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Silver Waits to Begin Breakout?
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Archive for October, 2011

Silver Waits to Begin Breakout?

To 250 million people in 51 countries in the world the word for money is the same word as the word for silver. Silver literally means money. According to Noble Laureate Milton Friedman the majority of monetary metal throughout history has been silver, not gold. Gold is the money of kings while silver is the money of gentlemen.

Before we make a case for silver being money, let’s take a look at what is money? I believe money is the grease or oil that lubricates the supply lines that bring goods and services to where they are needed. Without money our economy would be reduced to barter. The problem with barter is that you would not only have to find someone that has what you want but he would also have to have what you want in return. Let’s face it, in this modern world of infinite goods and services this would be a complete disaster.

So no matter what we use as a medium of exchange be it gold, silver, paper or sea shells we need an unrestricted supply of money to keep the economy lubricated. Money is a unit of storage or a proxy for value that must be something completely different from what is being exchanged. This is why money must float freely in value to coincide with the law of supply and demand.

What is the true value of silver? I have no idea. Silver like anything else will fluctuate with the laws of supply and demand. I do know this. If you are waiting for industry or the fiat printing of paper to send silver through the roof, you may be waiting a long time. That is because like a beautiful work of art is in the eye of the beholder the value of silver as money is perceived. It doesn’t come with an instruction manual.

So here’s where I come down on this. A dollar used to have stamped on it “Silver Certificate.”

They were produced in response to silver agitation by citizens who were angered by the Fourth Coinage Act. The Coinage Act had effectively placed the United States on the Gold Standard which was fine but with each subsequent act the value of the dollar was debased. So in 1878 Silver Certificates were printed. One silver certificate could be traded for a silver dollar. Well in 1960 silver was trading for $1.29 which meant that a silver dollar was worth more than a silver certificate.  In March 1964 Secretary of the Treasury C. Douglas Dillon halted redemption of silver certificates for silver dollars and while you could still trade with Silver Certificates. The new currency was the Federal Reserve note which still exists today.

It would take around 37 one dollar Federal Reserve notes to buy one American Eagle One Dollar coin. Last Spring in the last week of April it would have taken over 50 one dollar Federal Reserve notes to buy one American Eagle One Dollar coin. So I ask you, in the long term, which way do you think silver will go? Let’s take a look at a chart of Spot Silver below.

As you can see silver has been in a consolidation period for the last month. For those of you that like the market to move at warp speed let me save you the suspense. It doesn’t.

In conclusion, after the volatility that silver has gone through since January of this year I think it’s healthy for it to consolidate. When Silver breaks out again it will be to the upside.

Worried About Silver? Listen to Eric Sprott

Hedge fund manager Eric Sprott’s speech at this week’s Silver Summit turned a room full of nervous precious metals owners into pumped-up silver buyers. Some of the highlights are posted below, where he makes many of the same points.


  • The US Mint sells about the same dollar amount of gold and silver coins, which means it sells 50 ounces of silver for every ounce of gold. It’s more or less the same story at GoldMoney and Sprott Money.

  • Ten times more silver than gold is produced each year, and the ratio in the earth’s crust is 15:1, so how can the price be 50:1? Expect a return to the historical norm of 15:1, which implies that silver will outperform gold.

  • The demand/supply picture has seen a 380 million ounce per year positive swing – in a 900 million ounce market. Where is the silver coming from?

  • The paper silver markets trade a billion ounces a day and the world only produces 900 million in a year. The amount available for settlement of these futures contracts is something like 1.5 million ounces, ludicrously little compared to the amount of paper.

  • “On the physical side I’m seeing only buyers.”

  • “There are a lot more people who can afford a one-ounce silver coin than an ounce of gold.”

  • Gold will be a reserve currency and silver will also play a role.

  • “We tried to buy 15 million ounces of silver and had to wait three months – and some of the silver we got was manufactured after we ordered. So there’s not a lot of silver sitting on shelves waiting for people to buy it.”

  • “Somewhere along the line some manufacturer will say ‘I can’t get the silver I want’ and the jig’s up.”

  • People will prefer gold and silver to having money in a bank where there’s tremendous counterparty risk. Three months ago Dexia was considered to be the best capitalized European bank and now they’ve been nationalized.

  • “You go to some of the biggest names who own gold and ask them about silver and a lot of them haven’t even looked at it.”

  • Central banks are selling gold surreptitiously.

  • “It’s shocking how undervalued the junior miners are…Gold and silver stocks are growth stocks. They all have a plan to increase production dramatically. Small miners can start a new mine and double in size…The relative value of gold stocks will become apparent with time…The breakout, when it comes, will be very sudden.”

HOLY BAILOUT – Federal Reserve Now Backstopping $75 Trillion Of Bank Of America’s Derivatives Trades

This story from Bloomberg just hit the wires this morning.  Bank of America is shifting derivatives in its Merrill investment banking unit to its depository arm, which has access to the Fed discount window and is protected by the FDIC.

