TED BUTLER COMMENTARY

November 13, 2006

Us And Them

(This essay was written by silver analyst Theodore Butler, an independent consultant. Investment Rarities does not necessarily endorse these views, which may or may not prove to be correct.)

For the past month or two, I have written about how the market structure in silver and gold, as depicted by the Commitment of Traders Report (COT) had indicated low risk and decent upside potential. That depiction proved correct, as prices rallied from dead low points to recent highs by around $2.50 in silver and $70 in gold per ounce. Once again, the COTs provided an accurate assessment of the low-risk nature of the recent bottom in silver and gold. Now what do the COTs suggest?

There has been deterioration in the COT structure (spec buying and dealer short selling) on the rally that brought us off the bottom and away from the previous ultra low-risk condition. Could we sell off, back below key moving averages? Yes. Will we? I don’t know. We could just as readily move sharply higher from here, based upon non-COT considerations. In truth, the COTs aren’t good forecasting tools when we are not at extreme COT readings, like now.

The COTs will explain a sell-off if we get one. Bear in mind, this is not a prediction of a sell-off, just an explanation in advance in case we do get one. Any sharp sell-off from here will be the direct result of the dealers collusively pulling bids, at opportune times, to insure that the brain dead tech funds sell into a vacuum. There will be no other reason, particularly if the sell-off is dramatic. Should this occur, this will clearly be manipulation at work.

But it is also important to put things into perspective. Long-term silver investors should be unconcerned with any short-term gyrations. If we get a clean out to the downside, it will present a "load the boat" opportunity. It is imperative not to lose perspective. It is critical that one focus on the many dollars to come to the upside in silver. To lose one’s long-term position because of a short term sell-off would be an incalculable error. Particularly since it is quite possible that any attempt at rigging a short-term sell-off could backfire on the manipulators and that rig failure could serve as the catalyst for a price explosion.

Away from the COTs, conditions appear very favorable for silver. Sooner or later, the six-month corrective price process will be decisively resolved to the upside with dramatic new highs. It’s just a question of when. In the meantime, I’d like to present another example that reflects how undervalued silver is on a relative basis.

Over the past 4 or 5 years, measured from the dead lows to the extreme highs, the price of copper, nickel and zinc have risen 6-fold, with zinc tripling in the past year or so. Even lead, which is under attack for toxic and environmental concerns has risen four-fold. These are commodities that share production and industrial consumption similarities with silver. These metals account for the majority of silver mining as a by-product. All have consumption, like silver, that is a function of general world economic growth and demographics.

Simply put, if production and consumption patterns share close similarities, it would stand to reason that the respective price patterns should also be similar. (These comparisons wouldn’t apply to gold, of course, as gold is not an industrial commodity). Based upon the 6-fold increase (so far) from the extreme lows in copper, nickel and zinc, silver should have a price objective of $25 an ounce, or double current levels. It could also be argued that because silver is so under priced vis a vis copper, nickel and zinc (and even under priced compared to lead), that this would serve as more proof that silver is artificially depressed due to manipulation by the concentrated shorts. I am unaware of any documented current concentrated short position in these other metals.

But as undervalued as silver may be, considering the price moves so far in these base metals, the actual price discrepancy vastly understates the true nature of the silver under valuation. Where silver clearly stands out from these other metals is in the fact that silver has always been considered an investment metal, spanning thousands of years. In this regard, silver is closely aligned with gold. The regular investor of the world has not and will not, in my opinion, hold physical copper, nickel, zinc or lead. That regular investor has and will continue to hold physical silver (and gold).

This simple fact means that silver should have already greatly exceeded the price run-ups in the other metals, due to the investment kicker. That it hasn’t yet certainly should not be interpreted that it won’t. In fact, it is this obvious investment kicker that promises to blow the lid off the silver market. In summary, the investment punch to the silver price has barely been felt and before it’s over, the percentage gain in silver will dwarf any other metal.

It has been reported that the NYMEX IPO will be priced this week. While I have no personal financial interest in this underwriting, I am disappointed that the SEC has apparently taken a pass on forcing the Exchange to address the hundreds of public complaints concerning the NYMEX’s refusal to answer the allegations of manipulation in their COMEX silver market. I’m sure many of you are similarly disappointed with the NYMEX’s failure to behave as a legitimate Self Regulating Organization (SRO) and with the government regulators as well.

We have to put these disappointments in perspective. It was never a case of counting on the regulators, alone, to terminate the silver manipulation and set the price free. At least, it wasn’t what I was counting on. It would have been great if it turned out that way and they should have done the job they signed up for, but it wasn’t the reason to be invested in silver. The reason to be invested in silver, for me anyway is that sooner or later, the market will overcome the concentrated shorts and reflect the true fundamentals. Of that, I am more convinced than ever.

But it’s also instructive (and I think encouraging) to review just what was involved and accomplished with the collective effort to get the regulators to move against the silver manipulators. For one thing, it brought the issue into the open. Allegations were made publicly about a very specific issue (the concentrated short position) and the record of that continues to exist. The regulators were given ample opportunity to respond publicly to these allegations and convince you that the allegations were false and to put the matter to rest. I don’t think that has occurred.

The only regulator who publicly responded was the CFTC, with the NYMEX and the SEC weaseling out and remaining silent. In the case of the SEC, this was particularly insulting because they took the time to tell everyone who wrote in that they were taking the issue seriously. I would be very surprised if anyone was convinced by the CFTC response (dated September 6), as no one suggested to me that was the case. What has been expressed to me, universally, was that it is scandalous for regulators to sidestep such clear and serious allegations. The regulators had a clear chance to demolish my arguments and they didn’t and probably couldn’t. Far from the matter being resolved, it was simply a case of the regulators kicking the can down the road.