COMEX default between Sept '12 - Mar '13? (don't get bumped from your flight)

Silver is rapidly disappearing from the COMEX vaults.

Let me back up.

The COMEX stands for the Commodity Exchange, and is one of the world's main clearinghouses where commodities such as silver, gold, sugar, and other commodities trade.

Let me back up. 

'Trade' is a word that usually means exchange of something for money.  In the parlance of the COMEX, 'trade' refers to how instruments called futures contracts are valued.

Let me back up one more time. 

In the stock market, the price you see for a given stock on the market is usually a fairly direct function of how much demand there is for those shares against available supply of sellers.  The more shares for sale that exist relative to demand for shares, then the price will fall. Conversely, higher demand for shares against smaller supply means higher prices.

When you hear the newscaster talk about the stock price of a company rising or falling, it is in fact a measure of how much the company is worth on a per share basis, based upon its future business prospects.  Multiply that price by the number of shares in existence and you can value the worth of the whole company (called the 'market capitalization'). 

The futures market is not the same as the stock market.  In the futures market one is speculating on underlying future worth of "real" stuff.  This "real" stuff could be oil, or sugar, or gold, or wheat.  One is effectively entering into a bet that the future value of something will be worth some value higher or lower than its present value, and usually 'borrows' most of the money needed to make the bet highly profitable.  Those that enter the bet hoping for higher prices are called "longs" and those wishing the value to fall are called "shorts".

You can think of these transactions as bets that have an expiration date.  At the expiration date one side wins and one side loses.  The bets can be big or small, but they are what's called a zero-sum game.

Most people that directly participate in the stock market wouldn't stand a chance in the futures market.  In the stock market one at least knows what they possess, namely, an equitable share interest in a market entity, usually rights to vote in an annual meeting, potential for share price appreciation and proportional interest in dividends declared by its board of directors.

The stock market is regulated much more stringently than the futures market, and has many more participants.  The number of dominant players in the futures market is much more concentrated and a lot of the data is not visible through normal means.  Thus, the visible price one can see in futures price quotations does not carry the same implications for supply and demand as one might expect, based upon ones experience with the more transparent stock market.   

On the other hand, the long-term future demand for 'real' stuff is much less certain;  how many oranges for OJ will be grown next season, accounting for frost and hurricanes?  How much demand by industry will there actually be for silver in 1001 electronic gadgets, and what are the odds of recession that would cause that demand to fall rapidly?  How much sugar will be diverted to ethanol production and/or will government subsidies to the corn lobby be renewed?

These kinds of questions underlie many futures bets, but just know there is still a lot of gut instinct and non-scientific hunches that feed the beast.  Sometimes some rationale or another is trotted out for the media to explain why the price of something did this or that, which may or may not be just a bunch of bullshit. 

Oh, and the House minimums for playing in the futures market can be quite substantial.  Picture a stockbroker that says,

"great!  I'll place your stock buy order but the minimum order you can place is $50,000 cash, or just $5,000 out of pocket but only if you agree to borrow the other $45,000 on margin with xyz fees and interest charges.  And by the way, if the market ticks against your bet just a tiny bit, you could lose your $5,000 and be required to pony up quite a bit more just to break even."


This means when you hear the newscaster talk about the price of silver or gold rising or falling, this is in fact a measure of the net betting activity from a concentrated group of market speculators who have a lot of dough (whose interests are most likely not your interests) who are making bookie odds on the short term worth of real stuff.  Technically if you are only in it to make money it doesn't matter whether you are long or short.  It only matters whether you are right in the direction of the bet, and also the time before your bet "expires" (all futures contracts "bets" come with an expiration date by which they must perform).

It's complicated but just know the dynamics of the futures markets are not directly comparable to the stock markets, other than that both involve trying to make money.  Which is why people dive in headfirst.  Just don't extrapolate what you know about the stock market to the futures market or what I write later here won't make sense to you.  

The goal of entering into a futures contract is to be on the winning side of your bet (long or short) when the music stops, and then decide what to do with your winnings.  The reason people do futures contracts for money gain is because (1) the amounts of money that can be made can very large, and (2) it operates with much less transparency than the stock market, at least, from a mass media perspective. 

In the stock market there is proportional ownership of enterprise with a bias towards long-term equity growth. In the futures market one is making casino bets, bets that terminate when the roulette wheel stops spinning, with the prospects on the short side being near-term and prospects on the long side further out.

Lets assume you win the futures bet when the contract expires.  You have two choices;  take possession of the real stuff in the contract or roll it over into a new bet.  Traditionally rolling it over into a new bet is what market players do, since all they want is the cash.  This makes sense for many reasons.  How many people betting in the futures market actually want to go and collect 1000 barrels of oil (42 gal / bbl)?  Where would they store it?  What would they do with all that unrefined crude?