This means that the investment bank’s European derivatives exposure is now backstopped by U.S. taxpayers.  Bank of America didn’t get regulatory approval to do this, they just did it at the request of frightened counterparties.  Now the Fed and the FDIC are fighting as to whether this was sound. The Fed wants to “give relief” to the bank holding company, which is under heavy pressure.This is a direct transfer of risk to the taxpayer done by the bank without approval by regulators and without public input.  You will also read below that JP Morgan is apparently doing the same thing with $79 trillion of notional derivatives guaranteed by the FDIC and Federal Reserve.

What this means for you is that when Europe finally implodes and banks fail, U.S. taxpayers will hold the bag for trillions in CDS insurance contracts sold by Bank of America and JP Morgan.  Even worse, the total exposure is unknown because Wall Street successfully lobbied during Dodd-Frank passage so that no central exchange would exist keeping track of net derivative exposure.

This is a recipe for Armageddon.  Bernanke is absolutely insane.  No wonder Geithner has been hopping all over Europe begging and cajoling leaders to put together a massive bailout of troubled banks.  His worst nightmare is Eurozone bank defaults leading to the collapse of the large U.S. banks who have been happily selling default insurance on European banks since the crisis began.

By the way, if you took 79 trillion dollars and divided it up between 307 million people (the population of the U.S.) you could give every man, woman and child in America $257,329.00 (over a quarter of a million dollars each).

Excerpt from Bloomberg:

Bank of America Corp. (BAC), hit by a credit downgrade last month, has moved derivatives from its Merrill Lynch unit to a subsidiary flush with insured deposits, according to people with direct knowledge of the situation.

The Federal Reserve and Federal Deposit Insurance Corp. disagree over the transfers, which are being requested by counterparties, said the people, who asked to remain anonymous because they weren’t authorized to speak publicly. The Fed has signaled that it favors moving the derivatives to give relief to the bank holding company, while the FDIC, which would have to pay off depositors in the event of a bank failure, is objecting, said the people. The bank doesn’t believe regulatory approval is needed, said people with knowledge of its position.

Three years after taxpayers rescued some of the biggest U.S. lenders, regulators are grappling with how to protect FDIC- insured bank accounts from risks generated by investment-banking operations. Bank of America, which got a $45 billion bailout during the financial crisis, had $1.04 trillion in deposits as of midyear, ranking it second among U.S. firms.

“The concern is that there is always an enormous temptation to dump the losers on the insured institution,” said William Black, professor of economics and law at the University of Missouri-Kansas City and a former bank regulator. “We should have fairly tight restrictions on that.”
Moody’s Downgrade

The Moody’s downgrade spurred some of Merrill’s partners to ask that contracts be moved to the retail unit, which has a higher credit rating, according to people familiar with the transactions. Transferring derivatives also can help the parent company minimize the collateral it must post on contracts and the potential costs to terminate trades after Moody’s decision, said a person familiar with the matter.

Keeping such deals separate from FDIC-insured savings has been a cornerstone of U.S. regulation for decades, including last year’s Dodd-Frank overhaul of Wall Street regulation.

U.S. Bailouts

Bank of America benefited from two injections of U.S. bailout funds during the financial crisis. The first, in 2008, included $15 billion for the bank and $10 billion for Merrill, which the bank had agreed to buy. The second round of $20 billion came in January 2009 after Merrill’s losses in its final quarter as an independent firm surpassed $15 billion, raising doubts about the bank’s stability if the takeover proceeded. The U.S. also offered to guarantee $118 billion of assets held by the combined company, mostly at Merrill.

Bank of America’s holding company – the parent of both the retail bank and the Merrill Lynch securities unit – held almost $75 trillion of derivatives at the end of June, according to data compiled by the OCC. About $53 trillion, or 71 percent, were within Bank of America NA, according to the data, which represent the notional values of the trades.

That compares with JPMorgan’s deposit-taking entity, JPMorgan Chase Bank NA, which contained 99 percent of the New York-based firm’s $79 trillion of notional derivatives, the OCC data show.

Moving derivatives contracts between units of a bank holding company is limited under Section 23A of the Federal Reserve Act, which is designed to prevent a lender’s affiliates from benefiting from its federal subsidy and to protect the bank from excessive risk originating at the non-bank affiliate, said Saule T. Omarova, a law professor at the University of North Carolina at Chapel Hill School of Law.

“Congress doesn’t want a bank’s FDIC insurance and access to the Fed discount window to somehow benefit an affiliate, so they created a firewall,” Omarova said. The discount window has been open to banks as the lender of last resort since 1914.

Could Silver One Day Be Worth More Than Gold?

