Gold Price Selling Exhausting / Commodities / Gold and Silver 2018

Gold has been afflictedby relentless selling over the past few weeks or so, forcing it to majorlows.  While summer-doldrums weakness istypical, gold’s recent drop is on the large side even for this time of year.  It was fueled by truly-extreme short sellingby gold-futures speculators, which is quickly exhausting.  That is paving the way for gold’s majorautumn rally to start marching higher any day now, a very-bullish omen.

A month ago when goldwas still near $1300, I published my latest research on its summer doldrums.  The first halves of market summers includingJunes and early Julies have long tended to be the weakest times of the year seasonally for gold.  They are simply devoid of the recurringseasonal demand surges gold enjoys during most of the rest of the year.  With investors not interested in buying, goldlanguishes.

There are no majorincome-cycle or cultural drivers of outsized gold investment demand duringthese vexing summer doldrums.  And manyinvestors are mentally checked out anyway, enjoying the summer vacation seasonwith their families.  So gold usuallydrifts listlessly sideways to lower in early summers.  Sometimes enough bearishness coalesces to catalyzesignificant selling, which is certainly the case this year.

This first chart isupdated from my recent summer-doldrumsessay, revealing how gold has performed in market summers in modernbull-market years.  They run from 2001 to2012, skip over the intervening bear years of 2013 to 2015, then recommence in2016 to 2018.  Because gold’s pricevaried so greatly over this span, all individual years’ summer price action isindexed to 100 as of Mays’ final closes each year.

The individual summertrading patterns of all these bull-market years from 2001 to 2017 are renderedin yellow.  Together they define gold’stypical summer trading range.  They areall averaged together in the red line, distilling down gold’s core seasonaltendencies.  Then superimposed over thetop of all that in blue is gold’s current price action in 2018.  After a typical summer start, gold took asharp turn for the worse.

Market summers deviate from true orbitalsummers, running June, July, and August proper. Traders likely think this way because of the major vacation weekendsbracketing these summer months in the US. So gold’s last close in May is the entry point off which summer priceaction is measured.  That’s recast at 100in this chart to keep all modern bull-market years’ price action perfectlycomparable in percentage terms.

On average between 2001 to 2012 and 2016 to2017, from late May to mid-June gold slumped 1.0% to its major seasonal summer-doldrumslow.  From there gold tended to startrecovering, leaving June with modest average losses of 0.2%.  This first-half-of-summer weakness usuallypasses by mid-July, so that month saw solid average gains of 0.9%.  Those are driven by gold’s major autumn rally getting underway.

As that gathers steam with investors refocusingon markets following vacations, August actually averaged hefty 2.2% gold gains!  So technically the summer doldrums encompass the first 5 to 6 weeks of marketsummers, all of June and early July. Thus we ought to be through the worst of gold’s seasonal weakness thissummer.  That’s even more likelyconsidering how much gold fell below its early-summer mean so far in 2018.

Gold actually proved relatively strong earlyon, rallying 0.3% month-to-date by June’s 10th trading day which is gold’smajor seasonal low.  That was all themore remarkable considering it came theday after a major Fed decision.  TheFederal Open Market Committee not only hiked its federal-funds rate for the 7thtime in this cycle, butupped its forecast for future rate hikes. Such hawkishness has hammered gold in the past.

Gold-futures speculators dominate gold’snear-term price action, especially when investors are missing in action likeduring market summers.  Gold futuresallow insane extreme leverage.  Back onJune 14th when gold hit $1302, a single gold-futures contract controlling 100troy ounces was worth $130,200.  Yettraders were only required to maintain cash margin balances of $3100 percontract, which is next to nothing.

Thus gold-futures speculators were able torun maximum leverage up to 42.0x!  Eventhis week following gold’s sharp selloff since, 40.4x is still possible.  That gives fully-margined gold-futuresspeculators 40x the price impact ongold as an investor buying outright!  So$1 of margin supporting gold-futures selling hits gold as hard as $40 ofinvestment selling.  That gives futurestraders outsized influence over gold’s price.

Running such extreme leverage ishyper-risky, as a mere 2.5% gold-price move against traders’ positions wouldwipe out 100% of their capital risked. Thus these gold-futures speculators are naturally forced to have an ultra-short-term focus.  Fundamentals are meaningless to them, allthey care about is what gold is likely to do over the coming hours anddays.  They can’t afford to be wrong forlong at extreme 40x leverage!

