Zeev's Turnips Patch-No Politics (ZEEV)

[basserdan]

*** Leonard Kaplan's Precious Metal Report ***


Precious Metals Report

Leonard Kaplan
Prospector Asset Management

For week of Monday July 28, 2003

GENERAL COMMENTS:

Contrary to my expectations for the precious metals markets last week, we experienced massive rallies in the gold and silver markets. The gold market, still quite slaved to the influence of the foreign exchange markets, and specifically the Euro (which rose 2.26 cents last week), was up $15.50 for the week, slicing through rather arduous technical resistance levels like a hot knife through butter. Silver, thumbing its nose against the historical odds, skyrocketed by almost 35 cents last week to reach price levels not seen in one year. It truly appeared that every speculative concern, whether large or small, turned to buyers in silver all at the same time, and in size as well.

My forecast for some modest gains in gold, and a potential failure in the silver market to surpass the $4.90 to $5.00 price level, were based largely on an examination of the fundamental supply/demand conditions and cyclical considerations in these markets. I was behaving rationally, while these markets were not. While there is no fundamental explanation or rationale for the explosion price, there is now no reason why it cannot go significantly higher. Hard-core fundamentals are usually important, but not always. Speculative fervor and "irrational exuberance" drove the NASDAQ to 5000, and as the silver market is but a very small sandbox in the financial arena, unusual levels of bullish perception and considerably higher levels of speculative energy could propel prices to unjustified price levels in a blink of an eye. Now that silver prices have achieved post $5.00 status, the odds for a continuing move have moved from just about zero when silver prices were under $4.90 to now, a goodly chance that a significant rally, and probably a quick one, could occur.

There are two market internals in the silver market that could be the leading indicators to a continuing rally. The first is that this is the first time in many years that a rally in the price of silver has been accompanied by RISING open interest. In years past, any rally in the silver price to the highs of the then trading range, open interest declined as prices moved higher, a classic bearish signal of a top in a market. Now, open interest in silver, on the floor of the exchange, is over 100,000 contracts and rising, a bullish signal that flies against the historic actions. The other favored market internal is that lease rates are rising in silver, touching 2% per annum for a 30-day lease late last week. As the liquidity in the silver market was awash with product for lease in months past, with lease rates effectively at zero, it is difficult for me to understand just why this spike in lease rates has occurred at these new price levels, but I have to interpret it as a bullish sign. While the contangos in the silver market in New York are not yet in backwardation, it is getting close. September 2004 silver closed only 2.7 cents higher than September of 2003, or about 1/2 of 1%. Any student of commodity history will concur that markets that go from positive contangos to backwardation are heavily favored, by the odds, to move higher in price.

Now that the silver market, over the coming weeks, will be dominated by speculative interest, this market could be especially treacherous. Volatility will most probably explode higher, and the clearest advice I could offer is that, now, this market must be traded in a totally different fashion than it was previously. In the past, with prices regularly and predictably plying the trading range between (lets say) the $4.30's and the $4.80's, it was extremely profitable to buy the dips and sell the rallies. With silver prices now at the whim of the speculators, I would only be a buyer on strength and a seller on weakness. I would attempt to follow the market higher (if it does so), and add lightly to my position as significant new highs are achieved. But, due to volatility concerns, I would be trading in much smaller size, at least at the beginning. Runaway bull markets are VERY hard for professional traders, very easy for novices who believe the "hype" and carry the hope of phenomenal profits to emotional extremes that are anathema for the professional. Recommendations for this market will follow, and clients of the firm are encouraged to call our offices for updates.

With the USD quickly giving up its recent gains, falling almost 4% from its highs in just 11 calendar days (!!), the gold market, which had declined to a greater percentage, staged a remarkable rally last week. With prices now comfortably over the $360 price level, it would appear that this market wants to go higher, but I would think that the "going" is get more difficult as we approach the $370 price level. The gold market is still slaved to the Euro and the value of the USD, and I expect very little change in the coming week. If the Euro rallies, as seems likely, the gold market will as well. While the silver market can indeed be a "runaway train" on the upside, the gold market VERY rarely has this characteristic. In gold, I would be looking to initiate long positions in futures, or to sell out-of-the-money puts, when we see lower levels. Clients of the firm and traders who follow our recommendations have done very well in this market, and will probably be out of the market as of the option expiration that ends Monday afternoon. I see no reason why we cant trade $10 lower in price, at a level where the risk/reward profile would be more favorable.

