Silver… light at the end of the tunnel?

By David Franklin ([email protected]) and David Baker ([email protected])

Silver’s year-to-date performance has been the worst among all commodities, falling 35% from January to June 30th this year. It’s been a rough ride for those who have held on, but recent news should give silver investors a reason for some renewed optimism.

The news relates to recent filings that have revealed a dramatic change in the positioning in the silver futures market and ownership of the iShares Silver Trust (SLV).

In the COMEX futures exchange, the “Commercials” category of traders, made up of large banks, has traditionally held significantly large “short” positions – which means that the banks are either hedging an existing silver position or betting that silver will depreciate. The recent COMEX disclosures have revealed a staggering drop in the “Commercials” outstanding short positions, however – representing a decrease from 259 million ounces in February 2013 to 20 million ounces as of the last Commitment of Traders (“COT”) report released June 25th.1  This represents a significant change in the positioning of the silver futures market, and also suggests that previously ‘short’ participants have exited the “short silver” trade altogether. This drop actually represents the cumulative purchase of approximately 240 million ounces of ‘long’ silver contracts to cover the previously mentioned short positions, so despite silver’s price decline, the silver futures market has actually seen an abundance of buying.

Unfortunately, the COT and Bank Participation Reports don’t name the largest holders of futures contracts, but it has been alleged that one of the largest commercial ‘short’ contract holders is JP Morgan. JP Morgan has long been questioned by silver investors who suspect that the bank may be manipulating the price of silver for its own benefit. This speculation has also been fueled by the fact that JP Morgan acts as the physical custodian for the largest silver ETF, the iShares Silver Trust (SLV), which has just over $6 billion in underlying assets.

The culmination of these suspicions resulted in a nationwide investors’ lawsuit that was launched against the bank back in 2011. In that suit the plaintiffs alleged that JPMorgan held “significantly more net short COMEX silver positions than the next three largest traders on COMEX combined.” The Plaintiffs also asserted that, based on their analysis of CFTC Bank Participation Reports and a CFTC “Commitment of Traders” Report, “from August 5, 2008 forward, JPMorgan held approximately 20-30% of the total short open interest in all COMEX contracts.”2  The suit was recently dismissed this past March, however, when plaintiffs could not prove that the bank “intended to cause artificial prices to exist”.3

Interestingly, in addition to the drop in ‘Commercial’ short positions (which may or may not involve JP Morgan), recent filings have also revealed that JP Morgan has dramatically increased its ownership in the SLV ETF, for which it acts as physical custodian. The bank has purchased close to 5 million units of the ETF over Q1 2013, representing an increase of 500% as reported in regulatory filings submitted April 25, 2013.4

The most common interpretation of this shift is that the large bank (presumably, but not directly confirmed as JP Morgan) has closed out its silver short positions (at a nice profit, no doubt), and is now positioning itself for a bullish silver reversal. This is certainly what the bank appears to be doing in the futures market, although its participation through “paper” products based on silver’s spot price, rather than on the underlying metal itself, makes it difficult to know for sure. JP Morgan’s role as SLV custodian may also be involved in the recent changes, as the SLV has, surprisingly, not seen much in the way of net outflows over the past six months, despite silver’s lackluster performance over the same period. Contrast this to the GLD gold ETF that has lost close to 23% of its underlying gold holdings since the beginning of the year.

Also noteworthy is the fact that the latest COT report for gold, as reported by Bloomberg, shows that the ‘Commercials’ have reduced their net short gold position to 35,200 contracts. The ‘Commercials’ haven’t carried this low a net short position in Comex gold futures for more than 10 years. Could it be that the banks most active in shorting precious metals are preparing for gold and silver to start moving in the opposite direction?

With silver ETFs holding strong and large commercial buyers repositioning their books to the long-side, we could be witnessing a reversal in investment demand and, in turn, a potential bottom in silver prices. We will have to wait and see how the silver price responds to these changes in positioning.

1 According to data compiled by Bloomberg
3 JPMorgan wins dismissal of silver price-fixing lawsuit.