paper PM vs Physical PM what will cause a split in price?

[mflugher]

As of this writing a one ozt ASE with buyers premium goes about $44-45 from a retail outlet, while SLV etf goes for about $41.30. most of this is covered by the mints upcharge of about $2.50.

My question is what actual events could break the paper bubble and make physical silver worth significantly more than a paper promise? Can it happen? What are some scenarios that would cause it? (short of markets closing)

I been pondering this and have a few ideas but want to see what some of you technical experts say and also what some of the laypeople think???

[ardorlan]

As a layperson.

I would have to say media coverage of a large scale paper PM scam.
Lawyers seem to be able to make anything legal these days and at the end of it, its the small man or investor that always takes the hit.

Pretty much news coverage stating that the paper is sold is not worth its silver amount.

Further more I could see news of government confiscation cause a large divide. (although in what direction?)

Also if silver become really main stream,(used in trade) I could see physical ownership premiums go up much higher.
..There is simply not enough silver coins for everyone to start using them in daily trade?

Governmental market closures?

[Lemon Thrower]

the comex is eventually going to go bust. people have been saying that for years but we are a lot closer these days for 3 resons.

1. asian competitor will essentially be fully backed by metal - various articles on king world news about this.
2. metal backing the comex has been declining steadily for 3 years and is at dangerously low levels now.
3. metals are starting to get into backwardation, which represents a premium to compensation for counterparty risk - the size of this premium is a gauge of the lack of confidence in the comex.

[mflugher]

I understand 1 and 2... those are easy, 3 however uses vocabulary which I am unaware of. I read wikipedia article on backwardation and understand a basic idea of what it is, does anyone have a cogent layperson explanation of what #3 is trying to get across?

what is the average compensation for counterparty risk on a PM futures contract? 1%? 5%? how does that compare to say a more traditional futures contract like an agricultural product? (I would assume it should be higher)

can you suggest some reading on backwardation and futures that might help me (without investing more time than say a 500 pg book?) and if you have said book how much would you charge me for it in silver dimes lol?


Thank you for your time.

[OldPeddler]

[quoteAs of this writing a one oz ASE with buyers premium goes about $44-45 from a retail outlet, while SLV etf goes for about $41.30. most of this is covered by the mints upcharge of about $2.50.

My question is what actual events could break the paper bubble and make physical silver worth significantly more than a paper promise? Can it happen? What are some scenarios that would cause it? (short of markets closing)

been pondering this and have a few ideas but want to see what some of you technical experts say and also what some of the laypeople think???]quote]

1 share is not 1 Oz silver!!! It may be worth 7/10 Oz silver. no one realy Knows. JPM is taking fees from the fund every month. to get their fees they must sell some silver.1 share= what is left.

[SoFa]

The two things that would cause it are a) fraud in the etf, or b) a true shortage of the metal.
Neither is likely in my opinion.

[Nickelmeister]

Paper price and physical prices often diverge... at my store! For example, when gold took a $100 dive over the last couple of days, my sell prices stayed firm. I knew it would bounce back quickly and so do my customers. At least the ones that really matter to my business.

[Lemon Thrower]

I understand 1 and 2... those are easy, 3 however uses vocabulary which I am unaware of. I read wikipedia article on backwardation and understand a basic idea of what it is, does anyone have a cogent layperson explanation of what #3 is trying to get across?

what is the average compensation for counterparty risk on a PM futures contract? 1%? 5%? how does that compare to say a more traditional futures contract like an agricultural product? (I would assume it should be higher)

can you suggest some reading on backwardation and futures that might help me (without investing more time than say a 500 pg book?) and if you have said book how much would you charge me for it in silver dimes lol?


