Bitcoin Blow Up... New Warnings for Paper Gold Holders

Announcer:

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.

If you can't hold it, you don't own it. That's the adage many physical precious metals investors live by.

Now it doesn't always matter whether your wealth is in tangible or electronic form. But when it matters, it matters a lot. Like this week, when the largest exchange for Bitcoins shut down. Hundreds of millions of dollars that were put into the digital trading units are gone. The Bitcoins may never be recovered, and the value of all Bitcoin units has taken a hit amidst the turmoil.

Again, if you can't hold it, you don't own it. Just ask trends forecaster Gerald Celente, who appeared as a guest on this program a few weeks ago. He held claims on physical gold with MF Global. The firm defaulted, and gold account holders got back only a fraction of the gold they thought they owned.

The gold futures market itself consists largely of people selling gold they don't own to people who never will own it in physical form. The amount of leveraged paper trades that emanate from a relatively tiny amount of physical backing has grown to staggering levels in recent months. If at some point a few large traders demand physical delivery, the whole gold price-fixing system could collapse.

Our special guest on this week's program offers some insights into the extraordinary leverage operating in the futures market right now and what that might mean for gold bullion prices going forward. But before introducing him, let's review this week's market action in the metals.

Metals prices sold off on Wednesday but firmed up on Thursday as Federal Reserve Chair Janet Yellen testified before Congress. Yellen indicated the Fed would likely continue scaling back its asset purchases. The financial media is now spinning tapering as good news for the stock market because, supposedly, the economy is gathering strength. But Yellen may actually be concerned with the recent strength in commodity prices, because rising inflation pressures in the months ahead will constrain the Fed.

Oil prices are back over $100 per barrel, and gold and silver continue to confirm their recent breakouts. Gold is posting a slight gain for the week, with spot prices coming in at $1,330 an ounce as of this Friday morning recording.

Silver, on the other hand, is struggling a bit for the week. Prices currently come in at $21.32 an ounce, for weekly loss of about 2.5%. Despite the pullback, no major technical damage has been done however. As long as silver prices hold above the $20.50 breakout level, the breakout remains intact.

Turning to the other white metals, both platinum and palladium are showing some strength this week. Platinum trades at $1,458 per ounce, up almost 2% on the week. Palladium is up a little less than 1% week over week and currently trades at $748.

Although less popular with investors than gold and silver, Money Metals Exchange carries a few different types of platinum and palladium bullion products, including the popular Canadian Maple Leaf coins. Our friendly and knowledgeable specialists stand ready to assist you in diversifying into these scarce and critically important industrial precious metals. Just give us a call anytime during our normal business hours at 1-800-800-1865 or check out our available inventory on our website at your convenience, www.MoneyMetals.com.

In the meantime, I hope you enjoy this week's feature interview with veteran metals trader Tres Knippa, who joins us once again to share his latest insights from the front lines.

Mike Gleason:

I'm joined now by Tres Knippa of Kenai Capital Management to get an insider's take on what's going on in the commodities and futures markets. Tres is an experienced precious metals trader at the Chicago Board of Trade, and it's a pleasure to have him back on with us today to give us the inside skinny. Tres, thanks for talking to us again.

Tres Knippa:

You bet. I'm glad to be here.

Mike Gleason:

About a month ago, you revealed to our listeners some stunning developments about the dwindling inventory levels of gold available in COMEX warehouses. You'd mentioned that a mere two traders could stand for physical delivery and basically wipe out all of the registered gold backing the U.S. trading markets, which is really an amazing thought. So now that we're nearing the end of the February delivery month, what does the situation look like today? Are we seeing even lower gold inventory levels than a month ago? Has it stabilized? What's going on here?

Tres Knippa:

The registered inventories of gold have increased since a month ago, but not noticeably, and you expect that during the delivery period. People are going to basically put some into registered and take it out of eligible. On the last roll, we saw significant change in the J.P. Morgan warehouse. You saw them taking physical delivery of gold and then taking that out of registered and into eligible.

It's my opinion that J.P. Morgan had a big client. They came in. They stepped up. They bought the gold. They took delivery, and then took it out of the warehouses all together. I think that trend will continue. Right now, we talked before about two traders, and what I mean by that is, is that the CFTC designates how big a position one individual … By an individual, I mean an entity. Somebody's who's got one account number, and they can have "X" number of gold contracts. That "X" number is 3,000 contracts. Every contract is 100 ounces.

