What is a future options contract? It is a contract to buy or sell a specific quantity at a specific price at a specific date. If you are a farmer that grows potatoes you can sell $10 of potatoes to McDonalds to be delivered on the 3th Friday of June 2012. McDonalds will pay a fee for this contract, maybe $1. The farmer gets the $1 now and then $10 in June for a total of $11. In June the open market price of potatoes may be more or less than $10 but the contract will be met with the physical delivery of potatoes at the agreed price. This allows both the farmer and McDonalds to plan June with certainty, and certainty is of great value for all kinds of industries, ranging from jet fuel to raw materials. Individual speculators, such as me, can buy or sell these future contracts. I have no interest in taking physical delivery of 10,000 gallons of jet fuel. I will close the contract before the delivery date, hopefully for a profit. That is a properly functioning market serving a legitimate business purpose, speculators take their chances, I can win or I can lose.
The options market for gold and silver do not work this way. The market in gold and silver is manipulated by a small group of the largest banks for huge profits. This is commonly know and has been the standard practice for decades. These corporations have established a monopoly on the market for gold and silver. The banks make profits in the hundreds of millions, sometimes in a single day, by selling options contracts and then forcing the price to their advantage. They operate the ETFs of gold and silver by generating paper contracts that are backed by very little of the actual metal. The actual amount of metal in reserve ranges from 10% to 20% of the contracts that have been issued, it is estimated that if only 5% of the contract holders asked for the physical delivery of gold or silver the ETFs would go bankrupt. None of the ETFs will allow redemption in the physical metal. Why would governments allow this to continue? Why hasn’t the American government, the British government or the German government stopped this practice? Because the governments are principle beneficiaries of the monopoly, the corporations operate with governments in the gold carry trade. Governments lease their gold reserves to the corporations who trade the gold and buy government bonds, making a guaranteed profit. A nice scam in which the only loser is the tax payer, to be fair this system does maintain fiat currencies and the American dollar as the world’s reserve currency.
Now the system is being challenged. The Chinese have created the Pan Asia Gold Exchange (PAGE), this is not a member of the monopoly and has no plans to join. PAGE backs every contract 100% with physical gold, and will soon add silver contracts. Contracts can be redeemed for physical gold at participating Chinese banks. PAGE is being expanded to a worldwide basis with a 90-day International Spot Contract, the PAGE’s gold (in 10 ounce bars) can be delivered to the customer with little effort. This is a serious threat to the unsecured contracts currently offered and will make manipulation of gold price difficult, I hope impossible. The easiest proof of manipulation is the complete disconnect between price and any form of supply and demand. With the introduction of PAGE the normal mechanisms of supply and demand should start to operate. A note of caution, this involves billions of dollars and can change the international monetary system. The current monopolies are threatened and will not just roll over. There are many scams and misinformation.
I do not know what the price of silver should be or will be. Given the increasing industrial demand for silver and the decreasing production of silver by mining companies a price of $200 per ounce is possible. Gold is much more difficult for me, as there is very little industrial demand, while gold production is mostly a by-product of other mining activities. Demand is set by the “Gold Bugs” who are looking for a safe hedge against fiat currencies. For gold there is too much human psychology for me. I’ll be keeping about 5% gold in the portfolio because I am just as crazy as everyone else.
Addendum: It has been pointed out that I do not provide links for additional reading. This is intentional; I do not wish to pick your reading material. Many blogs I read the authors cherry pick references that support their thesis, I find this useless as the links just repeat the blog. I hope that people will use the internet to complete their own research and reach their own conclusions. As an experiment I have added some links to help get you started without directing you to a foregone conclusion. I appreciate all feedback and comments.
Gold carry trade http://financial-dictionary.thefreedictionary.com/Gold+Carry+Trade