BREAKING: Futures Trader Warns of Physical Gold Shortage

Meanwhile, Obama announces plans to jack up wage inflation

Mike Gleason Mike Gleason
New Radio Release
January 31st, 2014 Comments

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Welcome to Money Metals Exchange's weekly market wrap podcast. Helping precious metals investors during these treacherous times. Now, here's this week's market wrap with commentary and analysis from the fastest growing precious metals dealer in America, Money Metals Exchange.

Mike Gleason:

Welcome to this week's market wrap podcast, I'm Mike Gleason.

Coming up, we have a blockbuster interview on the gold market with professional trader Tres Knippa. Tres has some stunning insider news about just how little physical gold is backing the entire market right now. It's shaping up to be a potentially explosive situation, and Tres has some insights that ALL metals investors need to hear.

But first, a review of this week's market action. As trading for the month of January concludes, we're getting mixed signals about metals prices on the momentum front. On one hand, the white metals – silver, platinum, and palladium – have drifted lower so far this year. On the other hand, gold has managed to show positive gains year to date, as have gold and silver mining stocks.

For the week, though, all the metals are looking at declines. On Wednesday, the Federal Open Market Committee announced it would reduce its monthly asset purchases by another $10 billion. Markets initially seemed to be little affected by the announcement, which had been widely anticipated. But the U.S. Dollar Index rose strongly on Thursday, contributing to a sell-off in precious metals.

Gold fell 2% on Thursday, while silver lost 3% on the day. For the week, gold is down about 1.5% and trades at $1,252 per ounce as of this Friday morning recording. As for silver, it is trading at $19.40 an ounce, rallying a little bit off of yesterday's lows down around $19.05, but silver is still down roughly 2.5% on the week.

Most indicators continue to suggest that silver is in a major bottoming process. But prices will need to hold support near current levels to avert a breach on the charts that could invite more near-term selling pressure.

At this point, the inflation trade just can't seem to find a trigger. Commodity prices have been essentially flat since last summer. But the Fed has indicated it wants to see slightly higher rates of consumer price increases. And, in spite of launching a tapering of its bond purchases, the Fed has vowed to keep its benchmark Federal funds rate near zero – a rate that stimulates demand for money and an inflation of the money supply.

The Obama Administration also wants to see higher inflation. On Tuesday, Barack Obama gave his State of the Union address. In it, the President outlined his intention to unilaterally raise the minimum wage on federal contract work without Congressional approval. He also called on Congress to raise the minimum wage across the board. He called on state governments to raise minimum wages above what is federally mandated. And he called on private employers to voluntarily raise wages.

Mr. Obama seems to think that pressuring and coercing employers to raise wages will offset the loss of purchasing power wage earners have seen in recent years.

Soaring costs of things like insurance, energy, and college tuition could easily be blamed on governmental policies and our monetary system. Yet politicians prefer to blame employers.

Of course, raising everyone's wages will make everything produced by labor more expensive. And most economists believe that an increase in the minimum wage will eliminate low-end jobs. That would in turn put more pressure on the Fed to keep stimulating. Perhaps what the President wants is another wage-price spiral like we saw in the late 1970s that culminated in double-digit inflation.

We're not there yet, but things seem to be moving in that direction. During stagflationary environments like we saw in the 1970s, physical precious metals are the premier assets to own for wealth protection. Right now we are seeing a near unprecedented disconnect between physical gold supplies and futures market prices however.

To help us make sense of this disconnect and what it might mean for precious metals investors, let's get right to our exclusive interview.

And by the way, if you don't own physical gold yet – or if you happen to own any form of paper proxy such as ETF shares or other gold you can't actually lay your hands on – you had better pay particularly close attention to the next segment…

Mike Gleason:

I'm joined now by Tres Knippa of Kenai Capital Management who recently blew the lid off some potentially explosive developments in the gold market. Tres is an experienced precious metals trader and insider of the Chicago Board of Trade, and it's exciting to get a chance to talk to him today. Tres, thanks for joining us very much, we appreciate your time.

Tres Knippa

Absolutely I'm delighted to be on.

