The Coin Analyst: Electronic Trading Smashes Gold and Other Precious Metals Despite Strong Physical Demand

by Louis Golino for CoinWeek ………

Over the course of the last two trading days, April 12 and 15, gold has suffered its worst decline in dollar and percentage terms since 1983, going from almost $1600 to about $1350 in the past week . A drop of 10% and $250 definitely gets the attention not just gold of buyers and sellers, but of the entire financial community.

All day on April 15 the financial media was talking about virtually nothing else but the collapse in gold prices until the news of the apparent terrorist attacks at the Boston marathon. Silver is also down very sharply, declining 10% just on April 15 to a little under $23.

Meanwhile, physical demand is at a virtual frenzy, with premiums rising sharply on all kinds of coins, especially American silver eagles and one-ounce American gold eagles. And the web sites and servers of bullion dealers have been so overwhelmed that it is difficult to place an order.

saints stock2 The Coin Analyst: Electronic Trading Smashes Gold and Other Precious Metals Despite Strong Physical DemandThe U.S. Mint has suspended sales of several silver coin products for repricing, and buyers are eagerly awaiting the chance to get some great bargains. Plus, the 2013 proof American gold eagles are slated for release at the end of the week, and prices should be very attractive, possibly driving sales higher than last year’s low mintage coins unless buyers are worried about gold falling further, which is the consensus view among the financial gurus on Wall Street.

This leads naturally to some big questions such as why such a huge drop so quickly and across the spectrum of precious metals, and why is there such a disconnect between the spot price and the physical price of precious metals, especially for bullion coins?

Everyone has their own theory, but the main cause of the collapse in gold and silver prices, and more moderate drop in platinum and palladium, is a combination of massive withdrawals of paper gold in the form of ETF’s (exchange-traded funds) and a shift in sentiment away from gold in light of a well-performing stock market this year and increasing talk of less QE in the coming months.

Three particular catalysts were: the forced sales of over $500 million in gold owned by the central bank of Cyprus; the COMEX paper sale for a June contract on April 12 that amounted to $20 billion of gold, or 15% of annual production; and a bearish call by Goldman Sachs. The COMEX speculators only had to put up 5%, or $1 billion, to go short gold with this bet, and they won big by Monday; and Goldman Sachs, whose views are given great credence in financial circles despite their role in the housing bubble debacle, issued a very bearish call on gold last week, advising investors to short the metal.

The Cyprus sale of central bank gold is probably not in itself a very significant driver of current trends because of the small amount of metal involved, except, as Barry Stuppler explained in his Weekly Market Report that it marks a major precedent in which European central banks can be forced to sell their gold to cover losses in the banking field.

In addition, last week’s Federal Reserve meeting minutes, which were accidentally leaked half a day in advance, showed the Fed to be sharply divided over whether to continue QE and at what pace, which helped start the shift in sentiment on gold.

But the increasing emphasis on the possibility of a reduction in the Fed’s asset purchases, or even a rise in interest rates, seems to me premature and at odds with the two key factors, namely, the slowing pace of the economic recovery and continuing high levels of unemployment. And those are the two factors that Fed Chairman Bernanke has made crystal clear need to improve to specific levels before QE will change. So people may be misreading the financial tea leaves regarding QE.

The financial community, which always seems to enjoy highlighting declines in gold prices, seems certain that a floor has not been reached in gold prices and is probably right in the short-term. You can’t “catch a falling knife,” is a favorite catchphrase. More substantively, it is believed that many billions of dollars more of gold will come out of gold ETF’s in the coming days, partly because of margin calls and other forced liquidation. And the big drop in equities on April 15 will not help, as investors look to sell gold they bought cheap to cover stock losses.

The disconnect between spot prices and what people are actually paying for physical metal has become the widest since the last major drop in metals in 2008. And as many people have noted, the big decline in metals that year presaged the crash of the stock market, which drove metals even lower.