Basically, what this boils down to is, you just do the math. You go to registered inventory, and then you compare it to the limit position. If two people put on the limit position of gold and said, "Give me the gold," it nearly exhausts the entire supply of registered inventory.

Now, my next comment, I really don't mean for this to sound like a smug stuck-up Wall Street guy, even though I'm not all Wall Street. I'm on Jackson and Lasalle Street in Chicago, but what I'm getting at here is that if somebody stepped up and decided to take all the gold, you're only talking about $750 million worth of gold. In today's market, that is not that much money. Yes, it is a lot of money, but imagine if the University of Texas owns a billion dollars worth of gold. How many other public school endowments have at least that much, or never mind a sovereign wealth fund.

What if you have the sovereign wealth fund of Kuwait or a country like that? Could they take $700 million of gold? Absolutely. They could do that without batting an eye, or the Saudis or somebody like that.

The point is that to me, this represents an opportunity. For me and the way I've structured things is that there's a trade in this. There's a trade and a particular strategy that I've been doing in the gold futures that deals with the spot month of gold gaining ground on the back months of gold as you approach the delivery period, and the logic is pretty simple: The logic is is that let's say there's somebody who has a massive short position in gold futures. They might be doing that as a hedge against their paper gold, whatever it is, they're short it. Not important as to why.

They're sitting there short. They have no intentions to deliver. They do not have the inventory to deliver, so as you approach the delivery period … Because remember, if a short holds his position all the way to the end, then he needs to settle up. As the market approaches that delivery period, then I think that represents the short getting the heck out of the way.

If you think about it, like right now, the spot month is the February gold, but it expires shortly. So as you approached the first part of February, you saw February gaining ground on the next month of gold, which is April. That spread started out wide, and it narrowed, narrowed, and now it's trading at a premium. It's trading at a premium because the short have gotten out of the way. They have no intentions of delivering that gold. There's a trade there.

Does everybody belong in futures? Of course not. Do futures have their own risks to them that is up to the individual where that risk is appropriate? Of course it is, but if you can check those boxes of risk tolerance, there's something to this, and there's a trade opportunity in that. In my CTA, I've worked on a strategy and been doing this trade for myself that I really like.

I think there's opportunity, and there could be a significant opportunity if somebody steps up and says, "Give me the gold."

Mike Gleason:

Yeah. I'm curious. Why do you think we haven't seen the couple traders do this, meaning take delivery and wipe out the whole supply, because it seems like there could be some serious profit potential if they did stand for delivery and then watch the sources bid up the prices as they scramble to try to come up with the physical. Are they afraid they'll get the same treatment the Hunt Brothers got several decades back when the Exchange and regulators went out and changed the ground rules retroactively? If there is an opportunity to do this, why hasn't somebody already done it?

Also, give some context in terms of where inventories are now compared to what they are normally. I'm curious about that as well.

Tres Knippa:

It's hard to say "normally," because the inventories have been plummeting. There's a chart, and if any of your listeners want to get this chart, just Email me at [email protected]. That's T-R-E-S like unos, dos, tres. If you want to Email me at [email protected], I'll send you a chart.

It's this chart that really blew my mind when I saw it. All it amounts to is, it works out to be a leverage ratio to say how many futures contracts are there versus how much gold is available, and it looks like a hockey stick. It's rocking right along, and then it has turned in the last year and just gone straight up, so the number of outstanding futures contracts has grown, whereas the amount of available gold for delivery has dropped. That's what makes that ratio completely blow itself out of the water.

Mike Gleason:

What is keeping somebody from doing this, taking delivery? Is there not a trade potential in that? Could that be a big move to get the shorts running scared?

Tres Knippa:

It's certainly possible. That's a little bit more complex. There's a little bit more to that kind of trade, but like I said, even for the individual investor, I look to the futures. They're called "calendar spreads." Anybody who does anything in futures, it's pretty simple. You're buying that spot month and selling the deferred and hoping that it gains ground, and that trade has a pretty good history. As it gets first delivery, the spread narrows. It's not too much.

The trick about holding it into the delivery period is there's a whole bunch more rules about your position size and that sort of thing, but yeah, is there opportunity for the right kind of trader? You bet there is.

Mike Gleason:

New Fed Chair Janet Yellen testified before Congress again this week. She said that the economic numbers have been weaker than expected, and she didn't see any asset bubbles forming with the possibility of farmland. I thought that was funny.

The current Fed posture is for tapering, a reduction in stimulus. Do you expect the Fed to be able to follow through and wind down bond purchases? Also, what do you think the market impact will be on the Fed's current and upcoming policies?