So gold-futures speculators are obsessedwith anything that can quickly move gold. Topping that list are Fed actions, the US dollar’s fortunes, and majorUS economic reports like today’s monthly jobs number.  Often all three of these areinterrelated.  The dollar is more likelyto be bid higher on a hawkish Fed, and the Fed is more likely to hike rates ifeconomic data is strong.  So these thingscan really bully gold around.

At every other FOMC meeting, top Fedofficials’ individual federal-funds-rate outlooks are summarized on a tabletraders call the dot plot.  Released quarterly, this can really unleashgold-futures trading moving gold fast. If the dot plot is more hawkish than expected, indicating more near-termrate hikes likely, gold often gets sold hard. The Fed’s 2nd rate hike of this cycle in mid-December 2016 set recentyears’ precedent.

That day the FOMC’s latest dot plot wentfrom implying 2 more rate hikes in 2017 to 3. Despite historyproving the opposite, gold-futures speculators believe higher interestrates are bearish for gold.  So theyaggressively dumped gold futures, hammering gold 1.4% lower that day and 1.2%the next.  And after other FOMC meetings accompaniedby more-dovish-than-expected dot plots, gold has been strongly bid higher.

So when that newest dot plot last monthcame in hawkish, there were high odds gold would suffer a sharp selloff.  Especially in the dark heart of the summerdoldrums, when investors aren’t around to moderate or overpower speculators’gold-futures trading.  On June’s latestFed Day, top FOMC officials’ collective rate-hike outlook climbed from 3 totalhikes in 2018 to 4.  That should’veunleashed serious gold-futures selling.

But amazingly it didn’t, gold rallied 0.3%on the 13th despite this latest hawkish dot plot.  And even more remarkable was its 0.2% gainthe next day to $1302.  That morning theEuropean Central Bank made a major policy announcement.  It declared it was ending its enormousquantitative-easing campaign at the end of 2018, but tried to mollify currencytraders by promising it wouldn’t hike rates beforenext summer.

So despite the hawkish end of ECB QE, theeuro plummeted 1.8% on the dovish surprise of a promise to hold off on ratehikes.  Since the euro accounts foralmost 58% of its weight, the US Dollar Index blasted 1.3% higher on that.  That made for the best up day by far of thedollar’s entire recent short-squeezerally that has really weighed on gold since mid-April.  Gold could’ve easily fallen 1% to 2% on thatdollar surge.

But surprisingly gold-futures speculatorsdidn’t sell on the 14th, oddly ignoring that blistering dollar surge.  With gold holding rock-solid through twomajor selling catalysts erupting right in the middle of the summer doldrums,they looked to be waning.  Gold’sresilience was very impressive.  Butunfortunately all of that collapsed the very next morning.  The gold-futures speculators resumed heavyselling with a vengeance.

Early on the 15th, the US published itstarget list of Chinese imports worth $50b annually to be subjected to new 25%tariffs effective today July 6th.  Forsome reason that triggered huge gold-futures selling.  These traders have ignored most otherescalating-trade-war threats in recent months, but that day they didn’t.  Over the 4 hours following that announcement,a staggering 260k gold-futures contracts changed hands!

So gold plunged from $1299 right beforethat tariff warning to a serious 1.7% loss that day to $1279.  A lot of traders believe the US dollar willbe bid higher in trade wars.  They couldignite stock-market selloffs leading to safe-haven dollar buying.  And other countries could increasinglydevalue their own currencies to partially offset the adverse price impact of UStariffs on their exports.  That couldlead to a stronger dollar.

But the dollar sure wasn’t rallying thatday, with the USDX finishing dead flat.  Yet gold selling started that day thatpersisted right into this week.  As ofthis Monday, gold had fallen in 10 of the 12 trading days starting with thatodd gold-futures selling blitz on trade-war fears.  That dragged gold 4.6% lower in that shortspan, nearing the bottom of its usual 5% summer-doldrums trading range.  That is super-weak action.

Gold plunged 3.5% last month, vastly worsethan that modern-bull-market-year average loss of 0.2% in June.  After ignoring another Fed rate hike, ahawkish-dot-plot surprise, and then a surging US dollar thanks to a “dovish”ECB, gold-futures speculators finally capitulated over the last several weeksor so.  Odds are that largely exhausted their selling, pavingthe way for gold’s major autumn rally to erupt very soon.

Speculators’ collective gold-futurespositions are reported late Friday afternoons in the CFTC’s famous Commitmentsof Traders reports.  These CoT reads arecurrent to the preceding Tuesday closes, so the latest data available when thisessay was published was June 26th’s.  Atthat point just under 3/4ths of gold’s total selloff over the past severalweeks or so had happened, thus most of the recent picture is evident.