But I don’t think 2013 is like 2008. A lot has happened since then. The equity markets may be overly optimistic about U.S. economic growth, and are probably due for a correction from recent highs, but I doubt a major crash is coming in those markets. Central banks around the world have shown since 2008 that they will, as ECB chief Mario Draghi famously put it, “do whatever it takes” to defend the financial system. He was speaking of the euro, but that is even more the case for the U.S. Fed, which has shown time and time again that it will intervene to whatever extent it sees fit to prevent systemic collapse, though some day events could outpace its ability to act.

Looking forward, I am still inclined to be bullish for the long-term on metals as usual because of fundamentals. Lower prices are clearly bringing out more buyers, but in order for that to actually move the market in a major way we need to see Indian buyers come back in, and central banks around the world need to continue their recent pace of buying, which seems especially likely after this major correction in gold prices.

The problem is that ETF’s and other computer-driven trading in metals can turn a relatively minor shift in sentiment into a real bloodbath in a very short period of time, as we have just seen. And the fact that gold did not go up in the face of recent reports of increased tensions between North Korea and the U.S. was troubling as well.

The true believers in gold and other precious metals probably got carried away with their predictions and became a bit too sure about their convictions. But I also highly doubt the current predictions of gold bears that it is heading to $1,000, short of a major stock market and economic collapse on the scale of 2008.

Long-time gold bulls such as Marc Faber, author of the Boom, Gloom, and Doom Report, and Jim Grant, author of the Interest Rate Observer, not to mention mega-investors like John Paulson, who reportedly lost over a billion on paper over the last couple days, think the gold bull market still has legs, and Paulson has said he is not selling. Be patient, and better days should be coming.

Plus, a great buying opportunity is about to present itself if you are a long-term investor. And don’t just stick to bullion. Semi-numismatic coins from the U.S. and other mints with low mintages can be had for small premiums these days, and represent excellent choices in my view.

golino portrait thumb The Coin Analyst: Electronic Trading Smashes Gold and Other Precious Metals Despite Strong Physical DemandLouis Golino is a coin collector and numismatic writer, whose articles on coins have appeared in Coin World, Numismatic News, and a number of different coin web sites. His column for CoinWeek, “The Coin Analyst,” covers U.S. and world coins and precious metals. He collects U.S. and European coins and is a member of the ANA, PCGS, NGC, and CAC. He has also worked for the U.S. Library of Congress and has been a syndicated columnist and news analyst on international affairs for a wide variety of newspapers and web sites.

About the Author:

Louis Golino is a coin collector and numismatic writer, whose articles on coins have appeared in Coin World, Numismatic News, and a number of different coin web sites. His article, “Proposed Design Change Takes Flight,” which deals with the CCAC’s recommendation for a new reverse for the American silver eagle, appears in the July issue of the Numismatist. His column for CoinWeek, “The Coin Analyst,” covers U.S. and world coins and precious metals. He collects U.S. and European coins and is a member of the ANA,PCGS, NGC, and CAC. He has also worked for the U.S. Library of Congress and has been a syndicated columnist and news analyst on international affairs for a wide variety of newspapers and web sites.

20 Comments on "The Coin Analyst: Electronic Trading Smashes Gold and Other Precious Metals Despite Strong Physical Demand"

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  1. Dave in CT. says:

    Louis, very interesting thoughts. And I am holding onto my gold and silver. Just a blip, that’s all. But getting back up to $1550 may take some time, if things stay the same, and nothing happens in the world that would cause uncertainty..

    dave in ct.

  2. V.Kurt Bellman says:

    “This leads naturally to some big questions such as why such a huge drop so quickly and across the spectrum of precious metals, and why is there such a disconnect between the spot price and the physical price of precious metals, especially for bullion coins?”

    Simple. Until dealer holdings of these pieces “have to be” sold, they are withdrawn from the market. Premiums ALWAYS go up when bullion declines. A dealer who is still liquid and solvent despite having paid far above current prices for his current inventory will hold and wait until he cannot any more. Ultimately his stock may be sold at an estate auction.