Mike Gleason:

You gave a great interview last week with the Business News Network about some very interesting dynamics at play in the gold market right now. Talk about these extraordinary developments that you're seeing because I know you look at this data every day. What exactly is going on with these gold inventories that supposedly back the entire trading market in the US?

Tres Knippa

Sure. You have to remember the approach that I'm taking here is that all the things I'm going to be talking about are coming from the approach of a futures trader. I will try my best to not use trading terminology and futures terminology, and I'll try to talk because I understand a lot of listeners are not trading futures on a day-to-day basis. For me, the exchange that they trade futures, the gold futures on, is called the COMEX. Now the COMEX has got what's called a fractional reserve exchange. You've got a certain amount of futures contracts and then you have a portion of those futures contracts that you've got the actual gold that's there, and technically, the way futures work is, that's what a futures contract is. It's a contract for delivery of a particular commodity at a particular date in the future.

The nature of gold futures, if you're not in what's called the delivery month, and the delivery months of gold are every other month, February, April, then June, August, Oct(ober) and Dec(ember) okay. Those are the only months that can be delivered against. They can only be delivered within that month. Tonight the February gold goes into what's called delivery period, and this is when the people that are short gold, they can elect to say, all right, whoever's long, I'm going to sell them, I'm actually going to deliver the gold. Then the long has the choice. He can either take the gold or he can retender it, that sort of thing.

In theory, if the gold is not in the delivery period, the price that's being traded at COMEX is not necessarily the price that's being traded in the physical market. For instance, when I started doing my homework, it didn't take long to figure out that the price for physical delivery in Shanghai is somewhere near a $15.00 premium to what COMEX is trading at. Where this gets important for me as a trader, now we get pulled the curtain back so we say, because when you get into the delivery period that's when the real gold is going to trade hands, and that's when the market makes some changes and the prices move certainly.

What I found interesting in the last delivery period that would have been December, so the December gold it goes into delivery. Some people they say okay we're going to deliver the gold against the futures contracts, and in that time you have one big bank who stood there and took all that delivery. When the firm takes delivery of course several things can happen. When I'm analyzing when we were talking about shortages, and fractional reserve exchanges, and this and that, you can go right to the COMEX website and you can see how much gold is actually there. What struck me when I started doing my homework is that in futures trading you have what's called a limit position and that limit is set by the regulators, so that one entity can't own too big of a percentage of a futures contract.

That limit is 3,000 contracts, which works out to be 300,000 ounces of gold. If you go look in the inventory at COMEX and it's right on the website you can go and pull up the daily inventory as it changes, you've got two classifications of gold that are held in inventory. One is called eligible inventory, and the other is called registered inventory. Registered inventory is the amount of gold available for delivery against the futures contract. There's a glaring number there, and as of last night, there was only 370,000 ounces available for delivery. Well I just said two sentences ago, that one entity can own 300,000 ounces of futures, so that means you've got 300,000 as a limit long position, and the availability of supply is 370,000. One person could say give me the gold, and he would exhaust 82% of that registered supply at COMEX.

That is a really big deal because guess what? What if two people did it? And to put this in dollar terms, you're only talking 300,000 ounces. That's somewhere just under half a billion dollars, 500 million bucks. I'm not trying to sound trite when I say that but in the world today, 500 million dollars, that's not a lot of money. If you turn the clock back to 2011, there's a famous investor by the name of Kyle Bass who runs a firm out of Dallas, he sits, and he advises the University of Texas. The University of Texas had a billion dollars worth of these gold futures, and he advised that he thought they should take delivery. That's a billion dollars worth of gold and that's a university in Texas. Half a billion, 500 million is the available supply now. There's an awful lot of entities if they say, give me the gold, it just simply isn't there. You could see some very explosive price changes as you move into delivery if somebody decides give me the gold.

Mike Gleason:

Yeah and February is historically a pretty big delivery month so, do you think this is going to come to a head here? Are we going to see some sort of event take place? I mean are we going to get some fireworks, what do you think will happen?

