y2K bubble. And as for permanent gold bugs? Oh man. If you thought your world of hurt was bad already…)The correlation chart above, from Bespoke Investment Group, shows how the US dollar / US equities relationship has changed. The dollar and US equities now have a positive correlation, rather than the negative one that persisted for years.”

MarginRich here again; what dollar bulls continue to completely fail to note in any of their commentaries or share in any of their trading strategies are any thoughts on the derivatives exposure of the biggest banks and thus the sovereign nations where the banks are domiciled. It’s as if the derivatives market and thus the shadow banking industry don’t exist to these people. I fully understand their views and theses but these could be perceived as somewhat short sighted as they fail to completely assess and include the notional derivatives exposure by the biggest power players on the planet. Let’s revisit what the derivatives situation looks like for the biggest banks on the planet(ex-China, ex-the rest of Westernized Nations, and ex-BlackRock). Keep in mind that after the 2008 crash, the Bank of International Settlements (“BIS” which is the central bank to the world’s central banks) changed the valuation method of derivatives for banks and thus halved derivative exposures across the world from approximately $1.4 quadrillion to between $600 & $700 trillion; of which all are just unfathomable numbers. So here is what dollar bulls continually ignore, as reported by the US Office of the Comptroller of the Currency:

I can’t begin to understand how the heck Deutsche was excluded off of this list. Through the alchemy of balance sheet netting and German domiciling, they’re not even in the top 25 of US holding companies, but observe a snapshot of DB’s derivative position and how that compares to the entire German economy(both courtesy of ZeroHedge):Once again, no big deal. DB only has Euro-denominated derivative exposure that is 20 times the size of the entire German 2012 GDP; and hell, Germany is only just the 4th biggest economy in the world. There is definitely no risk in that, because Germans can just print as many Marks as they need to deal with any potential liquidity or credit issues…oh wait…yeah the ECB. Well that’s how the Federal Reserve helps support Europe through the magic of currency swaps and the “unbiased” IMF.

In fact at the end of 2012, here is what the IMF had to say about derivatives via their staff discussion paper, “Shadow Banking: Economics and Policy“(again, courtesy of ZeroHedge):

“Over-the-counter (OTC) derivatives markets straddle regulated systemically important financial institutions and the shadow banking world. Recent regulatory efforts focus on moving OTC derivatives contracts to central counterparties (CCPs). A CCP will be collecting collateral and netting bilateral positions. While CCPs do not have explicit taxpayer backing, they may be supported in times of stress. For example, the U.S. Dodd-Frank Act allows the Federal Reserve to lend to key financial market infrastructures during times of crises. Incentives to move OTC contracts could come from increasing bank capital charges on OTC positions that are not moved to CCP (BCBS, 2012).

The notional value of OTC contracts is about $600 trillion, but while much cited, that number overstates the still very sizable risks. A better estimate may be based on adding “in-the-money” (or gross positive value) and “out-of-the money” (or gross negative value) derivative positions (to obtain total exposures), further reduced by the “netting” of related positions. Once these are taken into account, the resulting exposures are currently about $3 trillion, down from $5 trillion (see table below; see also BIS, 2012, and Singh, 2010).

Another important metric is the under-collateralization of the OTC market. The Bank for International Settlements estimates that the volume of collateral supporting the OTC market is about $1.8 trillion, thus roughly only half of exposures. Assuming a collateral reuse rate between 2.5-3.0, the dedicated collateral is some $600 – $700 billion. Some counterparties (e.g., sovereigns, quasi-sovereigns, large pension funds and insurers, and AAA corporations) are often not required to post collateral. The remaining exposures will have to be collateralized when moved to CCP to avoid creating puts to the safety net. As such, there is likely to an increased demand for collateral worldwide.”

