Author Archives: Keith Weiner


Gold and Silver Speculation

There is a stark difference between the states of the markets for the monetary metals. The number of open futures contracts in gold is low, while in silver it’s high. First, let’s look at the data and then we’ll discuss what it means.

Here is the graph showing the open interest.


chart-1-open interestThe picture is clear enough. Since the beginning of fall, the number of gold contracts has blipped up and down and now there are somewhat fewer (-3.7%). Meanwhile, the number of silver contracts has gone up substantially (+39%) – click to enlarge.


Now let’s look at the ratio of gold contracts to silver contracts, going back to 2010.


chart-2 open intThere is an unmistakable downward trend since the middle of 2010, almost 4 years ago. Then, there were about five gold contracts for every silver contract. Today, the ratio is down to two – click to enlarge.


OK, but what does this mean?


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Why Was China Carrying Gold?

Zero Hedge has run anexcellent article explaining the use of commodities, beginning with copper, to work around the Chinese government’s imposed capital controls[1]. Capital controls are intended to prevent arbitrage between the dollar interest rate and the yuan interest rate, which is much higher.To keep this gap open, and prevent the arbitrage—aka hot money—they have a choice to shut off trade with the outside world as North Korea does, or resort to capital controls.

The basic idea of capital controls is that the government thinks it can tell the difference between “good” and “bad” types of money moving in or out. As we’ll see below, arbitragers are clever and will do whatever it takes to make their transactions look like the “good” kind.

I describe one scheme used to work around Chinese capital controls, below. It’s complicated, and the details are a bit murky. I may even get them slightly wrong, but I am trying to paint the big picture in clear terms.

A Chinese company gets a letter of credit from a bank. With that in hand, it buys a quantity of copper. The copper is keptoffshore or in a bonded warehouse, so there are no duties paid to import it.


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Monetary Metals Supply and Demand Report: 30 Mar, 2014

The gold price fell about forty bucks, and the silver price fell about fifty cents. There are many ongoing rumors about what could be happening in supply and demand for the metals. Mostly, these are about how the world is gobbling up physical metal and the prices will soon skyrocket. A well-known commentator this week declared that manipulation is so “obvious” now that it ought to embarrass the manipulators. We’re not big on trying to embarrass anyone, but we would suggest that anyone who wants to know the truth about the persistent manipulation conspiracy theory should read on below, in the discussion on gold.

Here is the graph of the metals’ prices.


chart-1- pricesThe Prices of Gold and Silver - click to enlarge.


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Gold Arbitrage and Backwardation Part III (Gold as a Commodity)

In Part I, we discussed the concept of arbitrage. We showed why defining it as a risk-free investment that earns more than the risk-free rate of interest is invalid. There is no such thing as a risk-free investment, and in any case economics must be focused on the acting man rather than theoretical constructs. We validated that arbitrage arises because the market is constantly offering incentives to the acting man in the form of spreads. Arbitrage is the act of straddling a spread. Arbitrage will tend to compress a spread. The spread will narrow, though not to zero because no one has any incentive to make it zero.

In Part II, we looked at the question of whether gold is a currency. The answer cannot be provided by the symbol naming committee at Bloomberg. Gold is indisputably money, and it may be used in the occasional transaction today. The reason for considering it as a currency was to look at contango and backwardation simply as states of gold having an interest rate that is lower or higher, respectively, than the dollar. However, as we concluded in Part II, there is no proper interest rate in gold. The gold lease rate is closer to being a discount rate than an interest rate.

In this final Part III, we look at the fact that gold is a tangible commodity. While the question of whether gold is a currency is important, and it’s good to think about philosophical concepts such as arbitrage, let’s not forget that gold is a material good. It can be held in the hand, it can be bought and sold, and it can be warehoused.

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Monetary Metals Supply and Demand Report: 9 Mar, 2014

Gold went up and silver went down this week. It’s natural for most people to say, “gold went up”, but it’s the most unnatural phenomenon. The dollar is paper scrip issued by the Fed. The fine print tells you that it’s irredeemable, which is like a promise to give you a kilo of sugar that will never be honored. The quantity of this paper is rising while its quality is falling. Everyone knows that its value is unstable, and over long periods of time its value falls alarmingly. And yet we still presume to use this paper to measure the value of gold!


