by Dave Kranzler, Investment Research Dynamics:
There’s been an abundance of commentary on the net long position of the “Swap Dealers” in Comex silver futures per the COT report. As of the latest COT report, the Swap Dealers are net long almost 22k silver contracts. This is unprecedented. At the same time, the “Large Speculators,” the majority of which is comprised of the “managed money” (hedge funds) sub-component, are net short nearly 17k silver contracts. The data my business partner tracks goes back to April 2004. In that period of time, the Large Speculator category has never been short until February 2018.
On the surface, the silver COT report appears to be extraordinarily bullish. However, there’s a bigger picture not discussed by “COT” analysts that includes the other segment of the large “Commercial” category and the COT structure of gold.
The other “commercial” segment includes producers of silver, commercial “users” of silver (jewelers) and “merchants.” It would be naive to assume that the Comex banks do not throw a large percentage of their gold/silver short positions in to the this category. That would be within the CFTC regulations. Hell, JP Morgan was fined a little over $650k a few years when it was caught by the CFTC putting a portion of its trades into the “speculator” category of trader. This was not within regulations. $650k is a joke and would not deter Jamie Dimon from speeding on the Long Island Expressway let alone manipulating the silver market.
Currently the “Commercial” segment per the latest COT report is net short 2.6k contracts. Again, this is by far the lowest net short position in the Commercial category going back to at least April 2004 and likely ever. The closest the net short position has been before now was for the June 3, 2014 COT report, when the Commercial category net short in silver was down to 9.6k. Back then silver was trading at $18.80. It bounced briefly to $21 by early July then headed lower from there.
While the silver COT appears to be exceptionally bullish, it needs to be analyzed in the context of the gold COT structure. The gold COT structure currently, based on historical statistics, is neutral but trending toward bullish. I looked at data going back to the beginning of the current bull market cycle in the metals, which is commonly considered to be early-December 2015.
From the beginning of December to the latest COT report, the average large spec net long position in gold is 171k. The high was 315k (bearish) and the low was 9.7k (very bullish). For the Commercials as a whole, the average net short during that time period is 209k contracts. The high was 340k (bearish) and the low was 2.9k (very bullish). The low net short in gold for the commercials banks occurred in the December 1, 2015 COT report. This also corresponded with the low print in the large spec net long. This type of COT structure is the most bullish for both gold and silver.
Currently, the large specs are net long 166.5k gold contracts and the commercials are net short 188.8k contracts. You can see vs the averages over the time period that this is still neutral to bearish, but it’s trending in the direction of becoming bullish.
The other element for a bullish gold COT structure is open interest. A high open interest tends to correlate with a bearish COT structure – i.e. a high commercial bank net short – and a low relative o/i correlates with a cyclical low-point in gold. From December 2015 to present, the average o/i in gold has been 492k contracts. The high was 652k and the low was 357k. The net short of the commercials as percentage of the total o/i at the low-point in total o/i was 0.74% – again in the December 1, 2015 COT report. Currently the open interest is 493k which is about average. The commercial short position as percentage of total o/i is 38%. Again, about average for the time period.
I have noticed that the last two moves higher over the last two years have occurred with the total gold o/i in the 420-440k range. This would suggest that, minimally, the open interest needs to drop by 60-70k contracts before the gold COT structure can be considered favorable for a rally in the price of gold.
On average and in general, gold and silver are highly correlated in their directional movements, especially over long periods of time. Since 2001, it’s been my experience that major moves higher in the precious metals sector begin with gold taking off and tend to end with silver outperforming gold by a substantial margin. The numbers presented above would suggest that both gold and silver will not be set-up to embark on a major move higher until the both the total open interest in gold and the net short position in gold of the commercials banks declines by another 60-70k contracts.