No, the market mechanisms usually encourage rolling over of contracts into new contracts, with net cash outs between winners and losers at each expiration point. 

But what if you want the physical commodity instead of the cash?

This is where it gets really interesting with respect to silver.

Many futures contract winners in recent years who won their bets have not been accepting cash, per custom.  They have been demanding under their contract rights possession of the underlying physical silver.

One might think this should not be a problem.  But the way our system has evolved, the COMEX and other like exchanges allow more than one person to make bets on the same underlying physical.

A lot more.

This is a little like an airline that not only slightly oversells their seats on the plane, betting on a certain number of no-shows so they don't have to bump other passengers.. but selling the same seats on the plane many, many times over.  Then being surprised when everyone shows up demanding to be seated.

The COMEX only has so many seats on the plane.  It only has so many ounces of physical silver.  And it is being drawn down fast.

Picture an airline that has sold 100 tickets (yes 100 tickets) for every available seat on the plane but keeps the pricing as if only slightly more than one ticket is sold per seat.  Structural imbalances between true supply (small) and actual demand (large), build.  Are you still wondering why people are deciding to take the physical ounces before the bidding war really kicks in?

Over the last few years the available supply of physical silver bullion in the COMEX has plummeted as players in the futures market have demanded delivery of their physical bullion in lieu of cash winnings.  People don't want the flight vouchers and free cookies in the food court any more, they want the seat on the plane. They sense that the world supply of silver is very low, much less than gold, and are seizing the opportunity to hoard the physical before everyone wakes up to the price imbalances between gold (which as of this writing is 45x more expensive per troy oz than silver) and silver.

The COMEX has never run out of silver before, and the data on their historical stocks available to meet futures demand for physical is *not* as available as price quotations one might want in the stock market.  In fact, the COMEX only posts its available supply once per day, and does not make historical data on its warehouses available as a historical download.

Fortunately in the age of the internet there are enough people who have diligently gone to the COMEX site once per day and recorded the daily figures.

The results are striking (click for link).

In just two years the amount of silver in the COMEX available to meet demands for physical redemption has plummeted from 87 million ounces to just over 27 million ounces today, a decline of 60 million ounces or 30 million per year.

The rate of decline has not been precisely linear so allowing for a few flatline periods this would mean that at present redemption rates (assuming no non-linear 'gangpiles' as supplies tighten) then the COMEX would be depleted of all its airline seats in 13 - 18 months from present (assuming 1.4 MM - 2.0 MM oz per month).

The point of total or near depletion could trigger severe disruptions in the price setting mechanism of the markets as they are currently constructed.  Picture again our airline gate scenario, where the last few remaining seats on the plane are live auctioned and the price skyrockets as the pool of available buyers with cash shrink and frenzy sets in.  Market observers call this 'parabolic' action.

But the price, while up 8x from 8 years ago, is at a level nowhere near reflecting its decline in physical availability.  (remember!  I said earlier don't extrapolate what you know about supply and demand characteristics from the stock market to the futures market!)

How can this be?  Well, the airline just kept increasing the number of seats it would sell (paper), to mask the ugly truth that they didn't have enough seats (physical) to go around!  How else do you think we got to the point where 100 ounces of paper silver now float around in the system for every ounce of physical bullion?

This obscene amount of leverage was forced out of the market under oath at a hearing impaneled by the Commodities and Future Trading Commission on March 25, 2010. 

Why would they suppress the price of silver?  The answer is obvious.  Because it is in their best interests to do so.  Carry trade.  Near-term bonus pools.  Asset price inflation.  All of these are put at risk if the world demands a halt to fiat explosion in lieu of monetary constants.

Buy low, sell high.  We all know it.  Few really see it.  Fewer still act on it.

The good news is here you don't have to try and rustle the house minimum to play at the Big Boy table.  You can buy the physical now, from local dealers, from APMEX, or from other reputable sites (avoid eBay frauds), while it it still out there for acquisition.  You do not need to bet the farm.

Just hedge your forward investments proportionate to your outlook.

If you think the odds of a restructuring in value between digital dollars of the BenBernank, depleting COMEX silver bullion and future demand are 1% in your favor (and 99% against.. meaning all is well and DC knows what they are doing), then devote 1% of your income to acquiring the physical.  If you think the odds in your favor are 3%, then devote 3% of your income.  And so on.  Dollar cost average.  Buy on dips.  Buy on peaks.  Whatever.

Hell you likely already pay more percentage-wise for car insurance, life insurance, and property insurance, and will hopefully never need those programs either.

Diversify, bitches.

Forewarned, forearmed.