While the industrial metals have rallied mightily of late, including silver, last week saw rather muted action in the platinum group. Platinum was up $5.60 for the week, still pushing technical resistance near the $700 price level, while palladium continued to bore even the ardent enthusiast, down a whole 75 cents for the week. Recommendations will follow for the platinum market.

As many analysts and traders expected, the huge potential strike of the mineworkers in South Africa has been called off, as labor and management were able to strike a deal at the eleventh hour. The general secretary of the National Union of Mineworkers was quoted as, "There is no reason to go on strike. All our demands have been met." With the stakes extremely high for the gold producers in South Africa, it is no surprise that a compromise was achieved. And it is of no surprise that it occurred at the eleventh hour. Just like a movie that a friend tells you about, the drama is lessened considerably when you know the ending.

While the precious metals markets continue to gain time and notice in the financial press, it is becoming apparent that the "old game" of playing and trading at the traditional posts is dying. Investors, speculators, and industrial users are now utilizing the futures and derivatives markets, which tend to be more transparent, extremely liquid, very cost efficient, and generally carry greater client protections, than the historic traditions. While trading volume on the futures exchanges in New York and Tokyo has skyrocketed, Loco London trading volume continues to fall, and fall in considerable measure. Since June of 1997, daily turnover of gold in London has fallen from 32.2 million ounces per day to just 15.8 million. Silver volume has fallen over 60% during this time period. Many large banks, and some large players, have left the physical markets in London, closing their doors, while the business continues to thrive at brokerage firms and on the floor of the exchange. This is but another example that the market will always move to the most efficient platform.

There is continuing talk in the trade that the World Gold Council is still arduously working on getting Exchange Traded Funds for gold available in the USA and now, in London. They see the initiation of these trading vehicles as their salvation to encourage investor interest in the gold market. But, in typical fashion, they completely ignore the reality. In Australia, a firm named Gold Bullion, has been traded on the exchange for about 4 months and has accumulated only about 3 1/2 tons of gold, much of it from institutions overseas. While emotions run high, while hopes remain high, the reality is much different. This is but another example of hope and emotional content run rampant in the industry.

On to the Commitment of Traders reports, as of July 22nd, both futures and options:

Gold

Long Speculative
Short Speculative
Long Commercial
Short Commercial
55,410 17,030 119,169 191,659
+8,237 -1,647 +893 +15,066

Long Small Spec
Short Small Spec
52,346 18,236
+3,225 -1,064


As current prices are fully $12 higher than the closing price when these numbers where accumulated, it becomes imminently clear that the speculators, who bought some 16,000 contracts during only one week of trading, are completely in charge of the situation. Open interest expanded by over 15,000 contracts, a fairly reliable bullish indicator. Commercials, who are hedging their inventories or commitments, were major sellers as physical demand is rather weak at this time of year.

While gold prices could indeed go higher, these statistics dictate caution, as the whims of the speculative crowd can turn on a dime on a moments notice. There is obvious risk in maintaining long positions in the statistics above. While speculative interest could certainly propel prices higher, especially if the USD continues to fail, physical demand remains lackluster, and historically, physical demand has been the stalwart in determining the "floor" for gold pricing. From a trading perspective, if we are going to follow the speculative fervor, if we are going to accede to those who play momentum, let's do it in silver, rather than in gold. Time for patience in this market, which traditionally has fallen to price levels where physical demand is proven.

Silver

Long Speculative
Short Speculative
Long Commercial
Short Commercial
41,410 9,292 22,564 75,295
+1,178 +1,082 +1,394 +2,052


All in all, this data must be relegated to the trash bin, as this occurred BEFORE the 28-cent rally seen on Wednesday in this market, which obviously changed the picture enormously. But, please notice that open interest ROSE by about 3,500 contracts, a subject that was discussed earlier in this commentary. As I mentioned, when silver rose by almost 30 cents on Wednesday, buying was seen in almost every segment of the market, from the speculator to the commercials.

[A complimentary subscription to the newsletter, with specific recommendations and positions, is available upon request for a one month period].

Leonard Kaplan

http://www.321gold.com/editorials/kaplan/current.html