Anyways, in comparison to the undefined unit known as the dollar—which we don’t know if it moved up or down or sideways—gold moved up. Gold went up by fourteen pieces of paper, engraved with the picture of George Washington. Silver—by the moving and nonobjective reference point of copper clad zinc coins stamped with the image of Abraham Lincoln—moved even more. Silver went down, and now it can be bought with a stack of those copper colored slugs that’s 26 shorter than last week. We could as well say that silver went down by an inch and a half, because a stack of 26 pennies is about that tall.

Wouldn’t it make more sense to say that the dollar went down by about a quarter of a milligram of gold?

Here is the graph of the metals’ prices:


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The National Debt Cannot Be Paid Off

Government spending is out of control and, while most say they want spending cuts, people oppose cuts that impact them. Among those who get government money, there’s practically an unspoken, unbreakable pact to keep the money coming. But when I say that the national debt cannot be paid off, it’s not a political forecast; it’s a statement on the flawed nature of the dollar.

Astute observers call the dollar a fiat currency. Fiat means force. It’s true that we’re forced to use the dollar (e.g. by taxes on gold) but the dollar is also irredeemable. There’s no way to cash it in. The dollar is credit that is never repaid. Today’s dollar is a dishonored promise.

This was not always true. Before 1933, the dollar represented an obligation to pay 1/20 ounce of gold. People could deposit gold and get paper notes in receipt. Those notes circulated, and any bearer could redeem them for gold. Back then, $20 was not the gold price. It was the legal rate at which gold was deposited and redeemed.


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Monetary Metals Supply and Demand Report

The dollar dropped a lot more this week than it has in any one week for a long time. Measured conventionally, the gold price spiked $51, and the silver price by $1.47. Gold owners have 4% more dollars, and silver owners have 7.4% more dollars. However, those dollars are worth less. How much less?

To calculate the value of the dollar (or anything else), we can’t use consumer prices. This is because consumer prices are constantly falling, in real terms. Consumer prices are falling because industry is constantly pushing itself to be more efficient. Gold is the closest thing to a constant value in the economic universe, the equivalent of the speed of light in a vacuum, C.

The dollar went from 24.55mg gold to 23.59mg, a loss of 3.9%. If you have 4% more of something worth 3.9% less, you are exactly even (trust me on the math, if you don’t remember those cases of percent from 9th algebra class). Or another way of thinking of it is that your wealth went from one ounce to one ounce of gold, a change of 0%. The profit is illusory, an artifact of measuring money (i.e. gold) in terms of falling credit (i.e. dollars).

Unfortunately, if you sell your gold to take your phantom profits, you are subject to taxes, at least in the US. The IRS believes that your gain is real. They will take perhaps a third of it, and the state tax authority will take more. Unless you used leverage, if you traded this spike then you have taken a loss when you account for taxes. Bummer.


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Gold Arbitrage and Backwardation Part II (the Lease Rate)

In Part I, we discussed the concept of arbitrage. We showed why defining it as a risk-free investment that earns more than the risk-free rate of interest is invalid. There is no such thing as a risk-free investment, and in any case, economics must be focused on the acting man rather than theoretical constructs. We validated that arbitrage arises because the market is constantly offering incentives to the acting man in the form of spreads. Arbitrage is the act of straddling a spread. Arbitrage will tend to compress a spread. The spread will narrow, though not to zero because no one has any incentive to make it zero.

In this Part II, we look at the question: Is gold a currency? Professor Tom Fischer answers, “Yes, gold is a currency with the symbol XAU”.[1]

Upon first reflection, one should become slightly uneasy about this logic. The question of what is a currency is essential to his argument about gold backwardation. We should not abdicate our responsibility to address this question, by deferring to the symbol naming committee at Bloomberg. Let’s look at the facts of reality to see what we may discover about this.

I should first disclose that I am president of the Gold Standard Institute USA. I have written many times to advance the understanding of why gold is money, most recently for Forbes.[2] That proposition is not under debate here.