Thank you for your time.

so the comex is an exchange, like the stock exchange except for futures contracts. its relevant beause historically the volume has been so high that prices for physical were set there. Now you could contract with someone like you neighbor to deliver silver in the future, and that would be a futures contract. what the exchange does is it standardizes those contracts in terms of size and expiration dates to provide a better sense of what the market it. the exchange also stands in between traders in an attempt to mitigate counterparty risk.

if you own a bunch of gold, you can store it an exchange-approved warehouse. if it never leaves the warehouse, its ready to be sold on the exchange, although really you are selling a contract that is tied to the physical metal.

now the exchange allows serious margin, something like only 5% down. so the volume of contracts traded is say 20 times the gold that exists on the exchange that is available for delivery.

since 2008, gold owners have been moving their gold out of the warehouses tied to the comex. there is roughly half the gold and silver tied to the exchange as there was 3 years ago. ed steer's newsletter occassionally publishes a chart showing this.

the relevance of the declining metal on the exchange is the fact that the volume of futures contracts has not declined. so its increasingly a precarious situation. its like a bank that continues to make loans even though people are withdrawing their deposits from the vault. now, i'm not saying their is a pm-run on the comex, at least not an overnight one like a bank run, but if you look at the trend in the amount of metal backing those contracts it looks like a slow motion bank (or pm) run on the comex.

what that means is its like musical chairs and the record is slowing down. if there are 20 contracts for each unit of metal, 19 folks are not going to get their metal. this is because short sellers sold naked without having the metal in the comex warehouse, and it just doesn't exist. So if the music stops 19 buyers are going to be left s.o.l. this is counterparty risk - the risk that the guy on the other side of your contract will not or is unable to perform.

here is how it ties to backwardation. think about what is the price of gold. you probably thought of one number. its actually a lot of numbers. if i ask you what the price of money is, the answer would depend on when i repaid you. if i repay you tomorrow, its one price, a year from now another price, etc. a chart showing the different prices at different times is called the yield curve. normally, it slopes upward from short maturity to long maturity to compensate for the time value of money.

similarly, commodities and preciouls metals have multiple prices depending on when they are to be delivered. its a little more complicated with commodities because you have to store them, and for the ag commodities there are seasonal factors that affect supply and demand (harvest, etc.), they are perishable, weather, etc., but you get the idea. The "yield curve" for gold typically slopes up, like money.

backwardation is when the front months - spot delivery and near term delivery - are more expensive than future delivery. it is believed this occurs when market participants become concerned about counterparty risk. they place a premium in having their metal delivered asap. so as the metals move into backwardation, and the degree of that backwardation, it suggests that the market is concerned about the integrity of the exchange.

now, here is how it ties to shorts. recall that there are many more contracts than there is metal. so you can fix the problems on the comex by either adding more metal (as a practical matter, this cannot happen in any meaningful amount) or you reduce the number of contracts. so the backwardation in effect puts pressure on the shorts to cover their shorts - buy offsetting contracts to net out their short position. this reduces the number of outstanding contracts, which reduces the riskiness of the situation. of course, this requires the shorts to realilze losses on their positions and also creates buying pressure. so that is a long winded explanation of why the backwardation suggests we could have another short-covering rally soon.

[Mossy]

The two things that would cause it are a) fraud in the etf, or b) a true shortage of the metal.
Neither is likely in my opinion.

Each ounce of physical in the hands of organizations like JP Morgan has at least a dozen people or organizations that think they own it through paper claims (ETF). Some people place the number of "owners" as high as one hundred per ounce, no one can find out the truth.

That does not sound like both fraud and true shortage?

All that awaits is for the general population to discover this discrep. Then

KA-BOOM!!!

[Mossy]

Thanks, Thrower.

[Lemon Thrower]

exactly.

although this has persisted for some time. the catalyst is when you hit a certain point there are too few ounces of real metal in the vaults tied to the comex backing the paper on the comex. check this link: http://www.marketbust.com/2011/06/silve ... er-as.html

the way to avoid this is to reduce the ratio of paper to actual metal, but that requires the shorts to cover which will also send the price higher.

[mflugher]

Thanks for the cogent explanation lemon

3 quick questions...

1. Are you saying you can leverage the asset when you sell IE I sell 100 oz of gold but only have to have 10 oz on deposit to make the contract? I know you can do the opposite when buying via margins.

2. And did I get you right that for every 20 contracts 19 are offset by short sellers and only 1 legitimate sale is being made? if thats true, it seems like the market is being made by speculators not by the people actually using/selling the gold (jewelers/investors/computer part manufacturers/Idol builders)

3. Where does one look up the current sale price of a futures contract for say december? I'd be interested to see what the market says gold/silver will be at the end of the year.