This next chart looks at gold-futuresspeculators’ total long and short contracts per those weekly CoTs rendered ingreed and red respectively.  Gold issuperimposed over the top of that in blue. When these traders are buying gold futures, both by adding new longs andcovering shorts, gold rallies.  When theyare selling gold futures, both by dumping longs and adding new shorts, goldfalls.  That’s what just happened.

A day before that latest FOMC decision andhawkish dot plot in mid-June, speculators held 240.9k gold-futures longcontracts and 100.3k short ones.  Thosewere both pretty low, which meant gold’s outlook was mixed heading into FedDay.  Speculators had lots of room to addnew longs, which was bullish for gold. But they also had big capital firepower available to ramp their shortselling, which was certainly bearish.

One way to visualize the near-termgold-price implications of specs’ collective gold-futures positioning is toconsider their total longs and shorts relative to their past-year trading ranges.  OnFed eve in mid-June, total spec longs were running just 3% up into theirpast-year trading range.  Speculators hadalready sold them down aggressively during the recent USDX-short-squeeze rally,leaving them with relatively little left to sell.

The CoT week before, total spec longs hadactually fallen to a deep 2.3-year low. Speculators had not been less bullish or more bearish on gold sinceearly February 2016, before today’s bull became official!  They were effectively all-out on the longside, so heavy long selling was very unlikely regardless of what the Fed or ECBdid.  All the downside risk was on the short side, as I had warned oursubscribers in early June.

Total spec shorts were running just 17% upinto their own past-year trading range on Fed eve in mid-June.  That meant these traders likely still hadroom to do 5/6ths of their probable near-term short selling if the rightcatalyst arose.  A hawkish dot plot wouldprobably be it, although that heavy shorting didn’t erupt until a couple tradingdays later on trade-war news.  And thatshort selling soared to near-recordextremes!

In the next CoT week that straddled theFed, ECB, and that US announcement of imminent major tariffs on Chinese goods,total spec longs actually climbed a sizable 9.1k contracts.  But that impressive buying in the summerdoldrums was far overpowered by a stupendous 35.5k contracts of new gold-futures short selling by thespeculators!  Together that added up tothe equivalent of 82.3 metric tons of gold dumped.

That’s far too much for normal demand toabsorb in any single CoT week, let alone in the dark heart of the summerdoldrums when investors are on the sidelines. According to the latest fundamental data from the World Gold Council,global investment demand averaged 22.1t per week in Q1’18.  So nearly 4x that being flung into themarkets by gold-futures speculators was far too much to digest, thus goldplunged.

The astounding part of all this is that35.5k contracts of gold-futures shorting made for the 2nd-highest on record out of all 1016 CoT weeks since early 1999 bythat point!  That was only exceeded byanother epic shorting blitz in mid-November 2015 leading into the Fed’s firstrate hike of this cycle.  Extremegold-futures short selling is wildly unsustainable, which makes it a very-bullishindicator for gold following such episodes.

Unlike long-side buying which speculatorsare never compelled to do, short covering is mandatory.  In order to sell short gold futures, traderseffectively have to borrow them first. Those debts legally must be repaid in the near future.  The way that is done mechanically is throughbuying long contracts to offset and close out those shorts.  So gold-futures short selling is guaranteed symmetrical near-futurebuying!

The upside price impact on gold of buyinglong contracts to cover shorts and normal long-side buying is identical.  So gold rallies sharply on short-coveringlong buying after heavy shorting.  Themore extreme speculators’ gold-futures shorting, the bigger the subsequentbuying to cover and close those positions. And in the next CoT week after that near-record one, specs shortedanother 14.7k gold-futures contracts.

So as of June 26th, in just two CoT weeks gold-futuresspeculators had short sold a gargantuan 50.3kcontracts!  That’s the equivalent of156.3t of gold, a huge amount.  That lefttotal spec shorts way up at an 11.0-month high of 150.6k contracts.  They hadn’t been higher since last summerearly in gold’s major autumn rally.  Inpast-year-trading-range terms, total spec longs and shorts were running 6% and64% up in.

The lower spec longs and higher specshorts, the more bullish gold’s near-term outlook.  When longs are low all these traders can dois buy since their selling is exhausted. And the same is true when shorts are high, the available capitalfirepower for selling short has been expended so the only action traders cantake is covering shorts.  Thus themost-bullish situation possible for gold is 0%longs and 100% shorts.