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Bitcoin, Gold, and the Quantity of Money

The popular view today is based on the linear Quantity Theory of Money. It seems to be common sense. If more units of a currency are issued, then the value of each unit should fall. Many people may not think of it in explicit terms, but the idea is that the value of one unit of a currency is 1/N, where N is the total money supply. If you double the money supply, then you halve the value of each currency unit.

Inflation, according to this view, is either the cause—the increase in the money supply itself. Or it’s the effect—rising prices. The Keynesians hold that inflation is good, and the Monetarists basically agree, though they quibble that the rate should be limited. The Austrians universally think inflation is bad.

The Quantity Theory is not based in reality. One should think of this theory like the Lamarckian theory of evolution.[1] Lamarck asserted that changes to an animal’s body—e.g. its tail is cut off—can be passed on to its offspring. At the time, this theory may have seemed only common sense, and it was very convenient, if not tempting. The same is true with the Quantity Theory of Money. It is convenient, seems like common sense, tempting—and wrong.


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Gold Arbitrage and Backwardation Part I

Professor Tom Fischer has written three papers[1][2][3] about gold backwardation and arbitrage. Across these three papers, he makes a case against the ideas of Professor Antal Fekete. I write this response solely on my own behalf. I do not speak on behalf of Fekete or his New Austrian school of Economics. I have two motivations for writing. First, I have written myself extensively about the gold basis and gold backwardation. Second, I have discussed my basis theory[4], and used it both to analyze market events (e.g. the crash of April 12 and 15, 2013)[5] and to make predictions, via the Monetary Metals Supply and Demand Report[6]. Additionally, I want to present a fuller treatment of certain topics.

The best place to begin is with Fischer’s discussion of arbitrage. Before addressing what he thinks is the flaw in Fekete’s definition, I want to look at an important point that Fischer makes. He says that one is not free to arbitrarily change or broaden a definition, in order to smuggle in one’s conclusions. In Fekete’s Arbitrage Fallacy, Fischer writes:


“His mistake is akin to someone who has decided that the notion of "gold" was too narrow when only used for actual gold, so, to generalize and broaden the concept, any other metal should be called "gold” as well.”


Of course, I agree that this would indeed be an egregious error.

In each of his three papers on this topic, Fischer offers similar wording to define arbitrage, so let’s take the most complete one, also from Fekete’s Arbitrage Fallacy:


“…arbitrage in any currency is an investment that outperforms the risk-free rate of interest in that currency…”


There are two principles that students of the Austrian School will recognize right away. First,there is no such thing as a risk-free rate of interest. Non-Austrians are discovering this too, for example the European Central Bank. ECB executive board member, on Dec 9 Peter Praet, said:


“Appropriately treating banks’ holdings of sovereign debt according to the risk that they pose to banks’ capital makes it unlikely that the banks will use central bank liquidity to excessively increase their exposure to sovereign debt.”[7]


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The Curious Widening of the Bid-Ask Spread in Silver

Last week, I wrote about a curious development in silver. The bid-ask spread widened in November and December. My article concluded:


One should regard this as another type of rot in the core of the system. The point of my dissertation is that narrowing spreads is a sign of increasing economic coordination, and widening spreads is a sign of discoordination. And now we have widening spreads in one market for one of the monetary metals.

This is not good.


I received a lot of email in response to this. Everyone wanted to know what I meant, and if this predicts a rising or a falling silver price. I think the price is likely to fall, though that prediction is not based on the widening spread. It’s based on my supply and demand analysis. My standard caveat is: never naked short a monetary metal. Look at the sharp rise in silver for no reason on Friday, when a disappointing payroll report was released. A 60-cent rise would hit naked shorts in the shorts (if I may be permitted a rude analogy).


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A Curious Development in Silver

I write frequently about supply and demand in the monetary metals, gold and silver. I’ve argued that one cannot just look at numbers pertaining to “famous” buyers or sellers like India or the People’s Bank of China, while ignoring thousands or millions of anonymous people who are on the other side of the trade. Who has been “right” (from a dollar profit-and-loss perspective) over the past few years, those who sold their gold to China—or those in China who bought it? The gold price is a lot lower today, and that is a fact.

