THE SCARY PART OF THE GOLD PRICE CURVE
by J. Kent Willis
AGAPI Financial, LLC
December 16, 2004
In these volatile gold price days, you need to learn to think like a trader, even if you are a small-time physical gold buyer holding on until the financial world implodes. I didn’t say “become” a trader. Learning how big traders think and play the game will at least help you make sense of the things beyond your control. Many gold speculators are either perma-bulls, perma-bears, cynics, bingers, purgers, dreamers, blasphemers, market shorts or market longs. A good trader is the right mix of all of these things; he never squawks about the price action on a single day basis.
In a long term up-trend with a tight day-to-day trading range, a good trader can and DOES take profit along the way. Such is an ideal market for a TRADER. Traders like an ESTABLISHED TREND with channels that are wide enough to make a decent profit but limited in surprises as reflected in the volatility. If the channel is too narrow, his transaction costs (if he intelligently hedges his upside/downside risks) are an appreciable percentage of the maximum profit he can squeeze out of the market. He can make more money if he flies without a parachute by not hedging, but a smart trader always packs his own before takeoff. In fact, total costs can exceed his maximum potential profit; who wants to play with that mess? A smart trader is scared of excess volatility. So he respects it. Unfortunately, we are approaching the scary part of the gold price curve where more and more amateurs (and even some less savvy pros) will be destroyed before they get properly scared. Most of the techniques that many currently trust in will be their undoing. One thing I have noticed in the past two or three years is the increase in amateurs who think they have graduated to the professional ranks after only one semester in the “real world”. I see these “players” all the time as I anonymously skulk the financial and gold bug chat rooms and news groups.
Most of us have seen all the discussion regarding bias and conflict of interest with regards to investment advisors and stockbrokerage recommendations. Clearly problems occurred in the past with the “always buy, never sell” recommendations. They never met a stock they didn’t like. “This stock is a GREAT buy at 20 bucks because it used to be 40 bucks!” Or, “this puppy is up 100%, don’t miss out, she’s got plenty of room to go up from here…think of all the money you lost not buying her a while back…” Of course we are too smart for that nonsense. We’ve been around. Only fools would be duped by such biased nonsense. Let’s see, to be a pro, and snatch all of that cash from the turkeys in line for plucking, all we have to do is:
Buy a subscription to the Wall Street Journal
For good measure, throw in a subscription to Investors Business Daily
Get a couple of guru newsletters
Pick up one or two books on stock trading at the library or bookstore
Turn on CNN and plop the TV right on the desk alongside the computer
Bookmark all those gold, silver, trading, and financial news websites
Ignore everything written by the web dudes we either don’t like or disagree with
Send off two box tops and $29 for one of those slick little TRADING secrets CD’s with real time data analysis and customized, versatile, buy & sell signal generators.
Now, piece by piece we acquire our battle tools, tucking them away one at a time in the small room across the hall from the bathroom. Now, with everything collected, we sneak down the hallway. Our eyes dart left, then right to see if anyone is watching. We quietly slip through the opening undetected by mere mortals. A brilliant blue-white flash of light is seen from the crack beneath the door. A New York minute later a towering figure appears in a burst of smoke and thunder. As the smoke clears we see an impressive figure with a brilliant red “T” emblazoned upon his chest. A trumpet blares deafeningly...TOOT TO DO TOOT TA TA TA DAHHHH. Look, it’s a bird-brain, it’s a plain-vanilla speculator…No, wait, it’s “TRADING MAN”! He loses his money faster than a speeding bullet, more hard-headed than a locomotive, and able to leap over tall obstacles with a single mouse-click….
Profitable trading has never been easy; along the scary part of the gold price curve it will only grow much more difficult. Here is simple question with an even simpler answer: Why do you think that many trading houses offer free software and how-to guides? After so much flak and negative publicity, increased regulation and scrutiny, not to mention tight trading ranges and long-time-sideways-market malaise, trading fee generated revenue has declined considerably. Volumes are up a bit now with the post-Bush bounce (higher than I expected) but doomed. If I give you a free guide, lovely little examples of how much you “could have made” using these techniques, and software that helps you make real time buy & sell decisions (along with opening a trading account, of course), several things will happen: The financial industry will get less flak and negative publicity about biased research and recommendations that have conflict of interest written all over them. I just gave you free tools incorporating standard TA principles and techniques that are in all the textbooks. No charge. No recommendation. The trader uses these tools to study whatever little market that tickles his fancy. We didn’t tell him what to buy. He told himself. IF YOU THINK YOU ARE SMARTER THAN YOU REALLY ARE, YOU WILL TRADE MORE THAN YOU SHOULD AND YOU WILL LOSE MORE THAN YOU SHOULD. THE TRADING HOUSE WILL RESTORE A SIGNIFICANT PORTION OF THE LOST REVENUE.
