One almost gets the sense that a significant event is going to happen soon. The wisdom of our old friend Gandalf has been paraphrased a number of times in this Report. To quote from him again (not paraphrasing at all this time), “Tt’s the deep breath before the plunge.”
We don’t necessarily mean a plunge in the price of gold measured in dollars. It could be a plunge in the price of the dollar. And there many other currencies that look ready to plunge. For that matter, the dollar is currently 25.6mg gold. There is no reason it couldn’t be 16mg again, as it was in 2011.
Others are looking for it too, some in all the wrong places. Such as an absurd claim, floating around this week about Apple. One version of their new Watch is made out of gold metal. The claim is that Apple is buying a third of the world’s gold. “Hold on to your gold, boys and girls, because gold’s gonna go up!” Well, except for the fact that the stocks of gold have been accumulating for at least 5000 years. All of that vast stockpile is potential supply. Apple cannot make a dent in that.
For a real picture of the supply and demand fundamentals of gold and silver, read on…
First, here is the graph of the metals’ prices.
We are interested in the changing equilibrium created when some market participants are accumulating hoards and others are dishoarding. Of course, what makes it exciting is that speculators can (temporarily) exaggerate or fight against the trend. The speculators are often acting on rumors, technical analysis, or partial data about flows into or out of one corner of the market. That kind of information can’t tell them whether the globe, on net, is hoarding or dishoarding.
One could point out that gold does not, on net, go into or out of anything. Yes, that is true. But it can come out of hoards and into carry trades. That is what we study. The gold basis tells us about this dynamic.
Conventional techniques for analyzing supply and demand are inapplicable to gold and silver, because the monetary metals have such high inventories. In normal commodities, inventories divided by annual production (stocks to flows) can be measured in months. The world just does not keep much inventory in wheat or oil.
With gold and silver, stocks to flows is measured in decades. Every ounce of those massive stockpiles is potential supply. Everyone on the planet is potential demand. At the right price, and under the right conditions. Looking at incremental changes in mine output or electronic manufacturing is not helpful to predict the future prices of the metals. For an introduction and guide to our concepts and theory, click here.
Next, this is a graph of the gold price measured in silver, otherwise known as the gold to silver ratio. It moved down this week.
For each metal, we will look at a graph of the basis and cobasis overlaid with the price of the dollar in terms of the respective metal. It will make it easier to provide terse commentary. The dollar will be represented in green, the basis in blue and cobasis in red.
Here is the gold graph.
Gold bulls will be excited to see that even though the price was up $11 (i.e. the dollar was down about ¼ mg), the cobasis (scarcity) rose. The April gold contract is now in backwardation. A very slight backwardation.
Our calculated fundamental price of gold was unchanged this week. It’s still about $50 over the current market price.
Now let’s look at silver.
The price of silver went up 33 cents, and whatddya know, the cobasis (scarcity) rose big-time. This pattern also occurs in farther-out contracts, if with a bit less magnitude.
Perhaps the small savers in Greece (where a bank run appears to be happening), or Ukraine (where the currency is in outright collapse, or any number of other countries have decided it’s better to hold money than government debt paper. And perhaps silver is affordable to them but gold is too expensive. Whatever the reason, a small and potentially significant shift in the fundamentals has occurred in silver.
That said, silver speculators should not get too excited yet. Although we calculate a fundamental price 50 cents higher than we did last week, it’s still more than a buck fifty below the market price.
Perhaps the fundamentals will continue to tighten. However that’s not a bet we would recommend just yet.
© 2015 Monetary Metals