The latest on the shenanigans at the COMEX...

Regards - VHF

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Strange Developments in the Silver Market

Patrick Heller

March 8, 2011

I have previously written that it looked like some hedge funds and others were preparing to gang up on those who had sold short massive quantities of the March COMEX silver contracts. On February 24, four days before the first day of delivery, there were still over 252 million ounces of open March contracts that could potentially be called for delivery.

This huge quantity of potential delivery requirements matched up against total COMEX registered silver inventories of less than 42 million ounces.

In normal times, a high percentage of the short contracts would be canceled out by the seller purchasing an offsetting long contract. Still, the large number of open contracts indicated that there would be a huge supply squeeze anyhow.

Ordinarily, information on the number of open contracts would be updated almost every day. This time around, it seems like the COMEX dragged its feet in providing up to date information.

The latest COMEX report shows that there are now fewer than 10 million ounces owed on the remaining open March contracts. Strange—seeing as very little silver has been delivered from the COMEX.

The most logical explanation for the disappearance of the open contracts is that they were settled with other assets. Although the COMEX permits these contracts to be fulfilled with shares of silver exchange traded funds (ETFs), going this route would simply transfer the supply squeeze to the ETFs. Instead, settling the short contracts for cash is the most likely method used for eliminating the liability to deliver so much physical silver.

You won’t find published reports detailing how many contracts have been settled for cash. But, there are anecdotal stories indicating that a large number of contracts have been settled by this means. In one particular instance, I pieced together information from multiple sources, though I cannot claim that it is necessarily confirmed as factual.

Supposedly one company that owned 4,000 long contracts (reflecting ownership of 20 million ounces) was insisting that they wanted physical delivery of all contracts. The short seller on these contracts was allegedly JPMorgan Chase. According to the story, JPMorgan Chase admitted that it would not be able to fulfill delivery of 20 million ounces. Instead, the bank offered to buy the long contracts for 30% above the spot price, then 40% more than spot. At this point, JPMorgan Chase representatives threatened the company by saying that it would deliver its silver to fill other contracts, then declare a “force majeure” default, under which the company would only receive a fraction of the silver owed to it. The company supposedly then accepted a cash payment for all the contracts at a price reported to be more than $50 per ounce!

There is one fact that provides some circumstantial support to the possibility of this story being true. On March 1, the Commodity Futures Trading Commission released its monthly Bank Participation Report. This report shows that the net short position held by the four banks with the largest COMEX silver positions increased by 6,000 contracts (30 million ounces) in the past month. Almost certainly JPMorgan Chase was responsible for most if not all of this increase in the short position, which would leave the bank much less able to fulfill all of its physical delivery commitments.

This scenario is quite similar to prior reports that owners of maturing gold contracts in the London market were accepting cash payments in lieu of physical metal at prices well above the spot price. Therefore, even though stories such as the one about a company and JPMorgan Chase have not been verified, they are entirely plausible.

The US Mint has almost completely stopped production of American Silver Eagle bullion coins. Mint officials claim that they are unable to get supplies of blanks. There are some analysts who are suspicions that this cessation of production doesn’t really have anything to do with a shortage of blanks. Instead, they speculate that the Mint has deliberately curtailed production to push up the premiums for the coins, resulting in such high prices that demand for physical silver will drop. The truth of this matter may never be publicly revealed.

At the same time that there is a supply squeeze of physical silver for immediate delivery, there are signs that ample inventories will be available several months from now. Silver in the ground is a long way from being deliverable, but that will change in time.

While all this is going on, silver has reached a 31-year high (ignoring inflation) and gold has reached another all-time record high. Expect more strange developments in the silver market in the coming weeks, but also be prepared for much higher prices.