No Correction Yet?
Timothy Silvers
January 3, 2006
Will the price of silver correct soon? As mentioned in the 12/13/05 article Look Out Below!, the recent market action in silver is very similar to that of April 2004. In this article we look at the indicators that show us why silver should correct in price in the near future. We focus on using the COMEX Commitment of Traders data related to the short position of the Commercial Traders (commercials) along with a combination of regression analysis and other graphs.
One of the most reliable ways to predict the price of silver one to two months away is to look at the short position of the commercials on the COMEX. Ted Butler and others have done a great job of discussing the evidence that the silver market is manipulated by the commercials. Basically, they sell silver short when there is no physical silver in any known warehouse stocks that could be used to fill these contracts if the counterparties demanded physical delivery. I recommend that you read Ted's article on 12/27/05 "The Past as a Prologue" www.investmentrarities.com/12-27-05.html to see his latest thoughts on silver.
This manipulation of the COMEX silver market can be used to the advantage of the silver investor that trades part of their position. I calculated a regression analysis of the commercials' gross short position compared to the price of silver and found that in all years between 1997 and 2002, except 2001, the correlation was over 80%. That means that if the only indicator that you used to trade silver was the Commercial short position, you would have been able to guess the direction of the silver market 80% of the time. In 2003 and 2004, the Commercial Traders' gross short position had 75% and 77% correlation to the price of silver. By the end of 2005, the correlation increased to 85%. The graph below shows this relationship. The closer the dots are to a straight line, the higher the correlation. A correlation of 100% would be a perfectly straight line.
When the commercials sell short silver and the price goes up as they are selling, they are losing money on paper. The only way for them to make the money back is to engineer a sell off in the price of silver. How they do this is beyond the scope of this article, but the commercials are the cause of all major drops in the silver price. If they were not the cause, then why is their short position correlated to the silver price by more than 80%? No one can predict and time the market that well. Otherwise there would be a lot more people making a living off market timing.
Today I decided to figure out just how much money the commercials are losing on their short sales and to compare that data for the last two years. For this analysis, I am using the commercials' net short position instead of their gross short position. The correlation of the net and gross short positions compared to the silver price have been within a few percentage points of each other for the last three years. I subtracted the net short position from that of the week before and then multiplied it by the spot silver price for that week by 5000 ounces (number of ounces in a COMEX contract). The results on the graph below were very interesting but should not be overly surprising. Note on the graph that the spot price per ounce was multiplied by 100 Million ounces so that it would appear on the same scale as the commercials' net short value.
The Commercial Traders are currently losing over $1.6 Billion on their short sold silver position. That's got to hurt! You can clearly see on the graph that the commercials were down $1.2 Billion in March 2004, prior to the April sell off which brought their position below $0 (making money). Again in December 2004 they were down $1.5 Billon and were able to create a sell off to bring them down near breakeven.
2005 was a year with a few ups and downs for the price of silver. The graph shows us why. The commercials began to sell short silver again. They were losing $765 Million in March only to make that back by the beginning of May. They turned around and sold short heavily again to reach $1.2 Billon in losses only to cause a sell off in silver and make it back by July. In September, it looked like the commercials had decided to leave the short selling game. They were actually net long $332 Millon at one point. However, as usual, they began selling short ever since and reached a record $1.8 Billion in losses in December. During the mini-correction in the middle of December, they closed some of their short contracts but are still sitting at $1.6 Billion in losses.
What does all this mean for the silver market as we begin 2006? Well, as Ted Butler has pointed out many times in the past, when the commercials are heavily short silver, they will either get wiped out and the price of silver will explode upwards, or they will engineer another sell off and cause a large price correction. Since we can see 6 times in the last two years that the commercials were able to convert a large losing short position into a profit or very near breakeven, I am betting that they are not stupid. They are down big now and need a big correction to get out of this losing position. History does not repeat, but it rhymes, they say. With silver the rhyming in so predictable, it has been very useful to those who trade silver and pay attention to what the Commercial Traders are doing. The past would say that we are definitely getting ready for a huge drop in the silver price, unless the commercials lose money for the first time ever.
As far as short-term predictions, I doubt that anyone can predict the next several weeks with certainty. I'll give you my two cents worth on what I think we'll see. Today spot silver closed at $9.08. If it can close above $9 for three straight days, then there is a good chance we'll see the $9.50 to $10 level within a few weeks. However, at any time we are vulnerable to an engineered sell off created by the commercials that will drop the price $1.50 to $2.50. Even then, the commercials may not be able to break even on their short sales. If so, they may just decide to give up short selling and the next correction will be the last chance you have to buy silver at a low price. I'll be writing another article when that time comes.
God Bless,
Timothy Silvers
Timothy Silvers is an independent analyst who has been following the silver market since the late 1990's. Yes, Silvers is his real last name, so it only makes sense that he follows the silver market. If you are interested in more of his analysis, please visit his website at www.silverbrothers.com
Disclaimer: This article represents the opinions and personal views of Timothy Silvers and is not intended to be investment advice. If you choose to use this analysis for your personal trading, Timothy Silvers assumes no liability for the direct or indirect losses you may incur due to using this article to make your investment decisions. You are totally and completely responsible for your own investments. At any given time, Timothy Silvers or his friends and relatives may have positions in silver related investments that may or may not follow the recommendations contained in this article. The information in this article may not be completely correct and accurate. Even though Timothy Silvers has done his best to review the content and accuracy of this article, he is in no way liable or responsible for any mistakes or omissions.
Email this Article to a Friend 
Printer Friendly Version