Here’s the weekly COMEX front- month silver chart from TFC Charts. Last week was pretty murderous for silver longs. The question is whether the decline was a ‘flashy crash’ correction from overbought conditions to a sea change in sentiment about … everything or something else?
It seems that credit has dried up in the metals markets which might indicate speculators here are victims of their own success.
At the tops of bubbles, only buyers with credit remain, cash buyers have either already committed or have insufficient funds to move the markets. Since the metals markets ‘sell’ their own margin the price ‘blast’ indicates an excess of leverage in the market leading to a necessary clearing out of the marginally solvent.
This is a shift from ‘weak hands to the strong’ but if the weak hands are driving the bull, how is removing them going to drive the market further?
Taking place in the silver market is the business cycle in microcosm: an expansion of credit leading to high prices, excess credit, instability and ultimately unsupportable prices. What is left is the necessary deleveraging or contraction of credit by the repayment of margin — by selling and closing out positions — or being sold out at a loss by the brokers.
This deleveraging has been attempted continually since the first of the credit bubbles popped in commercial real estate and stock markets beginning in 1987 but has been thwarted by the establishment ever since. Bad credit is rolled over into new loans, lost value is swept off- balance sheet and the speculators rush out to borrow some more. One bubble is replaced by another in a naked effort to forestall reality which demands deleveraging.
Not only has modernity stuffed landfills with waste the world around, it has left a truly gigantic overhang of unpayable, unserviceable debts as bubble after bubble is replaced with newer, more toxic versions.
At bubble price levels, markets cease to work as intended. In addition to the buyers, organic sellers have also committed. This leaves the exchanges — and their banks — selling short as the only sellers. As the markets roll over, these large institutions become the only buyers. They can and will effect a squeeze.
I would look for silver price drops to be significant in the immediate future as stops are reached and the banks refuse to buy. I expect prices to drop to the ‘cash level’ of $15- $20 per oz. indicated on the chart.
The increased margins demanded by the markets remove the ‘veneer’ of respectability from the metal speculators’ moral supremacy argument opposing paper currencies. It seems that the bottom line for the stodgy old bullion markets is that cash has greater value than anything else that can be posted as collateral. Liquidity matters!. Keep in mind, this revaluation of cash takes place within a market that exists to sell credit.
This repricing of utility creates certain ‘discomforts’ for other risk (margin) markets. The contradiction exists between the propaganda insisting the dollar is worthless garbage fit only for extinction and the actions of the propagandists themselves who either demand dollars or have it demanded of them. This is after they have — presumably — already traded what dollars they have for the risk assets. In other words, nothing is as valuable as cash except having an excess amount of cash!
… since the banks run ‘the system’ and have accumulated large amounts of cash reserves the whole sorry dynamic begins to heave into view … the capitalists WILL rent you the rope you use to hang yourself!
What will determine the direction of the precious metal markets is the future availability of credit. Sentiment is irrelevant. Shrinking credit overall — not just margin shrinkage resulting from an unbalanced market — is what has been pushing back against asset prices. Sentiment has not changed. There are just as many today who believe that the fiat paper dollar is worthless as they were last week or last month. It is just that these believers cannot borrow money to buy because their precious metals have less collateral value than paper dollars.
Here’s the gold chart, with the same bubble characteristics, it hasn’t taken a dive yet. Perhaps a trade is to long silver and short gold. If the credit trend holds up the support for gold is $1,400 per ounce. Let’s see what happens, right!
Why is credit tightening? This is the Brent Crude front month from TFC Charts:
Crude has been visited with a series of mini- spikes and crashes beginning in March of 2009. Crude traded in a range of $75 – $85 per barrel. Any surge above $80 was accompanied by an alarm from some vulnerable institutional ‘weak link’. The credit failures in Dubai, Greece, inflation in China, difficulties in US states and cities all come to mind.
In June of last year, Brent crude traded @ $70 per barrel. Not a year later, crude traded @ $128 per barrel. Not just one or two barrels here and there but for most of the 80 million or so barrels that meet the market every single day.
How does an economy pay for this increase? Oil can be traded for cash (or gold) or swapped (barter) for food or technology … or users must borrow.
The only countries that have cash ‘savings’ are mercantile exporters such as China who simply use dollars gained by way of foreign exchange or the dollar carry trade to pay for their oil imports.
The US must borrow dollars to pay its oil bill. Japan has a trade surplus: it can swap either yen it borrows into existence or dollars gained in mercantile trade. The big consumers also write contracts for cheaper fuels outside the Brent market but these must also be paid for either with earned income — cash — or loans.
The ‘lesser’ countries borrow and swap for reserve currencies in F/X or swaps markets. The lenders are the world’s savers intermediated by the world’s banks. Often, the lenders are the oil producers, themselves.
It’s this marginal borrowing — often on a large scale in derivatives — that is causing the credit- market bends.
Credit pushes crude prices in asset markets that are already high due to constrained rates of extraction relative to consumption. Credit is the enabler of demand. Those who lack sufficient cash flow to successfully bid for energy supplies make use of whatever credit is available.
The dollar carry trade has China borrowing from dollar short- sellers in $600 billion increments. Dollar seigniorage expands the US national balance sheet at the same time. At this moment rate consequences are insignificant for giant borrowers such as the US. What matters is the overall demand for credit.