A smart trader always sells a good portion, often all of his position, into price strength so he won’t force the market lower by dumping his position. This is of no concern for a small-fry because he can’t do much damage. Except maybe in some of the ultra small cap gold junior/explorers where a single buy/sell trade of any meaningful size will significantly goose or kill the price. It’s OK that he doesn’t hold for the long term like many smaller mom and pop “retail” investors who should do just that. He will ride the upward price slope and sell at a profit even only a few days or weeks after he enters. He couldn’t care less what gold will do next year; he cares if he makes money this week or this month after subtracting the entry fees required to intelligently support his position in light of the existing risks. He will POCKET his profit if he isn’t greedy rather than fade it into the next trade. MANY PROFESSIONAL TRADERS ALL OVER THE WORLD WHO ARE NOT PART OF ANY COLLECTIVE SUPRESSION SCHEME ARE DOING THIS WITH GOLD RIGHT NOW. The net effect of many good size wallets playing the same game does change the dynamics, often adversely for the small investor who is long bullion and can’t wait until all the nefarious “manipulators” get their comeuppance.
A smart trader will then redeploy his working capital again only when the time is right. He might be back in tomorrow; it may be weeks or months. They don’t get up and go to work in 8-10 hour slices like ordinary working stiffs thinking: “I gotta make some money today”. The amateur pattern, day and “prop” traders think they have to click “buy” in the morning and click “sell in the evening” everyday. You DON’T. The fact that there is good physical buying from “true believers’ is a blessing; it always sets the floor and minimizes the downside. You guys step in on price dips (and you should) and guarantee he won’t get in too much trouble on the downside. You “only go long” guys subsidize your enemies.
A smart trader will study carefully his next market entry point and his target of choice, be it gold stocks, actual delivered bullion, or by selling/writing or buying call/put options, etc. Smart traders use the income from the silly, soon-to-expire-worthless options they sold to YOU in order to cover the cost of hedging their bets. YOU pay for their parachute. Again, in the scary part of the gold price curve, this will get geometrically more dangerous. He may hedge his gold position with a leveraged proportion play in the FOREX market either short/long US dollars. The almost perfect inverse correlation between gold and the US dollar makes it ideal for using it as a hedge; it’s a trader’s dream. The “experts” who think that gold is just a commodity that rises or falls with the post-monsoon third world harvest should pay attention here: THIS ALMOST PERFECT INVERSE CORRELATION CAN ONLY EXIST IF GOLD IS A CURRENCY AND NOT MERELY A COMMODITY.
Right now, and for the past few months, some BIG players who love the all you can eat smorgasbord of casino playthings we call the financial markets are losing their interest in playing the straight FOREX markets. These boys gobble up “goodies” in 10 million dollar chunks the same way you buy 10 more shares of Newmont. They have entered the COMEX sandbox. The COMEX gold market was almost always settled for dollars and not metal at expiration or exercise option. Many of the big boys who formerly settled in cash as winners on their side of the long bet are standing for delivery at the contract buy price. They don’t necessarily have to take the metal off the floor. It can stay in COMEX vaults and be “theirs” after payment. They don’t care about the “traditional” nature of the candy store they are in; they are using the COMEX to buy metal and take possession. It is a simple way to buy huge chunks of gold at essentially single price points without chasing the price higher. The whole pile has to be delivered to the winning (buying) longs at the single contract price agreed upon weeks or months earlier. Most of the physical purchase action used to occur on the LME. Not anymore. Do not underestimate the significance of this, which is good for those long gold and intelligently selected gold shares. Too much of this buying without “offsetting” paper shorts (which will eventually become ineffective for price suppression) will literally cause this market to IMPLODE. The COMEX will have to exploit all of the “force majeure” loopholes in their bylaws and contracts with rule and margin changes; maybe even halt or shut down this paper market. I assure you that this is very likely if standing for delivery increases and continues. When the dollar was worth something, taking cash dollars out at COMEX contract settlement was convenient, simple, routine and standard procedure. With US dollars becoming “more worthless” at the present, demanding and taking real gold at the agreed price is becoming the routine for some players. It simply CAN NOT continue for very long along the scary part of the gold price curve.
Along the scary part of the gold price curve you really only need a few things. What you can get, largely for free, is the wisdom of a few great warriors who have many gold and silver medals pinned to their bare chests. You know who they are: Sinclair, Russell, McKenzie, Norcini, Puplava, Wallenwein, Bond, etc. Individually they have their disagreements, but digested together they are an encyclopedia of market WISDOM. But the one thing you can’t buy is the most important: THE HEART OF A WARRIOR. Those who run for the hills every time gold takes a dip have no such heart. The finest suit of armor is worthless with Don Knotts inside. Decide what you believe about the future of gold, and put your money where your head, heart and mouth are. If you believe the curve is turning down and her run is done, short the stink out of it. Be a man and step up to the plate. If you believe the curve is turning up, buy real gold bullion coins, hold them safely in your own possession and wait. Either way, only warriors die bravely in battle and are spoken of fondly by their descendants. The rest die of boring old age, far from the battle and are forgotten before they turn cold in the boxcar of the long dirt nap. The cheapest thing you can buy is a full-length mirror. Take a peek. Do you think you run with the big dogs, or are you still eating puppy chow? To trade the scary part of the gold curve you need ice water in your veins, an absolute conviction in your analysis regarding future market behavior and self-discipline that would shame a Ninja master.