To do supply and demand analysis, one must look at the basis. The basis is simply the spread between the price of a futures contract and the price of the metal in the spot market. By watching changes in this spread, we can glean information about supply and demand.

If we drill down further into this idea, then we see there are actually two spreads. The basis is the profit one would make to carry metal (i.e. to buy a bar and sell a contract to deliver it in the future). The cobasis is the profit to decarry it (i.e. to sell a bar and buy a contract to get it back in the future). In general, if the basis is high and rising then we know that the marginal demand for metal comes from the warehouseman. If the cobasis is positive and rising then we know that the marginal supply of metal comes from the warehouseman.


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Gold and Silver Sentiments Violently Diverged in 2013

There are two reasons why people buy gold and silver. The first is that they’re the monetary metals. Many people don’t want more than a certain exposure to the risks of the banking system. They hold dollars for liquidity and beyond that exchange them for metallic money. This money is not for trading.

The second is totrade or, more specifically, to speculate. They buy with the expectation of a rising price. The gold price, measured in dollars, is really just the inverse of the dollar price measured in gold. As the Fed abuses its credit, the quality of its liability falls. This liability—the dollar—has been falling in quality and price for 100 years. Measured in gold, the dollar is now just under 26mg. Or, measured in silver, it’s around 1.6 grams. Most people look at the inverse, the dollar prices of the metals, currently around $1200 and $19.50.

It makes for a great speculation, that the dollar will continue to fall. At least, it did until 2011. The gold price peaked in 2011 at $1900, and has since dropped37%. The silver price dropped 60%.

One speculation strategy is to buy when something is going up. Today, there is clearly noupward momentum in gold and silver. The other approach is to try to buy when there's blood in the streets, as the old trader’s saying goes. OK, but is there blood in the gold and silver streets?


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Monetary Metals Supply and Demand Report: 22 Dec, 2013

The dollar made a multiyear high, closing on Thursday at over 26mg gold! Not even the Fed’s propaganda squad would trumpet this as good news and not in this way. And, of course, the gold bugs regard it as bad news. Though they say that the dollar is going to zero, they measure the value of their gold in dollars. They want their gold to “go up”, perhaps so they can exchange it for more dollars. Isn’t this an odd contradiction? In silver terms, the dollar was also up, to over 1.6 grams (this is not higher than in June when the dollar rose to almost 1.7g).

No matter, these prices are facts.

By the way, for those inclined to think that this is only the price of “paper” gold or silver, we have as much gold metal as you would care to buy at $1900 or $1600 or $1300, or whatever the demand for physical metal is supposed to be. Or we’ll sell silver to all comers at $49 or $36 or $24, or whatever its physical demand price is alleged to be.

This brings us to the raison d’etre of this newsletter: to track the true supply and demand dynamics of these metals. We do this by looking at the difference between the price of “physical” and the price of “paper”. These two prices are very close. To put it in perspective, the difference between the price for the active futures contract and physical gold metal is about 0.2% annualized, or 40 cents. The conspiracy theory alleges a monstrous disconnect between the mountains of paper contracts sold to push down the price of paper gold vs. the high-and-rising demand for physical.


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We’re Building Stasi 2.0

I wrote this in early November. A US District Court decision yesterday (Dec 16, 2013) found that parts of the NSA’s mass data gathering are unconstitutional. It’s a small victory but a step in the right direction. In light of this decision, this article takes on renewed importance.

e=”font-family: verdana,geneva,sans-serif;”>Before the Edward Snowden story broke, I watched a movie about East Germany. It was set in the time when East Germany was a communist dictatorship walled off from the world, like a huge maximum-security prison. The Lives of Others is a gripping drama that shows what that life was like. To say it was dehumanizing, that there was no justice, that people lived in constant terror of the secret police—the Stasi—does not even begin to describe it.For example, the Stasi had forensic information on every typewriter in the country. They could find the author of anything they didn’t like, and disappear him.

See the movie. By the way, the lead actor was hated in East Germany after the movie came out. Even years after communism collapsed, many of its victims are so scarredthat they would prefer to blank it out. This is testimony to how horrific it was.


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THE GOLD CARTEL: Government Intervention on Gold, the Mega Bubble in Paper and What This Means for Your Future