Time to sell the silver market!
It’s the mantra of traders the world over who want to buy into a strong bull market: “Wait for a pullback.” Newsletters wishing to follow the trend but avoid improper timing favor the tried and true “Buy the breaks.”Note to all those who were patiently awaiting a break in Silver: It’s here. The market has officially “broke.” Does anybody still want to buy? This is the problem with buying the breaks. Those waiting for a pullback to buy often have second thoughts by the time the pullback comes. For a pullback brings with it a whole new set of questions: How long will the correction last? Is the trend reversing?
This is part of what makes futures trading so tough. It’s also one of the primary reasons we recommend option selling as a base strategy for trading these markets. Granted, option selling involves risk just like any other strategy. But by selling options, one can often avoid being stopped out by the short term swings that give futures traders heartburn.
The magnitude of the recent break is enough to give almost any futures trader pause. Selling puts far beneath the current market, however, could be a good way for more cautious traders to take advantage of the silver correction while placing his position at a comfortable distance from any additional turbulence.
There is no way of telling if silver is finished moving down or gearing up for the next leg higher. What is certain is that volatility is extremely high and any investors interested in option selling should be sitting up and taking notice. This type of volatility often creates exceptional opportunities for selling premium far above and/or below the market.
Despite the recent pullback, our bias to silver remains bullish. The same fundamental factors that have driven the bull trend in silver are still in place and look to be for the foreseeable future. Granted, the buying got ahead of itself last week. But that is no reason to believe the trend in silver will shift lower over the longer term.
Total supply of silver is expected to rise to 814 million ounces in 2006, up from 790 million ounces last year. However, overall demand is expected to rise as well, which could negate gains on the supply side.
Silver has benefited in that it can be utilized as both an industrial metal, like copper, and a precious metal, like gold. Therefore, as copper prices have spiked due to unprecedented demand from growth in the Pacific Rim, so have prices of silver. The rally in silver and copper does have a fundamental base, and that base is actual physical buying from new consumers in China and India. But gold prices have also spiked, albeit for somewhat different reasons. As several global geo-political situations worsen (Iraq, Iran, Inflation, Oil Prices), investors have instituted a “flight to quality” approach and are investing heavily in gold. As silver doubles as a financial metal, it has benefited from this buying as well. The recent interest in precious metals, silver in particular, is underscored by Barclay’s recent filing to launch a silver exchange traded fund (ETF) in the US. This is expected to take a large chunk of silver off the market which would reduce supply of the metal even further. Barclay’s indicates that it has already deposited 1.5 million ounces of silver to secure the fund.
The specter of supply disruption looms as well. The recent spike in silver prices opens the possibility of labor disruptions at mining companies. This type of scenario is currently playing out in the copper industry and it is not a stretch to foresee the same thing happening soon in silver. Increased profits at mining companies can bring disputes between labor and management as to how and if those profits should “trickle down” to employees.
The fact that the volatility in the silver market has been extreme over the last few weeks may be intimidating to futures traders but should be a boon to option sellers. Before last week’s sharp correction, the net speculator long position in silver was at 97,635 contracts, an all time record. With this many speculators long the market, things are bound to get volatile. When COMEX announced it would raise margins for gold and silver contracts last week, many small speculators decided it was a good time to take profits. The selling fed on itself producing the sharp pullback.
The market has since recovered some of those losses and where it goes from here is uncertain. What the selling did, however, was eliminate some of the “weak” longs in silver which could put the market on more solid footing moving forward.
We do not recommend trying to guess where or how far this market will move. What we do recommend is trading this market based on where it should not move. That means selecting price levels far beneath the market and selling puts at those levels.
What we have is a still solid uptrend in a market with very positive fundamentals. While silver prices promise to be volatile, it is our opinion that prices reversing trend and beginning a sustained downtrend are minimal for the foreseeable future.
Author GR.....
posted by Gold Futures @ 3:49 AM
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