Friday, December 17, 2010

Silver: Debunking The Myths

Silver is back in the spotlight, roiled once more by allegations of impropriety by financial institutions as a regulatory investigation in the U.S. continues to dig deep. But whatever the eventual findings of the U.S. Commodity Futures Trading Commission, what’s clear is that the conspiracy theorists and bank-haters are having a field day.

The silver market has long been plagued with scandals, most notably during the 1970s and 1980s, when Bunker and Herbert Hunt accumulated millions of troy ounces of the metal and whisked a large portion of it away on planes to vaults in Switzerland for safe keeping. Their actions caused a market shortage and saw prices rise from just $1.50/oz to a massive $50/oz over the course of six years, eventually forcing U.S. exchange Comex to suspend trading in new contracts.

If you listen to reports and videos popping up on a number of websites these days, the same thing is happening again. Only this time, silver could reach $500/oz from $29/oz currently, some of the reports suggest, because of the trading activities of a handful of banks that have been craftily cornering the market.

One of the videos portrays Jamie Dimon, the chief executive and chairman of J.P. Morgan, as Nazi leader Adolf Hitler hankering down in an underground bunker with his troops, railing against the rising price of silver as the market turns against the firm. The site has been set up by film-maker and former trader Max Keiser, who says J.P. Morgan’s activities in silver make it the “biggest financial terrorist on Wall Street,” and is as part of his ‘Crash J.P. Morgan, Buy Silver’ campaign that has the goal of bankrupting the bank.

Keiser is not without his own critics–nicknamed “Mad Max,” he has called for bankers to be “decapitated” for receiving bonuses–but his focus on J.P. Morgan is stepping up the heat on an institution that is generally widely respected for its commodity trading activities.

The broader financial media is now joining in, with the latest report Monday by U.K. newspaper The Financial Times.

Singling out U.S. bank J.P. Morgan, the story cited an unnamed source as saying the institution had cut a short silver futures position on Comex in an attempt to deflect criticism of its dealings in the precious metal. The report also said that a group of small precious metals investors has alleged that large silver futures positions held by several banks, including J.P. Morgan, are keeping prices low. It didn’t name the other banks, nor provide information of price levels at which trades were concluded.

J.P. Morgan declined to confirm whether it has significantly reduced its shorts in the silver market, noting that it doesn’t comment on its trading position–and who would?

But the bank went as far as to say:

“It is absolutely incorrect to say or imply that the New York Mercantile Exchange, Commodity Futures Trading Commission or any other exchange or regulator has instructed or asked us to reduce our position.”

If blaming the big bad banker has become all too easy in a post-Lehman Brothers world, backing up accusations appears to be a whole lot harder. The data used in the Financial Times was the U.S. Bank Participation Report, which shows that U.S. banks held 19.1% of the total number of outstanding short futures contracts at the start of December.

Big deal.

According to the CFTC’s bank participant report, the figure has remained steady in recent months, with U.S. banks holding 19.4% in November and 19.5% in October. While the figure is down from 30.2% in January, the overall short futures positions held by U.S. banks by April was already as low as 25.8%. If a bank has been stealthily cutting its short silver futures position, it didn’t do it recently. And if not U.S. banks, which players hold the remaining 80%-plus?

The figure for U.S. banks holding outstanding short futures in other commodity products is actually higher, with palladium at 21% and gold at 22.5%. A handful of currencies and energy products are not far off. But that’s still hardly a dominant position or cartel.

This isn’t the first time silver has attracted the attention of the regulator: there have been investigations in the past, all of which concluded the market was orderly. Most recently, in September 2008 the CFTC confirmed that its division of enforcement had been investigating complaints of misconduct in the silver market. It didn’t name any of the participants under investigation and hasn’t commented since.

The situation isn’t likely to go away in a hurry. The price of silver isn’t helping–it’s up at 30-year highs, a gain of 49% in the last three months alone. This is a greater rise over the same period than its sister metal gold, which is up 13%, as well as the London Metal Exchange’s flagship three-month copper contract, which is up 21%. Silver has also risen some 160% since the start of 2009, after the global financial crisis hit investor sentiment and subsequently the world’s metal markets.

So if U.S. banks have been attempting to keep silver prices lower, then it clearly isn’t working.

There are other bank critics, such as former trader Andrew Maguire. He alleged market manipulation of silver and gold by J.P. Morgan and HSBC earlier this year, after which unconfirmed reports of CFTC and Department of Justice investigations abounded. J.P. Morgan batted back, saying there was no criminal or civil investigation into its silver trading activities.

But what the reports lack in sourcing and detail, they make up for in drama, and only add to the negativity surrounding commodities. The watchful eye of the regulator is now firmly fixed on the asset class at a time of booming investor interest and improving fundamental demand, with 2011 likely to bring changes to the sector that may not be entirely welcome.

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