Wednesday, August 10, 2011

Courtesy Excerpt of the Got Gold Report for August 7

Past 4 weeks gold up 9.5% - COMEX Commercial net shorts up a whopping 42% - caution flags flying for both bulls and bears.


HOUSTON – Just below is a courtesy excerpt of the full Got Gold Report which was delivered to Vultures (Got Gold Report subscribers) Sunday, August 7, and posted to the password-protected GGR subscriber pages then.

The introduction to the full GGR is the post just prior to this one on the Home Page of the web log. This particular excerpt is of the legacy commitments of traders (COT) report for gold and our commentary to subscribers.  It is key to remember that this commentary is for the CFTC report released Friday, August 5, for commercial futures trader positions as of Tuesday, August 2 (about one week ago now).  It is just one portion of the entire 38-page update available to Vultures on the subscriber pages.

Excerpt of the full Got Gold Report of August 7

Bottom line:  The largest hedgers and short sellers of gold and silver futures have taken a strong stand in opposition to further advances for gold but have recently been forced to cover some of their short positions as gold popped higher.  With gold at or near all time highs the short side remains vulnerable to further advances and a potential short-covering runaway could occur under the right conditions.  On the other hand, their confidence in lower gold prices is clear enough for our caution flags to remain in play.  MIND YOUR STOPS BULL OR BEAR.   ... Although somewhat less aggressive in their “opposition” on silver, the LCs have shown more confidence in lower silver prices of late and economic conditions favor the bears short term. We can expect silver to underperform gold as long as the world is in hyper nervous or panic mode, but as tensions and psychology begin to return to what passes for normal these days, we look for silver to remain very well bid.  Silver is in a structural bull market with tight supplies and generally increasing demand and thus more likely to have upward surprises over time. 

Gold COT


Software North LLC chart of the Gold COT condition (legacy COT report) as of August 2.  The lower the rust colored bar gets the more commercial firepower has been expended on the short side.  The higher the light blue bar gets the more horsepower has been expended by large specs. The wider the spread the bigger the potential for fireworks…  If any of the images are too small click on them for a larger version.

The Commodity Futures Trading Commission (CFTC) issued its weekly commitments of traders (COT) report at 15:30 ET Friday, August 5.  The report is for the close of trading as of Tuesday, August 2.  

As usual, is focused on the changes in positioning of the largest futures traders in that report – the traders the CFTC classes as “commercial,” including the bullion banks, large dealers and swap dealers combined.  We refer to those commercial traders as “LCs” for “Large Commercials,” or sometimes the “Big Sellers,” because they are the largest sellers of gold and silver futures.

In a wild, very scary and unsettling week, gold overcame a lot to gain $40.23 or 2.5% for the COT reporting week, up from $1,619.00 to $1,659.23 Tues/Tues.  Gold closed above $1,600 on all five trading days of the week, by the way, and seemed uncommonly well bid near $1,605 on Thursday (July 28), and near $1,610 Friday and Monday (Aug 1).  In our own trader’s notes we remarked that the action seemed like “a concrete floor at $1,600 or so.”  Perhaps we are about to get a sense of why that was so just below.  At any rate on Tuesday, COT reporting day, gold was nothing but strong, up $40 on the day, and closing on its highs of the day in what was an obvious short covering rout.  So the COT report we are about to view reflects a gold market on a short-covering rise Tuesday.  The rumors of a CME margin rate increase did not surface and spread widely until Thursday of this week, by the way.  

Continued next page…  

As gold once again closed at the highest-ever price on a COT cutoff day at $1,659.23, the combined COMEX commercial traders did report a modest increase to their collective net short positioning (LCNS) of 4,661 contracts or 1.7% to 287,634 contracts net short. However, the COMEX open interest actually fell by 7,051 contracts to 529,403 contracts open.

We have to marvel that over the past four reporting weeks, as gold fought its way $143.66 (9.5%) higher from $1,515.57 on July 5 to $1,659.23 August 2, the combined commercials were willing to sell a whopping 85,632 contracts of “paper gold” into that advance (8.56 million ounces or 266 tonnes equivalent).  The LCNS rose 42% from 202,002 to 287,634 contracts in the process. 

 Clearly traders the CFTC classes as commercial have been selling heavily into this advance for gold. Just as clearly, we can now say with authority that, as of Tuesday’s close, some of the commercial traders have been forced to cover some of those short positions.  More about that in a moment, but first we note that we have reached the highest commercial net short position for gold futures since November 9, 2010, when the LCNS showed 290,953 contracts net short with gold then $1,392.94, then about to modestly correct.  As of Tuesday the LCNS was within 20,597 contracts (6.7%) of the all time high commercial net short position in our records of 308,231 contracts in the September 9, 2009 report with gold then trading at $1,196.50 and about to correct sharply. Past 4 weeks gold up 9.5% - LCNS up a whopping 42%.   

Just below is the nominal LCNS graph for gold futures. 

Gold LCNS, Source CFTC for COT data, Cash market for gold. 

As gold reaches higher levels and each time it marks a new all time nominal high, the commercials become increasingly underwater with even their newest short positions.  We note as a matter of interest that this advance began with the commercials already 202,002 contracts net short (20.2 million ounces or 628 tonnes with gold then $1,515.57) and they added 42,247 contracts to that net short position in the first week of the four reporting weeks we covered above, while gold had only added about $52 (to $1,567.50). As gold touched the $1,680s this week (more than $112 higher), some of the gold opposition must be very strongly off side and potentially vulnerable in other words. 