Tres Knippa

The trick here is and where this is all odd is, this whole thesis, and the way that I am trading and the way that I'm executing, in my opinion, and I'm a trader, so let's just put it the way it is. I am a speculator. My job is to seek out profits, plain and simple. I'm not trying to save the world here right? If I'm trying to find profit in my opinion, I seek out opportunity and I see the opportunity in the price changes between the paper, i.e. the futures, and the physical, and then there are trades I can do around that to try to take advantage of that. Now am I making a larger point about the direction of gold itself? No not really. I'm making more of a point as far as available supply and of the physical versus paper.

We get into a discussion here that I don't want confuse people because it sounds kind of weird. One of the reasons I think that gold prices have the possibility of continuing to work their way lower, we bounced recently, but is it possible that we could consider that they've kind of figured out a way to counterfeit gold? If you've got an exchange where you're sitting here and you've got a hundred times more paper traded than what's there in physical gold why is that not considered counterfeit? It's hard for me to wrap my head around. Like the GLD, ETF, things like that, if you can create a paper gold that isn't there, then maybe part of the reason that gold ran up was an expansion of what I call the multiple expansion of the amount of paper that's being printed, of paper gold versus the physical.

Now, maybe you have to liquidate that paper back down to a reasonable level. Do you see what I'm getting at here is for me clearly the way to go is going to be in the physical market because guess what, your trade's I guess it's a one and a quarter premium in Geneva. It trades about a one and a quarter percent premium in Shanghai. The market is telling you that it wants the physical and doesn't want the paper. So there's something to that story. There're a variety of ways to trade around it. I have my own theory about the right way to trade it. It's not appropriate for everybody. My clients are a little bit more sophisticated this isn't just we're buying gold to hold there or that sort of things. Like I said, there's a trade around this that I'm doing, but the larger story here is if I wanted to own gold I certainly wouldn't go to the paper market.

In my mind I would always err going to that physical and I actually have a theory for where a lot of this physical gold is going. That theory is it's going to China. If I'm Chinese and I am scared of my government, as they should, I mean we're talking about the country that sensors Google right? If here I am a wealthy person in China, and I'm worried that my government at any given moment could have some sort of revolution or they just arbitrarily decide to change the rules on me, this that and the other, the Chinese are interested in truly protecting their wealth.

They want to hold their wealth in their hands. That's where I think a lot of this gold is going. They don't want to be in the position where they've got an account some place where the government could grab it. In my humble opinion I think that's where this physical inventory is going. Guess what? In China you can bring that gold in but it's against the law to ship it back out. Now you have this black hole of physical gold there.

Mike Gleason:

Yeah and we could continue to see a divergence between the physical and the paper markets as you mentioned. Something has to give, it can't go on forever like you mentioned. It's going to take something to bring that gold back to the market here on these exchanges otherwise maybe the futures exchange stops becoming the main price setting mechanism for the metal. Do you see that sort of thing coming where we could start to see the physical market actually set the price if this continues to get out of control when it comes to the shortages of inventory?

Tres Knippa

Maybe the opportunity is in a two-tiered market developing within the futures because remember, those futures contracts do have to track the physicals once they're in the deliverable month. But then the month behind it those are still the paper gold so suddenly the spot month once it becomes spot, I see the situation where the spot month is gaining considerable ground versus the backs, because the backs are paper until you get to the delivery month. Then the front month it actually has to go to the physical, so the explosiveness that you will see is that relationship of one month to the next in the futures. That's where I'd be watching if you want to catch some fireworks.

We're talking about these individuals wanting to hold their wealth in their hands and things like that. That's a pretty timely conversation. Don't you think somebody in Turkey is much more interested rather than holding the Turkish Lira, aren't they more interested in holding a physical asset like gold and things like that? Well, of course they are. They see their currency getting hammered versus the other world currency. This is a recurring theme through world history. A politician gets re-elected by spending more money. Politicians don't cut spending because you don't get elected if you do that. You go out you spend more money that you have, you borrow it, treasury issues bonds against it, and then your central bank prints money to buy your own bonds. This has happened before and it's going to happen again.