People blame central banks but these do not buy crude. The central banks are irrelevant.
Credit is finite: Irish developers, Icelandic banks, UK (Scottish) banks, Greece, American cities, credit card users, etc. end up starved of credit so that the remainder can be directed toward OPEC and other oil producers. Credit obtained to buy Chinese or Japanese goods is re- directed by China and Japan toward the same producers. Oil use subjects the consumers to an ‘energy tax’ that becomes increasingly difficult to pay. Credit makes it possible for an energy customer to afford both the energy and the means to make ‘use’ of it. The cost of the credit is added to the cost of the energy and the goods that make waste of it. The more borrowed, the higher the costs.
This is essentially the ‘return on energy investment’ argument. As more energy is brought to market, its use is productive to the degree where associated costs are payable out of cash (energy) flow. As the energy flows diminish more extraction must be ‘borrowed’ from the future so as to maintain ‘productivity’ which becomes illusory.
What is taking place within the economy is the inability of the production to allow additional borrowing as well as not allowing additional oil extraction.
Since crude is embedded in virtually all goods and services, it can be said that almost all borrowing is directed toward obtaining crude. Since bidding a price with borrowed funds has no nominal upper bound other than what other debtors are willing to risk in price competition for that marginal barrel, the effect of credit is for it to compete with itself. Credit enables a bid which causes a price increase that requires additional credit to meet. The added credit ratchets prices upward, until the credit itself becomes unsupportable by consumers’ cash flow.
Once the cash flow shortfall is apparent to creditors, the creation of additional credit becomes unjustifiable.
There is that word ‘cash’ again! Cash matters in the real world because it reasonably represents productive returns already obtained, not the ‘Pie in the Sky’ promise associated with credit.
Credit is a way to buy time in order to obtain cash: it’s the arbitrage of time: to obtain a good so that the good’s use produces a cash return before the credit bill must be repaid. This is so old- fashioned: credit is now promoted as magic, a replacement for cash. Credit needs only to be rolled over indefinitely. This ‘innovation’ is required is because the use of the good(s) in question — crude oil — does not produce much in the way of direct return at all.
It’s not just the US government that is monetizing its debts. The entire world is doing so!
How much does anyone earn watching a television or driving in circles? Answer, nothing. Both are hobbies that have been puffed up by ‘culture’ as ‘economic necessities’: part of a great flow of narrative history from ‘backwardness’ toward ‘progress’. We moderns tout our narrative as something concrete and real, rather than the exponential requirement for increasing ruin that the narrative actually represents.
The establishment insists fantasy is fact as it stands on the corner waiting for the bus called ‘Economic Recovery’ which never arrives. That the fuel supply cannot support further ‘growth’ is reality: this is never mentioned by the anxiously waiting establishment.
In order to escape reality as long as possible, the prices of other goods are bid up alongside the price of crude: these other goods are simply hedges against rising fuel prices. If credit- driven silver or gold prices rise faster than credit- driven fuel prices then the profits from the metals will offset the cost of the oil. You can strike out the words ‘silver or gold’ and substitute ‘housing’ and see the bubble- hedging strategy.
The rising demand for credit makes it more expensive, even as monetary authorities do all they can to keep credit cheap. This is a contest that authorities cannot win. Rising credit demand shifts stresses to the weakest credit links, which is the consequence of increasing credit costs across the marketplace. Costs skyrocket for some borrowers but not all. What is created is the comforting illusion of creditworthiness.
Without the ability to service credit with fuel use the issue becomes academic. Arguments can be made about the market relationship with the ‘creditworthy’ US: the market that matters is the fuel market and the willingness of producers and their proxies to continue financing unproductive American fuel waste.
The rising crude price over the past twelve years indicates that demand side of the oil market equation has caught up with whatever the supply side can offer. In physical forms, this amounts to a squeeze in the ability of the economy both to provide fuel and to pay for it. Credit constraint becomes a form of energy conservation. The end of credit access ends the ability to bid for fuel.
In this way, lower fuel prices do not reflect either an increase in marginal supply as much as they represent the declining ability of the marginal customer to obtain credit.
Hello Greece, hello Ireland! (Hello USA?)
When entities lose access to credit the price of fuel declines along with the price of silver and other hedges. This is the same way house prices have been declining since 2007. What shortage exists is not people or even people who desire to waste fuel but people who desire with cold hard cash!
All of this credit maneuvering takes place against a backdrop of vanishing cheap oil reserves. As the cheap stuff is burned up, what remains is very expensive to extract and bring to market. More credit is needed to extract this expensive oil which is even more costly, too much so to allow profitable economic activity. Our economy has not been designed to accommodate expensive fuels the way it can accommodate expensive houses.
Saddled with a millstone economy which requires cheap fuels to turn a profit and an establishment bent on beating the square credit peg into the round energy hole the outcome is increasingly tepid credit bubbles followed by more devastating credit busts. We have collectively reached the point of diminished returns on bubbles.
Even if the market participants can re-inflate ongoing bubbles or puff up new ones, the ability of economies to finance themselves with cheap credit has reached its end, that is the lesson of speculation.