Summer time is a chance for re-reading investment classics at ArabianMoney. We’ve just been dipping into the 2008 ‘Guide to Investing in Gold and Silver’ by Michael Maloney, and find that pretty much everything he predicted has come right.

If you bought silver when this book came out then you have probably doubled your money today, and briefly sat on a three-fold profit back in April this year. ArabianMoney is confident that April’s spike will be passed this autumn, so loading up on silver in the quiet summer months is our best tip right now.

Silver, not gold

However, we were still struck by Mr. Maloney’s conclusion that the silver price will one day exceed that of gold. That is an absolutely extraordinary claim as striking now as it was three years ago.

But we can see a scenario that could get silver more highly valued than gold. It would require a hyperinflation of a kind not seen in the advanced economies since Germany in the early 1920s, or at the very least a long period of elevated monetary inflation.

At the moment gold is the currency of choice among precious metal investors but this could change, particularly if the kind of price momentum we saw from last autumn to this spring is repeated. Everybody loves to jump on a winning trade.

The thing is that physical silver is in very short supply, and the situation in the Comex futures market is one of artifical price suppression that teeters on the brink of a breakdown. How else could any commodity be priced at less than it was 30 years ago?

Physical shortage

So if the Comex price fixing is broken by overwhelming physical demand, and a momentum trade develops in a tightly supplied market then you do have the potential for an exponentially soaring silver price. Those presently stashing their insurance money in gold would therefore be tempted to switch part of it into silver, and so the price would go up and up.

Perhaps in that dynamic the price of gold might begin to weaken, or certainly not to rise at all. Silver could then in a super price spike shoot past the gold price. But this would be like the dot-com bubble of the late 90s and after a short time the speculative fever would burn out and the price collapse.

However, the point to note is that silver prices are low now with massive upside potential if the bull market in precious metals continues and the global economy does not fall into a deflationary depression.

Silver Is As Good As – or Better Than – Gold

Everybody knows about the value of gold. For the past few years, since the global financial crisis set in, it has been the only asset type that has seemed unstoppable. Every time it reached an impossible high, it rallied even further. Every sign of bad news from the world economy was a signal for gold to move into uncharted territory.

And then, all of a sudden last month, gold experienced a 20 per cent drop. Some say it was just a technical readjustment, what traders call a “reversion to the mean”. Others point to the strength of the US dollar, which became increasingly attractive as the European debt crisis unfolded, causing a mass movement in its direction.

Whatever the reasons, the drop caused some to question whether it’s time to come off the gold fixation. It may come as a surprise to a financial public trained to monitor the price of gold that the stronger trade in recent times has been silver, or the “poor man’s gold”, which has outperformed the yellow metal by a significant margin.

Silver also took a beating late last month, even bigger than that experienced by gold, but that is not how it has played out for most of the past three years. If you take the global financial crisis as your starting point and then compare the prices of the two metals over that period, the so-called lesser metal has quadrupled in value compared with the mere doubling in the US dollar value of gold.

David Land, the head of analysis at CMC Markets in Australia, says it is a surprise to see the exact movements of the two metals over this period. Gold, he says, has been such an important instrument in times of volatility that silver has been practically forgotten.

“Gold has always been the great hedge against fear, the hedge against a weakening US dollar and the hedge against inflation. If people are looking for a pure play against those factors, they’re probably going for the gold option over silver,” Mr Land says.

The gold-silver ratio is one that has been around for some time and there are theories used by many to explain the relative movements between the two metals. The so-called standard gold-to-silver ratio has long been held at about 40 to 1 – that is, 40 ounces of silver will buy a single ounce of gold.

Traditionally, the two metals are a well-correlated “pairs” trade, but things have changed. The value of an ounce of silver in October 2008 was US$9 (Dh33.06) to $10. In April this year, it nudged $50. In the same period, gold moved up from about $745 to a high of $1,920, a rise of about two and a half times.

Silver prices have greatly outpaced gold – not just in this period, but for most of the past decade. Spot silver rose to an all-time high of $49.79 an ounce on April 25, a 12-fold advance from its low of $4.04 in 2001.

The current ratio, with silver trading at close to $31 and gold at $1,652, is about 53, but it was at 65 at the time of the global financial crisis and at about 45 before the most recent price drops. Silver, at least over the past three years, has been the stronger commodity.

The way the silver-gold arbitrage works is fairly simple, but you have to have a relative view of which metal will surpass the other. Silver is arguably the more interesting metal because it is what traders and insiders term a “50-50″ asset. That is, it’s 50 per cent a safe haven and 50 per cent a usable commodity. It has far more industrial uses than gold and thus its price is not solely dependent on its status as a safe haven from the US dollar.

Silver offers exposure to economic recovery while retaining some safety aspects. It’s used in a host of industrial applications, particularly in technology and photovoltaic applications, as well as for jewellery and coins. So any increase in global economic activity tends to swell its price.

Written: Adam Courtenay