Gold And Silver Hit New Records: The Real Reasons Why and What Comes Next

Key Concepts

Backwardation: A market condition where the price of a commodity for future delivery is lower than the spot price.
Contango: A market condition where the price of a commodity for future delivery is higher than the spot price.
Arbitrage: The simultaneous purchase and sale of an asset in different markets to profit from a price difference.
Lease Rate: The cost of borrowing a commodity for a specific period.
Speculative Demand: Demand driven by the expectation of future price increases, rather than immediate use.
Physical Metal Investors: Investors who buy and hold actual precious metal.
Futures Contracts: Agreements to buy or sell a commodity at a predetermined price on a future date.
Year-to-Date (YTD) Average Price: The average price of a commodity from the beginning of the year up to a specific date.

Precious Metals Price Surge and Market Dynamics

Jeffrey Christian of CPM Group discusses the recent significant spike in precious metals prices, particularly gold and silver, and analyzes the underlying market dynamics.

Gold and Silver Price Movements

Gold: As of Monday, October 13th, gold prices have surged by $123.30, reaching $4,123. This marks a break above the $4,000 resistance level tested late last week.
Silver: Silver prices have also risen sharply, up $3.30 to $50.55. This is a new record price, surpassing the previous highs of just below $50 in 1980 and 2011.

Contributing Factors to Price Spikes

The sharp increases in gold and silver prices are attributed to a combination of factors:

Fundamentals: Strong demand and tight supplies in key markets like London and Mumbai are noted.
Investment Demand: A significant driver is investment demand, particularly from shorter-term investors or speculators.
Economic and Political Concerns: Historically, such sharp spikes in gold and silver prices have coincided with investor and financial market concerns about the global economic and political landscape, citing examples like 1979-1980 and 2011.

Dichotomous Market Behavior

A notable observation is the seemingly contradictory rise in precious metals (often seen as safe havens) alongside industrial commodities, stocks, bonds, and the US dollar. These latter assets typically perform well during periods of expected strong economic activity.

Explanation: This phenomenon is explained by a large influx of money seeking investments, much of which has been held in cash or short-term interest-bearing assets. There's a short-term view of potential economic strength for the next quarter or two, coupled with longer-term concerns about a severe economic future over the next several years. Investors are thus buying gold and silver as both risk assets and hedges, while also deploying capital in other markets showing recent strength.

Platinum and Palladium Performance

Platinum: Prices have risen sharply since June, reaching as high as $1,685, an increase of approximately $61.
Palladium: Palladium prices have also seen a significant rise, up $58.40 to $1,529, breaking out of its range since late 2023.

Note on Platinum and Palladium Buying: A substantial portion of the buying in platinum and palladium has been through short-term speculative futures purchases, rather than physical metal. Physical investors are currently assessing whether the recent price increases are short-term phenomena or indicative of a more permanent shift after long periods of consolidation.

Backwardation, Arbitrage, and Lease Rates in Silver

A significant portion of the discussion addresses the confusion surrounding backwardation, arbitrage, and lease rates in the silver market, particularly concerning COMEX.

COMEX Backwardation Misconception

Claim vs. Reality: There have been claims of COMEX silver being in backwardation, especially late last week and over the weekend. However, CPM Group's analysis indicates this is not the case.
Data: As of a few minutes before recording, the COMEX October spot silver was $50.20, and the December contract was $50.47. This represents a positive forward spread, or contango, not backwardation.
Arbitrage vs. Backwardation: The observed price differences between London dealer prices and COMEX futures are identified as arbitrage opportunities, not backwardation. For instance, on Friday night, London dealer prices were approximately $2.50 higher than the December COMEX futures contract. This indicates that prices are higher in London and Mumbai than in New York, reflecting tight markets.

Tight Supplies in London and Mumbai

India: The silver market in India is particularly tight. Two silver ETF funds have suspended new share purchases, although existing shares can still be traded. This suspension is due to the inability to create new ETF shares by delivering physical metal.
London: Supplies in London are also tight and rising.