Clearly the joke here is not lost on me that yes, this is what's happening in the emerging markets and this is why those currencies and those bond markets are getting hammered in Turkey, Argentina, we can go on all day. Why are they doing anything differently than what we're doing in the United States? We've got them. I'm from Texas so everything's a football metaphor. We've got their playbook and we're doing the exact same thing. Why are we any different than Argentina? We don't plan on cutting spending, no chance. We're not going to balance our budget. We've got Fed here to stand there and write and cash those checks for treasury.

Why can't we be learning from what the emerging markets troubles are having? We should be learning from that not ignoring it.

Mike Gleason:

You're at ground zero there on the trading floor every day, in fact that's where you are right now as we're doing this interview even though the market action is mostly done for the day. What's going on behind the scenes in the metals markets? Is this apparent shortage and actual physical gold getting any attention from your colleagues?

Tres Knippa

Well, it's funny. I have a managed money product where I trade some sovereign debt. I have a website called short Japan debt, I have a thesis that I think Japan is going to have a debt crisis kind of like Greece. This story got folded into that as, hey what do you do with your money in these circumstances and things like that? Here I've been talking about Japan and the yen for three years and nobody really gave me much publicity and then I say the magic word, which is gold, and suddenly I get picked up on every newsletter, yours among them, because of the comments I made on BNN. It is out there. There are specific ways to try to take advantage of it that I think I have some specific strategies that I'm happy with that I've been doing, but do I anticipate the real news headlines would be, if somebody steps up on the last day of a futures contract and says, give me the gold, and now what? We think of people talking about a default.

Remember who COMEX is. COMEX is not in the business of delivering gold or taking delivery in gold. COMEX is just a platform that traders can use. If you get into the situation where a long says I've got the futures contracts, here's the money, I want the gold, and then the short is going to have to bid up. He's going to have to buy his way out of his short position and he's going to have to pay some price for that long who owns it, to let him out of that position. What is that number? Is that $10.00 over spot? Is it 20, is it 30? If I'm a short and I suddenly have to come up with 300,000 ounces worth of gold, and I have to do it in 48 hours, you want something that's going to make news?

What if there're two guys like that. What if you got two guys put on a limit position? The registered inventory is only 370,000. Two guys put on the limit position that's 600,000 ounces and they say, give me the gold. Now, you've got the shorts that are on this other side, have to run out and manage to find 600,000 ounces of gold, good luck that meets the contract specifications for COMEX? You want to see some price explosiveness there you go.

Mike Gleason:

Yeah that will be very interesting to see and this could be pretty significant. I certainly want to thank you for joining us and I hope we can catch up with you again soon as this starts to unfold.

Tres Knippa

Absolutely and as I get more information I'll email you directly and say, hey this is a big deal. But all this information, it's all public. Just go on the website. Go on the CME group website and you can see exactly how much gold is registered. It's all out there you've just got to do homework. Luckily I'm a nerd so I like doing homework.

Mike Gleason:

Excellent stuff. Tres Knippa of Kenai Capital Management we thank you very much again and that will do it for this week market wrap podcast. Thanks for listening please join us next Friday for an exclusive interview with Gerald Celente of Trends Journal. You definitely don't want to miss what he has to say. Until then this has been Mike Gleeson with Money Metals Exchange. Have a great weekend everybody.


Thank you for joining us for this edition of the Money Metals Exchange Weekly Market Wrap. Be sure to come back next week, and don't forget to subscribe to our weekly podcast through iTunes. For answers to all of your questions, or to discretely and securely buy or sell gold or silver coins, bars, and rounds, call 1-800-800-1865. Our knowledgeable and no-pressure specialists are standing by between 7:00 a.m. and 5:30 p.m. mountain time, Monday through Friday. Visit us at or call 1-800-800-1865.

Mike Gleason

About the Author:

Mike Gleason is a Director with Money Metals Exchange, a precious metals dealer recently named "Best in the USA" by an independent global ratings group. Gleason is a hard money advocate and a strong proponent of personal liberty, limited government and the Austrian School of Economics. A graduate of the University of Florida, Gleason has extensive experience in management, sales and logistics as well as precious metals investing. He also puts his longtime broadcasting background to good use, hosting a weekly precious metals podcast since 2011, a program listened to by tens of thousands each week.