Silver: Dry Kindling Awaiting A Spark

For over four years, gold and silver have been in a cyclical bear market, within a larger secular bull trend. A number of times since silver's May 2011 high at just below $50, they have swooned, built a base that should have held, yet dropped again. With silver at this writing, printing the lowest close since 2009, the few remaining bulls can be excused - as we often say - for "either being scared out or worn out".

The best way to make significant money with defined risk is to spot an investment vehicle that is out of favor, trading below production cost, moving into longer term deficit, yet needed and desired by people around the globe. A vehicle like silver.

Our premise is that silver today is like dry kindling. Even as global demand drivers India and China massively import, as Canadian Maple and American Silver Eagles notch record sales, even as producers at best make bleak profits - silver slumbers. 

In the harsh climate of Patagonia, where every variety of shrub is festooned with spines, the neneo plant goes one better. In summer it can dry out and lose color, which might lead you to assume that it's...dead. But you would be wrong!

A gold and silver short-covering rally in the offing. Counter-intuitively as silver prices have declined, physical buying and premiums on bars and bullion coins have increased. So, what's really going on?

In the short term, silver's "market price" is set by paper futures contract trading on the COMEX. Currently, gold and silver short sales are sitting at record levels, betting that prices will continue to decline. But at some point, those contracts have to be closed out. This is done by (reverse) offsetting . A short seller closes by going long (purchasing) an equal number of futures contracts. Remember, though, that adding contracts contributes to supply! Just as in the early days of the goldsmiths, when perhaps only ten percent of the people ever requested their gold, in futures markets, less than one percent actually stand for delivery!

The recent Commitment of Traders (COT) Report shows a record 179,000 gold-futures contracts have been sold short. Silver short sales rose to record levels too. When the piper is finally paid, short offsets combined with new buyers going long more contracts have the potential to position silver and gold for an explosive rally.

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