MarginRich again, so here’s the best part of that; the BIS states that once again due to the wizardry of netting that the world is only exposed to $3 trillion in derivatives. The precise number is $3.7 trillion as of the first half of 2012 which is basically the same number since 2009 after the crash in 2008, so there has effectively been absolutely no effort to wind down these derivative books which are of course only traded OTC which is why the shadow banking industry presents so much damn risk to the system. The kicker is that the BIS openly states above that there is only $600 to $700 billion backing these derivative transaction. My basic arithmetic skills show that as a very safe 5 times leverage. Thank god for conservatism by the banks, but if you take the collateral against the very real and un-netted number of $600 trillion then we calculate collateral coverage of approximately a tenth of 1% or for the layman, 1000 times leverage (as reported by ZH as well). But you may ask, well why does it say there is $1.8 trillion of collateral and what the hell is the reuse rate? That is how hypothecation comes into the picture. Financial institutions will re-post collateral that belongs to their clients in their own for-profit transactions, under the assumption that the game is such that they are guaranteed to get their money back or they’ll easily come up with the money if something goes south. This will occur with one piece of collateral between multiple entities and that is when re-hypothecation comes into play. How it’s legal is just absolutely beyond me. Feel free to revisit MF Global and the theft of innocent traders’ money who deposited their cash there for futures trading. JP Morgan re-hypothecated hundreds of millions, and by re-hypothecate I mean pilfer or let’s just call it outright stealing, from MF Global’s clients for bad bets that MF Global illegally made with depositors’ money. Many innocent people who trusted MF Global to just hold their cash as a trustee and simply help them facilitate futures trades as a brokerage are still waiting to be made whole. JPM doesn’t feel they have to give that money to the people it belongs to as they are first-in-line creditors, and the courts agree with them for now, so how this is all legal is seriously beyond me. Why would JPM be made whole before MF Global depositors when MF Global had to legally segregate depositor funds and thus could not post those segregated funds as collateral for MF Global’s own transactions, at least as I understand the laws and regulations? Anyways, that’s a discussion for another time and place but if you’re curiosity needs to be immediately satiated then you can visit here and here for a deeper dive along with the actual court case; both about Sentinel Management Group which is apparently establishing the case law however this definitely has the potential to get appealed and taken up to the Supreme Court.

Now all this talk of derivative exposure and bank collateral definitely sounds like the foundation for a long-term dollar bull market especially when you combine in the effects of quantitative easing and the inflationary effects on asset pricing. And if you don’t think asset price inflation exists, then please explain to me the rise of the stock market, the real estate market, the high yield bond markets, the fine art market, and of course the diamond markets, just to name a few several. The icing on the cake is how the US federal government intends to deal with any issues that could potentially arise in a liquidity or credit event in the banking industry. Observe the following chart displaying total FDIC assets, total US cash deposits, and the US derivative exposure all in one pretty little package(once again, courtesy of the OCC via ZH): That’s right. Your eyes don’t deceive.

The government has allocated $25 billion from the premiums paid by FDIC member banks to protect depositors in the event that a Lehman-style event occurs again. Do you feel good about the long-term condition of the USD? No doubt, the USD is the top of the currency game right now; but judgment day cometh at some point. I can’t tell you when. I’ve guessed somewhere in 2015 – 2016, but nobody can know. I will continue to say that you can only subvert basic economic and monetary laws for so long. At some point the unintended consequences of this entire 4 decade monetary experiment of exiting the gold standard in combination with the shadow banking system, will draw forth some sort of epic but indeterminate action. It’s guaranteed. Seeing the lack of liquidity in the system to deal with actual risks adds insight into the risks to your cash & assets and the plausibility of a bail-in using your money. The next event will be a triple-whammy as tax payers are hit thrice; once with the bail-outs and then again with the bail-ins and then again as I’m sure the capital gains tax will rise to some egregious percentage or windfall taxes are introduced. It brings clarity to the presentation I sent so many months back when I asked who the hell was JPM referring to in the slides about who will provide needed liquidity, what they leave unsaid is that “shareholders and creditors” really means you i.e. the depositor. Coming back to the buck and why we visited the whole derivatives situation, trend trading the USD right now is one thing but I think it is a stretch to label it as being in a “secular bull market” without fully considering the risks associated with the just-discussed derivative exposure.

Which brings us back to what I(along with countless others) continue to say will be the ultimate investment haven and of course absolute hedge to the the potential busted systems of the banks and governments…precious metals. By now I would understand if you’re finding it difficult to maintain positions in precious metals shares in your portfolio and have verbally cursed the day you may have taken a position in anything related to a precious metal. It’s easy to say right now I was wrong because I was so early and that the case for precious metals is totally bunk and busted. I won’t delve back into all the reasons why your portfolio is going to need precious metals to get through and possibly even prosper through the times I’ve already described.

You can call me a “gold bug” but I haven’t encountered too many gold bugs who’ve shorted gold(via the GLD) and the miners to wash the paper losses of the long-term precious metals holdings. I also am not going to present any new trading ideas for precious metals shares as I’ve already shared a majority of my favorite plays. I will fully admit to being early in some of the plays and I wish as much as any other speculator that I had waited until now to pick-up some of the best speculative names. I also wish I had a unicorn with a magical golden horn that granted wishes, but I’m content to live with reality.