Relative Commercial Net Short Position or LCNS:TO


We compare the nominal gold LCNS to the total open interest.  We think that gives us a better idea of the relative positioning of the largest hedgers and short sellers – the Producer/Merchants and the Swap Dealers combined into a single category – compared to the rest of the traders on the COMEX.  

When compared to all contracts open, the relative combined commercial net short positioning (LCNS:TO - the most important graph we track) rose from an already high 52.8% to an even higher 54.3% of all COMEX contracts open.  We have to look back to January 5, 2010 to find a higher relative commercial net short position (54.9% then with gold $1,118.00.  The LCNS:TO has jumped more than 13 percentage points over the past four weeks.  That is direct evidence of material opposition to the $143 net advance.  It is also, so far, evidence that the opposition has been ineffective. 

The LCNS:TO graph is just below:    


LCNS:TO Gold,  Source CFTC for COT data, Cash market for gold. 

Repeating from prior work:  We believe the higher the LCNS:TO the more confident the commercial hedgers and short sellers are of lower gold prices just ahead and vice versa. 

Once again, we are witness to heavy “opposition” by the largest sellers of gold futures, but gold powered through its old highs and has reached the point where further advances, especially if they violate important technical lines in the trading sand, can trigger stop-loss short covering. 

Rumors flew through the market this week of uncommonly strong demand for physical gold and those rumors were more or less confirmed by significant positive money flow in gold ETFs this week.  The demand seems to be widespread, not just Asia or Europe, this time.   

The very high levels of commercial short covering mean we have reached the point where we should expect higher to maybe even extreme volatility just ahead.  It is perhaps the most dangerous of setups for traders on both sides of the contest, bull or bear.  No matter which side of the battle now, prudent speculators and very short-term traders need to set appropriate trading stops and mind them without fail.  The market moving forces at play now are much more powerful than normal and thus the potential for overly large swings in price should be expected.  We cannot be surprised by violent moves of 3% to 5% or more in a day in either direction under the circumstances.  Neither should we rely too much on historical levels, including price, commercial positioning, or even relative commercial positioning when history-making events have the potential to overwhelm the mere trading history. We are living and trading in an environment no one alive has ever seen - again. 

Having said that, the world is very nervous for good reason.  Black swans are circling and some might argue that one or two of them have already set wings to land.  We have no idea how the market will react to the U.S. credit downgrade by S&P and we cannot discount events in Europe in advance either, but we can plan to take full advantage if a sudden mad rush to liquidity sends gold hurtling lower, in another sell-stop-triggering blow-out as it did in 2008 for example.  The fact that the COMEX commercial traders have increased their net short positioning to within 7% of their all time high ‘opposition’ tells us they believe gold has traveled too far too fast.  But it does not tell us they are “right.” Gold could just as easily be in the beginning stages of a runaway breakout.

Much depends on the hand of government and events that no one has even thought of yet, so our caution flags remain flying for now. 

That means caution to both sides.  It means that we think short-term trading stops really must be at their highest, “at resistance” settings.  But once again, “caution flags” is not synonymous with a sell signal.  The reason we use trading stops instead of just guessing at tops is so that the trade can live on to enjoy the benefits of wild, out-of-character runaway price rises, should one occur, while protecting large gains if a bona fide breakdown occurs. A breakdown under these unstable circumstances has the potential to be major also.

Since we first considered caution flags three weeks ago, the gold market has not even come close to triggering what we would consider tight stops.  It has instead made weekly lows of $1,581.38, $1,599.77 and now $1,609.02.  To answer a common question in advance, in most cases we would consider a tight stop as within 1% of the previous week’s low print or 2% below the weekly close, whichever seems more appropriate, but everyone needs to decide for themselves what works for them.     

Vultures know that we are not long with any short-term trading positions in futures or ETFs at the moment, but if we were we would have already moved our trading stops up to their highest and tightest “at resistance” settings and we would still be involved with the trade with gold more than $80 higher than when we officially called for caution. Once again, so that there is zero confusion, we are only talking about any short-term trading positions, definitely not our holdings of physical gold or silver metal, which are not for sale. 

Pardon the length of this section, please, but we want to be crystal clear and we also want to make clear our own intention to definitely take advantage of a market over-sell on gold just ahead, if any, but only once we are convinced the move lower has exhausted itself.  Because we already hold a reasonable portion of our own resources in physical gold, we have the luxury of waiting patiently; very patiently for extreme opportunity should it occur in the days and weeks ahead.  The dismal performance of mining shares this week, even with a general panic underway, suggests a harsh downward thrust is at the very least, possible (although intuition tells us to expect the opposite).  So we wait patiently, like good Vultures, for an opportunistic reentry for our gold short-term trading ammo. 

(End of this excerpt)

That is all for now, but there is more to come. 


The Original
Vulture Speculator

Trading gold, silver and mining shares since 1980 with a focus on taking advantage of volatility extremes, Gene Arensberg analyses the markets through a basket of technical and fundamental indicators and shares his findings from time to time here at Got Gold Report. Mr. Arensberg has been quoted in the Wall Street Journal, Dow Jones MarketWatch, USA Today and dozens of other news organizations.

"I've been a huge fan of Gene and his amazing work for years..."

Brien Lundin, CEO, Jefferson Financial, Host of the annual New Orleans Investment Conference and Publisher of Gold Newsletter

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