Heavy Gold And Silver Futures Shorting Is Actually Very Bullish

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Summary

  • Gold and silver were hammered by heavy shorting by U.S. futures speculators over the past month.
  • These elite traders have been extremely bearish on gold since its major lows in mid-2013, but they are actually a strong contrarian indicator.
  • Every time their hyper-leveraged short-side bets soar up near extremes, gold is bottoming and ready to surge in a frenzied short-covering rally.

Gold and silver have been pounded lower over the past month, contrary to their bullish seasonals.  This selling pressure has come from the usual suspects, American futures speculators.  They’ve been busy aggressively dumping gold and silver futures, particularly on the short side.  But each time they pressed this bet in the past 15 months, gold soon surged higher.  Shorts are bullish since they must soon be covered.

Gold suffered its worst quarter in 93 years in 2013’s second quarter, a nauseating 22.8% loss.  This was triggered by the Fed’s stock-market levitation, which sucked vast amounts of capital out of alternative investments.  Gold plunged early in that catastrophic quarter when major support failed, and again later on Ben Bernanke’s initial QE3-taper scare.  This naturally left gold sentiment overwhelmingly bearish.

American futures speculators responded by betting heavily against gold and silver during that Q2’13 timeframe.  And given gold’s once-in-a-century plunge, they obviously enjoyed great initial success.  But even after gold decisively bottomed in late June 2013, this elite group of traders remained extremely bearish on the precious metals and kept selling their futures.  This has continued for the 15 months since.

The ironic thing is that fantastic Q2’13 gold-downside bet hasn’t worked very well since then.  Of the 303 trading days since gold plummeted to $1199 in late June 2013, it has only closed lower briefly on 3 trading days in late December.  The universal gold bearishness of the past 15 months hasn’t paid off, it was a bad bet.  Gold has weathered the heavy selling to grind sideways in a massive bottoming consolidation.

Yet American futures speculators still remain exceedingly bearish on precious metals, which is truly seriously irrational given their sideways price action.  The reason is likely twofold.  Until the Fed-driven stock-market levitation decisively rolls over, demand for alternative investments will remain weak.  And given the extreme leverage inherent in gold futures, speculators must maintain an ultra-short-term focus.

At $1250 gold, a single 100-ounce gold-futures contract controls $125,000 worth.  Yet the maintenance margin on US gold futures is now just $4600.  Thus traders running at maximum margin have leverage to gold of 27.2x!  That is astoundingly risky, as a mere 3.7% gold move against these guys would wipe out literally all of the capital they bet. For comparison, stock trading is legally limited to 2.0x leverage.

Big gold moves aren’t uncommon.  Since 2009, fully 1/13th of all trading days have seen gold close 2%+ higher or lower.  So highly-leveraged futures speculators can be wiped out in a matter of days if they make the wrong bet on gold!  Thus their myopia is as extreme as their leverage, with their whole world existing between a week in the past and a week in the future.  Any minor gold slide rekindles their bearishness.

If the stock markets edge up to new nominal records, American futures speculators are quick to dump gold.  If the US dollar is stronger, they are quick to dump gold.  If the Fed hints at interest-rate hikes, they are quick to dump gold.  If some elite investment bank makes its umpteenth weathervane bearish call on gold, they are quick to dump gold.  If some geopolitical hot spot appears to cool, they are quick to dump gold.

Already having a heavily-bearish bias and forced by leverage to be short-sighted, American speculators jump on every opportunity to sell gold futures.  And that is exactly what happened to gold and therefore silver over the past month or so.  Gold would droop for a couple days, futures traders would rationalize that as confirmation of their bearish theses, so they would sell more gold futures and amplify its decline.

This creates a vicious cycle.  And in the absence of normal levels of gold investment demand thanks to the Fed’s artificial stock-market levitation, there isn’t enough offsetting physical buying.  So futures selling dominates the gold price, and it slumps towards lows.  The funny thing is these extreme bets against gold by such sophisticated tradersalways prove wrong, as gold rallies right at their peak bearishness!

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