I was sharing with a colleague in an earlier message regarding a junior silver producer to try and compare your situation to Dr. Michael Burry’s, the hedge fund manager formerly of Scion Capital from The Big Short. I know you’re all familiar but let me remind you that he was paying out millions in insurance premiums on the credit default swap derivatives on mbs, which he helped to invent, as a result of getting into the trade years early. His investors, who were humongous players such as Joel Greenblatt of Gotham Capital and White Mountain Insurance, were incensed at the very real losses the premiums paid represented in light of none of the derivative contracts paying off yet and housing just continuing to rise. They gave him hundreds of millions to manage and yet berated him incessantly and threatened him with litigation, but he was resolute and steadfast in his conviction that time would ultimately be the arbiter of value. When the bets paid off, his investors made hundreds of millions of dollars in one fell swoop and Dr. Burry was totally vindicated in his ability to foresee and sit tightly until the obvious end to the trade arrived.

And that is how you should consider your UNREALIZED, PAPER losses; as “insurance premiums” that are the cost of being years early in what has the potential to be the ultimate trade this decade. Think there’s a reason Dr. Burry bought a boat load of gold and farmland, closed up shop, and essentially dropped off the grid? He just may be years early again.

Which brings us back to the shiny little metal which has caused so much pain and angst for speculators of all ilk. Gold has the potential to bring about a monetary revolution that will offset the full power of the USD over the coming years. Is the USD going to totally crash in value and be totally replaced by the Renminbi or SDR’s from the IMF? Obviously not. You can’t just displace an economic and military super-power who possesses the reserve currency in under a decade. The way the USD will drop in value will be the reduction in its use as the reserve currency around the world. Not totally of course, but as of right now, the USD has a 67% share of the currency market; a full 2/3rd. And virtually 100% for oil with the Petro Dollar, except where countries have worked out specific agreements with one another, which is already beginning to happen at a higher rate between China and other players. Take a gander at this article where China has worked out an agreement with the largest oil company on the planet in a $270B deal to double its Russian oil imports over the next 25 years. Even though the article did not specifically state which currency was used, I can state with fair assurance that it wasn’t the Petro dollar but instead probably a Renminbi/Ruble swap.

Now that USD reserve currency use percentage of 67% will inevitably drop to a much lower percentage of possibly between 40% and 50%, as the role of gold and other currencies increases and the other powers in the world decide they’ve had enough of the USD and wish to facilitate large-scale international transactions in different denominations. The drop to 50% USD use is a percentage that Ray Dalio, founder and CIO of Bridgewater, agreed would be probable. You may think to yourself, so what? Who cares about a 17% reduction in the worldwide use of the USD as the reserve currency? Let me assure you that a drop like that can have earth shattering, negative impact to the markets.

And why do we even care what Bridgewater thinks? Well it’s because it’s the largest hedge fund in America with over $140B in assets under management. Dalio along with his Co-CIO, Robert Prince, consistently provide some great macro-economic commentary from an investment standpoint that simply has to be considered. Here’s another great quote from Ray Dalio regarding how the massive debt overhang of the Westernized nations will most probably be dealt with, “…one of 3 things will have to happen: a global debt restructuring/repudiation; global hyperinflation to inflate away this debt, or a one-time financial tax on all individuals amounting to roughly 30% of all wealth. That’s pretty much it, at least according to mathematics.” Two of those outcomes spell nothing but upside for gold and Dalio said this back in September of 2011. Additionally, you’ve got Prince’s early 2012 commentary about bank debts and sovereign debts, “You’ve got insolvent banks supporting insolvent sovereigns and insolvent sovereigns supporting insolvent banks.” And lastly from Dalio regarding Buffet’s take on gold, “I think he is making a big mistake.”

Now that gold is suffering the most intense drops of the 2 year correction, especially with last Thursday’s action, let’s take a look at some potential catalysts for the metal. Incidentally, I think the bottom of this total corrective move from the September 2011 high, will be be down around $1,200; so we’re almost there. Try not to throw up in your mouth as you read that and the following. We’re seeing all-time low stock levels at the metals warehouses at the bullion banks for delivery via futures contracts through the COMEX and LBMA. Additionally, the Commercials(classified as the major producers who hedge and the bullion banks who facilitate large-scale transactions) at the COMEX are the least net short since the selloff’s of 2001, which marked an absolute low before the major run-up to September 2011. In fact, the Commitment of Traders (“CoT”) report is currently showing the absolute lowest net short position since 2001, which was essentially the all-time bottom in the gold price after it was untethered from the dollar in 1971.