Given gold’s continuing weak price actionin this latest CoT week ending this Tuesday July 3rd, I suspect there’s been somelong selling and even more shorting. Thus we are probably getting as close to 0% longs and 100% shorts aswe’ve been since last year’s summer doldrums. And as the gold trading action coming out of them proved, that’s really bullish for gold’s outlook overthe coming weeks and months.

A year ago in early July, total spec longsand shorts hit 10% and 100% up into their past-year trading ranges.  Over the next couple CoT weeks theystabilized at 7% and 100% then 6% and 99%. These elite traders had exhausted nearly all their likely selling, leavingthem nothing to do but buy.  I wrote anessay last July highlighting the extreme levels ofgold-futures shorting.  Last summerlooked much like this one.

The Fed hiked rates for the 4th time inthis cycle in mid-June 2017.  Over thenext several weeks, gold dropped 4.2% to $1212 on Jobs Friday July 7th.  That ought to sound familiar, as gold wasdown 4.1% between the day before last month’s latest Fed rate hike and thisMonday.  And once again the monthly USjobs report just came out this morning. Like this week, a year ago everyone was very bearish on gold.

But with speculators’ gold-futures sellingso exhausted, that miserable sentiment didn’t matter.  These guys couldn’t sell much more, and theywere soon forced to start buying to cover their extreme shorts.  That fed on itself, pushing gold high enoughto entice in new long-side buying.  Thusbetween early July and early September 2017, gold surged 11.2% higher in a nice autumn rally.  Another one is imminent.

If gold bottomed earlier this week at$1242, a similar gain this year would catapult it to $1381 by late September orso.  That would drive a major bull-market breakout above both $1350 resistance and the $1365 bull-to-date peak from way back inJuly 2016!  Seeing new bull-market highswould get investors excited aboutgold again.  They would start floodingback in in a big way fueling the next major bull-market upleg.

Just like early last July, withspeculators’ gold-futures selling largelyexhausted these traders will soon have to start buying to cover.  That’s the first stage of major gold uplegs, as thatearly buying drives gold high enough to first bring back long-side gold-futuresspeculators and later investors.  Gold iswell set up for a major autumn rally in the coming weeks and months, with speclongs and shorts nearing 0% and 100%.

Far from being something to fret about, thesummer doldrums are a gift for prudent contrarian investors andspeculators.  They offer the bestseasonal buying opportunities of the year in gold, silver, and their miners’stocks.  Late last summer as gold powered11.2% higher, the benchmark HUI gold-stock index leveraged that to a strong 22.7%gain in that exact span.  Today’s dirt-cheap gold stocks have far-greater potential.

They are deeply out of favor, eitherdespised or totally ignored.  And theyare wildly undervalued, trading at levels implying gold prices were radicallylower than prevailing levels.  The goldminers are earning fatprofits even at $1250 gold, and those will really amplify gold’s gains asit rebounds out of these summer-doldrums lows. Now is the time to get deployed into great individual gold stocks ortheir best ETFs like GDXJ.

At Zeal we’ve literally spent tens of thousands of hours researchingindividual gold stocks and markets, so we can better decide what to trade andwhen.  As of the end of Q1, this hasresulted in 998 stock trades recommended in real-time to our newslettersubscribers since 2001.  Fighting thecrowd to buy low and sell high is very profitable, as all these trades averagedstellar annualized realized gains of +19.4%!

The key to this success is staying informedand being contrarian.  That means buyinglow before others figure it out, before undervalued gold stocks soar muchhigher.  An easy way to keep abreast isthrough our acclaimed weekly and monthly newsletters.  They draw on my vastexperience, knowledge, wisdom, and ongoing research to explain what’s going onin the markets, why, and how to trade them with specific stocks.  Subscribetoday and take advantage of our 20%-offsummer-doldrums sale as we add new trades!

The bottom line is the recent gold sellingis exhausting.  While gold tends to beweak in early summers as investors zone out, this year’s downside has beenworse than usual.  While their longs werealready low entering summer, the gold-futures speculators just unleashed anear-record shorting blitz on trade-war fears. But that’s wildly unsustainable, guaranteeing symmetrical near-futurebuying as those shorts are covered.

Low spec longs and high spec shorts leavegold perfectly positioned for another major autumn rally this year.  That could ignite any day, and ought to pushgold high enough to achieve the long-awaited bull-market breakout to major newhighs.  Now is the time to buy gold,silver, and especially their miners’ stocks at today’s dirt-cheap prices aroundthese seasonal lows.  Big gains laterrequire buying low out of favor.

Adam Hamilton, CPA

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