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Precious Metals: Risk Trade Likely Topping Here


Risk assets are likely close, if not at a major, intermediate top that should usher in a prolonged and rather severe corrective phase.

I was all set up for heroism, taking my net metals exposure negative on Friday, and performing the long awaited download of MS Word onto my new computer to convey that to you. The signs were there, though I must admit, I was still terribly nervous about the move. But the trade had become parabolic from my last post-a bullish one-around 27 bucks in silver. On one hand, I feel as though I have let some readers down in my month-plus absence from writing, but I assure you, none of my commentaries would have helped you any. I flirted with exits in the low 40s, mid 40s, and finally took my shot again in the high 40s.

The move in silver had been largely a short covering event by the big banks. We know this since net spec positions are lower now than they were when silver was 15 dollars cheaper, as are commercial shorts which largely got covered in the 40s. So for all those frustrated by the "manipulators" for years, and the CFTC's complacency, you may laugh now as I am quite sure that big shorts ate dirt on this one. There was a lot of hubris in that mud. I loved it, despite only having base long positions/minimum levels (though I set those high) for the last month. It's never easy for a contrarian, even if it's your favorite market, to hang on in a parabola. I was sure to make some mental notes for the eventual final upward phase of metal mania deeper in the future (and likely separated by a tough, lengthy correction).

Newton says for every action there is an equal and opposite reaction. He says that matter cannot be created or destroyed. My market translation of those "natural" rules is that when something goes up tick after tick without pause or digestion; yes, when the money becomes as easy as its been over the last two weeks in silver-that there is going to be a bidless cliff on the other side of that emotion. With Sunday night's price action, silver dropping 15% since Friday, I proceeded to flush the article I had written about the warning signs down the toilet. It wasn't until the news of the year, Bin Laden's death, that I found myself scurrying on Zerohedge for details. Most articles, however, were about how this selling in silver was manipulated, or a function of recent margin hikes, or the work of an opportunist in a low volume setting. All articles pointed to the same conclusion, namely that prices would swiftly recover and establish new highs. It was then I thought I could dig out that former piece and break my silence with something hopefully useful still, after the fact…

Let's begin with the warning signs to see just how strong they were. Silver and gold have reached overbought levels that rival historic extremes on daily, weekly, and monthly time considerations. Silver's chart has been parabolic over the past 10 points. iShares Silver Trust (SLV), the silver ETF's volume has spiked to quadruple its average for the last two weeks. Speaking of low volume moves…silver has opened higher in Japan's night session 16 of the last 17 sessions from the NY spot close (and then rallied further still). Financial media sites became dominated by silver articles. The dollar is heavily oversold and hovering just above the major low put in the spring of 2008 at 71+ on the Trade Weighted Index. Japanese, Canadian, Australian, and European currencies are also all in extreme overbought territory by and large. Gold finally put in a day of blow-off extension on Friday. Moreover, there has been increasing news flow showing a slowing of growth in China (deliberate from its policy makers). Lastly, silver failed three times at getting above 50 last week, which just happens to be right around its all-time nominal high of the 1970s parabola. Hmm…Oh, add in the old "Sell in May" with the fact that Ben Bernanke essentially announced that QE3 would not directly follow QE2 last week and you realize just how blinding parabolas (even mini-ones) become.

As I alluded to above, the only factors preventing me from extending my sales into full on shorts was the nature of the buying in the futures pits-namely that the buyers were banks covering shorts in the face of large recent requests for physical deliveries of the metal. Bigger still, is the fact that the end game bullion holders are positioning for, the overnight currency devaluation and surging bond yields hasn't happened yet. However, it is that fact that has emboldened me that we were likely witnessing the top of Phase 2 of the bull market in precious metals. Well behaved Treasury rates suggest that this potential period of reckoning for a government that has overpromised, overprinted, and structurally avoided hard choices in its "feel good," growth-at-all-costs pursuits is a future event. One that would likely still need some time to fully ripen. I simply could not imagine the metals hanging on through that period at the overbought levels currently hitting the register. Far more likely was the commencement of a risk-off trade that served as the catalyst for the Fed to ultimately lose its credibility in the future with another loose, unconventional, monetizing response to material weakness to come.

Over the next few weeks I shall clarify my stance on why I believe risk assets are likely close, if not at a major, intermediate top that should usher in a prolonged and rather severe corrective phase. Such phase shall eventually include the S&P and economic indicators, ultimately leading to QE3. Dearth of leadership, the stage will be set then for the final, massive, market induced restructuring that shall see gold and silver perform far better than anything we have come close to witnessing yet. Concurrently, we should then see the bond weakness heretofore avoided and the collapse of the dollar as the reserve currency of the world. A new metric, one backed by a basket of commodities or land or other assets shall take its place and then we may finally be able to get some rest.

No, I don't see last night's action in silver as BS and I don't see it above 50 for the rest of the year. In the end, I wouldn't be surprised to see us under 30 for a brief spell before all of the elements come together for its Phase 3 move. Gold/silver ratio set to climb over the remainder of the year after hitting 30 recently. Be patient and keep it tight here. This is not the end all be all move in the metals, of that I am sure, so it's not going to be the neutron bomb everyone thinks here. The space has performed incredibly well in pricing in the odds of such a dramatic future change to the international monetary system. Probably in late 2012, the greatest buying opportunity shall present itself to us. So for you now too, tighten the belt and get some rest, the train ain't going that far from here.

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Positions: Flat Silver, flat gold, short Euro, short S&P. Offers to get short silver higher (46s and up), short-term bids in the high 30s for now (maybe a few in the 42s).
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