This can be observed in the first chart below. According to the creator of this chart, Tom McClellan, “Commercial traders of gold futures are showing one of the most bullish conditions in years. They are usually presumed to be the “smart money”, and so when commercial traders move to a lopsided net position as a group, it usually means that prices are going to be moving in their chosen direction…In the first chart below, the current reading is the Commercials’ lowest net short position (as a percentage of total open interest) since 2001, which was when gold prices were just starting a multi-year uptrend from below $300/oz. The message here is that commercial traders as a group are convinced that gold prices are heading higher. They usually get proven right, eventually, although sometimes we have to wait around longer than we might wish for “eventually” to get here.”

For the second chart McClellan stated, “One other way I like to use the data in the CoT Report for an interesting insight is to watch total open interest numbers…when the 3-week rate of change of total open interest drops below around -12%, it is usually a pretty good indication of an important bottom for gold prices. Whether or not this recent sudden drop in open interest is going to lead to a real and lasting uptrend for gold prices, or instead just bring a temporary pop, is something that this indicator does not tell us. But history says that it should be associated with a meaningful price bottom, which tells me that we should get some meaningful amount of a price rally from here.” I strongly recommend a visit to mcoscillator.com, as they provide outstanding commentary.

Additionally, demand for physical gold whether it’s bars, ingots, or coins has been through the roof and has stayed there since the down-move began in earnest back in mid-April. This kind of demand on quick moves down in a commodity always produces higher premiums over spot because the spike in demand paints the exact opposite picture of the tape that is trying to be painted with the paper market. McClellan produced some very interesting additional charts that also lend themselves to a potential rise in the gold price. Here is how he described them, “I have just learned recently that the behavior of gold coin dealers can offer us an interesting insight about where gold prices are headed, but perhaps not in a way one might have imagined. The Wall Street Journal publishes prices for gold coins on its web site every day. They even offer historical data going back as far as June 2007…What I discovered when looking at this data on American Eagle pricing is that the average premium over spot is around 4.88%. But whenever it gets up above 6%, the days which follow nearly always see a rise in gold prices. That does not necessarily mean that a >6% reading is a bottom for gold prices. Absolute bottoms or tops are much less important than the direction forward from any given point, and when there is a bullish bias after a certain event, that’s really useful information…I just look at what the data say, and what I see in this week’s chart seems to show a periodically useful edge in terms of figuring out what gold prices will do, if one is willing to look patiently at gold coin prices every day and wait for those pearls to appear. Interestingly, this phenomenon is not confined to just American Eagle gold coins. Here is the premium over spot prices for Canadian Maple Leaf coins. The average premium over spot for Maple Leaf coins is 4.6%, and readings above around 5.5% tend to be followed by gold price rallies over the next several days in the same way that this principle works for American Eagle coin pricing. It also works for Krugerrands. When I say it “works”, I am referring to this phenomenon of the quoted coin price’s premium spiking up well above average, which for Krugerrands seems to be about 3.8%. Readings above 5.0% over spot tend to be followed by rising gold prices over the next several days. I don’t know if this is a case of the smart gold coin dealers sensing that a rally is coming, and thus bumping up their prices to take advantage, or if some other market dynamic is at work. I just know what I see in the data. One potential problem with this data is that it only comes from one source, and we don’t know how wide of a survey net they cast when gathering this price data. But on the positive side, the data are easily available. Interestingly, this momentary pricing anomaly for gold coins arrives at the same time that the Commitment of Traders (CoT) Report data are showing that gold and silver traders are at historic extremes of sentiment. In other words, things looks like a bottom for gold prices which should matter not just for a few days to follow, but for weeks or months.”

The CoT data of the bullion banks(the bullion banks are the big banks) and commercial hedgers is important because they have essentially positioned long ahead of the hedge fund/managed money group. Now keep in mind we are not talking about giant hedge funds that you know. We are talking about the smaller ones with extremely less talented management who have a stronger tendency to believe in their trend trading systems and follow the herd. This is important because the bullion banks seem to control the gold game with what could be perceived as the help of the central banks and the BIS. They can crush the hedge fund/managed money shorts and they will choose the time of when they feel like beginning to harvest those profits and drive the gold price upward. The data shows that may start occurring in the later Summer or beginning in the Fall. Either way, do not forget that at this point the bullion banks are totally and completely controlling the paper gold game. Observe the following two charts, first by Nick Laird at Sharelynx.com and second by ZH, supporting the reduction in the big banks net short exposure and the significant increase in the hedge fund/managed money gold shorts, which supports the charts up above by McClellan.