    “The true believers in gold and other precious metals probably got carried away with their predictions and became a bit too sure about their convictions. But I also highly doubt the current predictions of gold bears that it is heading to $1,000, short of a major stock market and economic collapse on the scale of 2008.”

    And yet if metals’ rise is due to QE(fill in the blank) expansion of the money supply, why have metals gone up in price FAR MORE than M2 has? Of course true believers got carried away with their predictions. It’s what true believers do. At $1000, in my opinion gold is STILL overpriced, by a tiny bit, but $1000 is at least rational. $1900 never was, and $1300-1400 is still helium filled.

    • Louis says:

      Thanks, Kurt, but how do you decide what the correct value is? What is your metric? Mine is the old something is worth what someone else is willing to pay for it. When people were really worried about the debt limit not being extended, and the U.S. defaulting, other people were willing to pay $1900. Today they have different concerns and will pay less.

      • V.Kurt Bellman says:

        You’re conflating two ideas, Louis. One is the “market price”, which is by definition exactly perfect at EVERY point in time. If it weren’t perfect, it would already be at a different number. Pure “auction markets” are always perfect, because price moves to even out supply and demand instantaneously, especially in this era of electronic trading.

        The second concept is a “rational price”, which is defined as a price or price movement that makes logical sense when compared with the explanations being offered for it. What happens when the “rational price” for any trader is higher than the market price, he bows out and does not buy. He may hold or he may sell, or he may “go short”. For me, that point was Chicago ANA 2011 in August. At that event, I sold absolutely every scrap of generic gold and silver I owned, that is any piece I held BECAUSE it was gold or silver. I kept buying SPECIFIC pieces of silver, but not gold, becuase I felt it was ALL overpriced.

        When any trader’s “rational price” is above the market price, he buys more and more. My “rational price” is around $950 for gold and about $19 for silver. I’m not in again until and unless I see those. However, I am STILL buying specific numismatically priced pieces.

      • V.Kurt Bellman says:

        To be specific, using a 2X increase in the money supply to explain a 6X increase in gold is “wacky time stuff”, for me.

    • Dave in CT. says:

      Interesting thoughts ! We’ll all have to stay tuned… If gold hits the below the grand mark, I am in for many ounces..Silver, well that would be, in for many kilo’s…

      Dave in CT.

    • Louis says:

      Kurt,
      On premiums, I agree they rise when bullion falls, but they are also rising because supplies are tight. And I disagree that dealers are just hoarding their coins. Sales are booming everywhere at dealers small and large. The big ones were overwhelmed yesterday, and their sites were the slowest ever. But sure a dealer who last week paid $1600 for some gold will wait for a bigger rebound before selling that particular coin, but they bought their current inventory at many different price points so they would be prepared for this kind of situation, as should individual buyers.

      • V.Kurt Bellman says:

        At my coin club’s April 6 show, (Red Rose Coin Club of Lancaster, PA) a major generic silver dealer refused to put silver bars or ASE’s in his case because at $27-ish prices, he was in silver at about $31-32. I wonder how his stock now looks to him at $23-24. Better? I bet not.

  3. Louis says:

    For a different take on what happened, see what Andrew MacGuire says in http://www.kingworldnews.com. MacGuire is a former trader, who exposed manipulation in the silver market to the CFTC. He says the drop happened because buyers wanted to take delivery of far more silver than exists, and the London metals exchange was about to collapse, which would be a Lehman Brothers-type of event, leading to all kinds of consequences.

    • V.Kurt Bellman says:

      I simply do not buy manipulation stories, almost as a rule. Markets work, even when individual traders don’t have the capacity to see it.

  4. Hi Louis,

    Glad to read your take on the chaotic events of the past few days. I agree on the financial punditry’s attitude towards gold – they’re down on it when it goes up, and down on it when it goes down. I’ve never understood this attitude. They took the exact opposite stance during the housing and oil booms, confidently telling us housing and oil would never fall. With gold it’s been almost the exact opposite.