COMEX Silver Inventories

Historical Context: COMEX silver inventories were around 100 million ounces for most of the period from the 1970s until recently.
Current Situation: Inventories have now increased to 500 million ounces, with approximately 400 million ounces having flowed from London to New York over the past several years.

Arbitrage Mechanism Explained

London to New York: The tightness in London's free-floating silver supplies is partly due to metal flowing to India and New York. An arbitrage opportunity existed where silver could be bought cheaper in London and sold at a profit in New York. This often involved buying in London for future delivery in New York due to shipping times.
New York to London: Currently, the arbitrage is reversed, with prices in London being higher than in New York. This has led to air freighted silver being sent to London to meet tight supplies. This is an arbitrage, not a backwardation.
Imperfect Arbitrage: The arbitrage is considered imperfect due to time differentials in shipping.

London Forward Prices

Lack of Publication: There are no published forward prices in London. Forward prices are determined by individual dealers and brokers based on the creditworthiness of the counterparty.
Implied Backwardation: While not a formal backwardation, implied forward prices in London have been observed at a discount to spot prices over the last two to three trading days, indicating a short-term backwardation.

Silver Lease Rates

Recent Spike: Interest rates for borrowing silver spiked to around 35% at one point last week.
Historical Context: This is not a record; rates reached 80-100% in the 1990s when Berkshire Hathaway took delivery of 129.7 million ounces. This spike occurred when a company needing to deliver metal to meet forward commitments had to borrow silver, causing the lease rate to surge.

Speculative Binge Buying vs. Physical Supply Squeeze

Distinction: It's unclear to what extent tight physical supplies in London and Mumbai reflect genuine physical shortages versus speculative binge buying.
Mumbai: In Mumbai, it appears to be speculative binge buying of physical metal.
London: In London, it's speculative binge buying of futures, spot, and forward silver.
No Squeeze: The current situation is not a "squeeze," which typically implies intent by a single entity to corner the market. Instead, it's a broad speculative buying frenzy driven by expectations of further price increases.
CPM Group's View: CPM Group believes that the demand for physical metal in London is not particularly problematic, suggesting that the current price spike could unwind relatively quickly.

Broader Commodity Drivers

The fact that gold, silver, platinum, palladium, and copper are all rising suggests that factors beyond just tight silver markets are driving commodity prices higher.

Price Projections and Averages

Jeffrey Christian emphasizes the importance of understanding the difference between spot prices, annual prices, and price projections, and how these differ from year-to-date averages.

CPM Group's Projection Methodology

Time Horizons: CPM Group provides monthly price projections three months out, quarterly projections eight months out, and annual price projections on a longer-term basis.
Long-Term Gold Projections: Their gold and silver price projections extend out 10 years.
Scenarios: They publish supply, demand, and price projections under three different scenarios, though they run more than three internally.

Understanding Averages vs. Current Prices

Gold Example: While gold is currently trading at $4,150, the year-to-date average price through October 9th was $3,243. This highlights that the current high price does not necessarily mean the annual average will be that high.
Silver Example: Silver's year-to-date average through October 9th was $37.76, while the December price exceeded $50.
Platinum and Palladium: Similar discrepancies exist for platinum ($1,172 YTD average vs. $1,688 current) and palladium ($1,64 YTD average vs. $1,521 current).

Calculating Future Average Prices

Methodology: With a portion of the year remaining (e.g., 11 weeks or 22% of the year), one can project potential average prices for the remainder of the year and calculate the resulting annual average.
Silver Calculation Example:
- To achieve an annual average of $40 for silver, the price would need to average $48 over the next three months.
- To achieve an annual average of $50 for silver, the price would need to average $94 over the next 11 weeks, which is considered highly unlikely.

Conclusion and Call to Action

Jeffrey Christian concludes by urging listeners to consider these distinctions when evaluating price movements and future expectations. He also directs listeners to CPM Group's website for various research products and services, including yearbooks, advisories, and retail investor programs. He encourages listeners to reach out via email for assistance.