That takedown last Thursday was enough to put the fear in any weak-handed gold speculator/investor. It appears to have been the work of the gold manipulators, which by now is well documented as being the work of the bullion banks in conjunction with the BIS and with the full approval of the central banks. And if you’re STILL in the camp that doesn’t think the precious metals are not manipulated or reserve judgment then please get a clue. LIBOR was reported manipulated and entire debt markets all over the world were affected. FOREX rates manipulated by banks through the front running of the rate-sets through Reuters system affecting THE biggest market in the entire world. Sovereign bond markets of the Western world are outright manipulated and accepted as the proper course of action via the quantitative easing which is the market operations by the Western central banks to simply monetize their own debt. Precious metals are manipulated because they send a most important warning message to the world about what is impending, so yes, I tend to agree with the contention that the metals are manipulated because the psychological effects are absolutely required to maintain control of the entire fiat façade. Control of the metals will also be required to slowly introduce a fix to the system and thus we see the bullion banks positioning their banks to the long side and will allow the release of the paper gold price at their own behest.

William Kaye, a hedge fund manager out of Hong Kong who worked with Goldman Sachs in M&A before forming his fund The Pacific Group in the 90’s, reported on King World News regarding the continued trading in gold that is exceptionally questionable: “It’s the end game of a fantastic manipulation of the markets. I’m looking at my screen now as we talk, Eric. I’m in L.A. (Los Angeles), but we are still in Asian (trading) time with London just coming in at the moment, and we’ve traded over 94,000 contracts. So passing the baton to London we will have already traded 100,000 contracts. A normal night (during Asian trading) would be 20,000, to put that in perspective. So the question is, who is selling all of these contracts at levels that are multi-year lows? Who’s so keen to sell?… And if you need to sell, why are you selling at the worst time of day? Why are you selling in Asian time, which is always the thinnest section of trading? Why don’t you wait for London and Chicago to take over? And the answer is very obvious, these markets are clearly and blatantly being manipulated. The people doing it have clear price objectives. My guess is they want to see a print below $1,300 (on gold) before they are done. That will allow people (trading for the bullion banks) to make profits on their shorts. The bullion banks, from the Commitment of Traders Reports that we’ve seen plus other information that we’ve gathered, strongly indicates that the banks, which are the centerpiece of this conspiracy, have shifted rapidly from being on the edge of default, as ABN AMRO has already done, to being net long, and in some cases being very net long. So they (bullion banks) have taken the opportunity that’s been provided by the cover from what would appear to be official intervention, in what I suspect is the Fed and possibly the ECB, to take the other side of that trade. Now they are extremely net long and that sets the stage, in addition to a very promising technical picture, for a very powerful rally as we look at next week, into July and beyond. The second half (of the year) could be extremely explosive on the upside for gold and silver as well.”

Observe the following chart supporting Kaye’s thoughts and providing additional backing to McClellan’s charts up above. The very latest CoT as of 6/21/2013 was not available before I penned this, but several analysts contend that there is a small possibility that Commercials will actually print at net long next week for the first time since the beginning of the bull market, which would be very, very compelling for a potential trend change in gold if the $1,200 area is truly the bottom.

You’re all grown-up’s so you can ascertain for yourself the credence you put behind the entirety of what you have just read. The derivatives in combination with sovereign debts are the biggest economic issues in the world. I strongly advise you do not take your eyes off of them. Regarding gold, it’s my hope that if you were beginning to doubt the decisions you have made to position yourself in any precious metals or precious metals shares, that this article has reaffirmed your original reasoning. I, nor anyone, knows the when, how or what of the final outcome of the endgame here but as always; you know where I stand. SAND continues to be my absolute favorite way to play the precious metals and I continue to have no doubts about the final outcome of where SAND will trade.

A key to successful trading is risk management and hedging your trades accordingly. For you all, your hedges are generally your 401K’s and IRA’s that allow you to safely compound your investments in relatively safe, reasonably priced names. You get paid to wait with the dividends which fortunately helps you lower your bases and reduce the risk of your positions in riskier other plays, such as the precious metals shares or option moves. Concentrate on risk management and stick to playing the game within your tolerance levels. One should only speculate with capital they can afford to lose but more importantly, position sizing is critical. Going all-in in a game like this is a suckers bet, but I think failing to have any exposure to the precious metals sector would be foolish.

Read, Read, and Read some more. Good luck out there.