    In particular I think it’s also useful to keep pointing out the disconnect between “paper” and physical. Sooner or later, either buying of silver and gold must stop or else the paper price must cave in to reality and catch up with the physical market. Both cannot be right. I am still inclined to believe the physical market, given how retail bullion is behaving and how more and more wholesalers are reporting supply problems. I would have expected sales to collapse otherwise.

    The Al Doyle article posted shortly after yours also had a great, detailed discussion about the physical shortages that seem to be developing. So far, CoinWeek has had some of the best coverage of these recent events.

    You might also like to know the Perth Mint is reporting high sales of bullion in response to the price declines: In fact, our bullion website just recorded its highest daily turnover of the year so far and one of its best days of the past 12 months. http://www.perthmintbullion.com/Blog/Blog/13-04-15/Bullion_Buying_Leaps_On_Price_Woes.aspx

    • V.Kurt Bellman says:

      On a much larger scale, how do you explain 1996 as the lowest mintage ASE, at VERY low silver prices at the time, and massive silver buying in 2009, 2010, and 2011 at hugely bubble inflated prices?

      I have only one explanation: Buy low, sell high, unless you’re into coins. Then, never mind.

    • Sgt Rock101 says:

      Every explanation I’ve read to this moment, IMO, is so much BS. The real reason has not been stated “Only the usual suspects”.

      The world price of gold is driven by people who have information you do not. The past few years of gold price rise has been driven by demand in India alone. A billion people wanting ONE thing. They stopped wanting it. The reason for this steep decline rests in INDIA. Look there, not in a dealers vault.

      • V.Kurt Bellman says:

        Sarge,

        Yes, I’l agree that India is a big, maybe the biggest, factor. But you may be ignoring the next two factors (2nd and 3rd place) in the physical demand picture – China and American “Paulistas”.

        • Sgt Rock101 says:

          Chinese don’t put much weight in gold, historically. Silver, a little better but JADE is what they like. Can’t get enough, and elephant ivory. Americans were weaned off gold, in general, by Reagan. As the middle class has become more impoverished gold has not been their haven. Real estate was. There are always some who claim to represent the entire group about gold. The sell off talks the reality. Central banks around the world are a better indicator of physical demand than the middle class.

          With the US now a energy independent country regarding oil (as of last year the US exported more oil than it imported = oil independence), the OPEC countries that were gold hoarders are facing price declines and much less influence on the US. That equals sell off or stop buying.

          Once the ball starts rolling downhill it’s near impossible to stop.

  5. Charles says:

    Physical gold buying has been strong in Asia as the gold prices hit a record-low. It’s interesting to find how individuals and governments are taking advantage of this buying opportunity.

    • Sgt Rock101 says:

      They said the same in 2006. If you follow price and volume charts, when the two diverge, LOOK OUT! ! That’s happening now. Big money is leaving gold. Don’t be left holding the bag when the next sell off occurs.

      • V.Kurt Bellman says:

        I’ll throw in this rhetorical question, for all readers to ponder. Is there ever a time when a sudden downturn in prices is NOT a “buying opportunity”? I submit there is. It happens when the sudden downturn is merely the first scene in a new play in which the perceived value of holding the asset has changed in a fundamental way.

        Now I understand that coin guys don’t believe that for a minute. But just maybe eveyone else might, now or soon, and they control the market; coin guys don’t.

    • V.Kurt Bellman says:

      Sarge is right, Charles. In the entire history of commodity trading, when the big boys think one thing, and the retail buyers/investors think the opposite, 100% of the time the big boys win and the little guy gets crushed.

      Yes, there will be “dead cat bounces” along the way, but the bear is in the woods, and the bull is crap. It’s going to get uglier than it is now, and this is NOT the “buying opportunity”. That’ll come, fairly soon, but this ain’t it.

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