Tres Knippa:

Not a chance. Yes, they're giving lip service to, "Oh, under certain circumstances, we'll back off on bond purchases." However, in the long term, I'll bet you dinner that when Janet Yellen leaves office, Quantitative Easing will be higher than where it is right now. Never mind that as far as the business cycle goes, we're overdue to turn back into a recession here.

What is the Fed going to do if all they can do is print money, buy more bonds? What cracks me up is whenever I see Janet Yellen going in front of Congress. By the way, I said this on Twitter today. My Twitter handle is "cmetrader … CME like Chicago Mercantile Exchange … trader. So cmetrader. I talked about this on there, and I said that Janet Yellen talking to Congress? Hey, guys, tell you what? You guys don't cut spending. No no no, don't even worry about it because in theory, the bond market should be punishing our politicians. They should absolutely be hammering Washington, D.C. to pieces. They keep spending. They keep borrowing in order to spend, and yet, hey, Janet Yellen's going to sit there.

If you remember back to the confirmation hearings, gee, I wonder if they were going to confirm her. Never mind, they did everything but ask her to dance when she was in her confirmation hearing and buy her a corsage. In the hearing, here's how it goes: "Hey guys. You guys keep spending and keep borrowing, and I've got your back to keep the bond market from blowing up in your face."

The Fed is doing this because they have to. Look at what's happening in Japan. Japan has announced that they're going to double their money supply. It's being presented as, this is an offensive move. "We're doing this because we're trying to weaken the yen." That is absolute nonsense. A weakened currency is a side effect of government debt. Japan has a ton of it. We have a ton of it.

Inflation, there's another one that just cracks me up. We've got an inflation target. Janet Yellen in some of her interviews has talked about, "Inflation hasn't got to where we want it yet." Okay. Can we just ignore the fact here that there are so many negative consequences for inflation showing up? Social Security's indexed to it. If inflation kicks up a little bit, then suddenly the Fed has pressure to back off what they're doing, but the Fed is going to continue to monetize debt. That is not going to change because if you've got this big debt store of the federal government, do you think they can afford an increase in interest rates?

Look over in Japan. Japan's 10-year bond yields 0.5%; 0.5, and guess what? There interest expense is half of their tax revenue. If you price their bonds to where somebody would have an incentive to buy them, to where you give a yield of four, five, six, and let it float, suddenly just their interest expense would be many multiples of their tax revenue. No way! That doesn't work, not by any definition. Of course, they're going to keep buying their bonds. Anybody who says they're going to stop is out of their mind. And same with the Fed. The Fed may back off a little bit to show, oh, that's what we intend to do but like I said, quantitative easing when Janet Yellen leaves office will be higher than when she started.

Mike Gleason:

Fed theater is always fun to watch. In closing here, Tres, let's talk about what you're looking for for gold and silver, maybe over a short-term prospective. Last month, you accurately predicted that we would see some movement in the metals in the delivery month, which is exactly what we saw with both gold and silver gaining a nice percentage. What are you keeping your eye on here over the next several weeks and months?

Tres Knippa:

The fundamentals behind gold are what they are, but that's speaking to the long term. That's one of those trades that in my mind, you have to be in. Now, with me referring to these calendar spreads and the carrying charges of gold, back when I first started doing these spreads, gold would start out a couple of months before delivery, and you're sitting there at $2.00, $1.50, $1.60, the spot month discount to the next month. What that discount represents, it means cost of carry. It means storage costs for the gold, etc, etc.

That spread now, for the next month, so if I did the February versus April spread now, naturally, as Feb. goes off the board, I'd be looking to the April versus the June. The April versus June spread, I'm looking at it right now, is $0.20. Twenty cents to carry gold for two months. I got news for you: Gold costs more than twenty cents an ounce to carry for two months. That's just the way it works, so that spread to me is very narrow. To me, that suggests accumulation of it, simple as that. That's what's tightened that spread up.

Mike Gleason:

Well Tres, great stuff once again, and we look forward to checking in with you down the road as this continues to play out. Thanks very much.

Tres Knippa:

Absolutely. Thanks for having me.

Mike Gleason:

Well that will do it for this week's Market Wrap podcast. Thanks for listening. Again, I want to thank Tres Knippa of Kenai Capital Management for joining us. Don't forget to tune in next Friday for our next weekly Market Wrap podcast. Until then, this has been Mike Gleason with Money Metals Exchange. Have a great weekend, everybody.