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What Precious Metal ETF Traders Don't Get.

|Includes: ProShares Ultra Silver ETF (AGQ), GLD, SLV


Since the bloodbath in mid-April, there has been numerous articles outlying doom and gloom in gold and silver. I'm taking a different approach with this article as to why owning physical gold and silver is the way to go. First off I want to say that I hold physical precious metals as wealth insurance and that I don't believe anyone should be 100% in metals, physical or paper.

People lately have been using the argument that the reason gold and silver took a major hit was because inflation never came. They also say that Uncle Ben's QE program has done no damage to the value of the dollar. Well to this point they're correct on QE and maybe on the idea that the masses sold because the CPI is not jumping through the roof.

First let me tackle the selloff that happened in April. When we take a look at the selloff you could easily take the stance that this was an organized take down by some large investors. These large investors could easily have been our now infamous "too big to fail" institutions. What is widely known is that JPMorgan inherited a giant short silver position from Bear Stearns and it may be the case that they have not been able to unwind the short silver position due to precious metals rapid rise over the past couple of years. Think back to 2011 when silver seemed to be heading to $50 and higher. All the sudden it retreated, but why? A simple and logical explanation is that it flew too high too fast. However the main cause was rule changes, margin requirements changed and once a small pullback happened the dominos fell. So who benefited from this? Easy, the short sellers and especially large shorts like JPMorgan. So the drop in April may have been JPMorgan's final attempt to eradicate its short silver position.

Now why hasn't QE caused inflation? We'll simply put, printing money and increasing the money supply alone does not cause inflation, let alone hyperinflation. Inflation needs two things to occur. The first is printing money and the second it the velocity of money. The velocity of money is simply the average frequency with which a dollar is spent on new goods and services in a specific period of time. Right now banks and corporations are sitting on mountains of cash wait on the right opportunity to invest that capital and once they do and the dam breaks the velocity of money will become a runaway train going down a mountain. Now can the fed prevent this from happening? Well I think they could have two years ago by contracting the money supply but that would've immediately damaged our fragile economy. Now at this point in the game I believe they simply have gone too far with QE and there is no turning back. Will hyperinflation happen? I don't know because I don't have a crystal ball but I do believe that at a minimum high inflation will smack the average consumer in the face.

Our last saving grace is that the U.S. dollar is the world's reserve currency and it's the petro currency but that too is coming apart at the seams. As of right now the standard practice is global trade between two nations is done by taking currency X and converting it to dollars then the other country takes the dollars and coverts them to currency Y. With increasing frequency we are seeing countries bypassing the dollar and doing business directly. China seems to be the lead dog with this new trade system and as each day passes the less significant the U.S. dollar becomes. Combining this with velocity of money can bring hard times on Americans and this is why we need the wealth insurance that has been around for thousands of years. Gold and Silver!

One last thought for the day. The price of a gallon of gas in 1964 was between $0.25 and $0.30. Now it's between $3.50 and $4.00 per gallon of gas. A pre 1965 quarter is made of 90% silver and has a melt value of about $4.00. Think about that for a while. Holding physical precious metals can preserve your some of you wealth if we go through hard times, which it looks like we're heading in that direction. I personally hold about 20% of my net value in physical gold and silver and the rest I invest in the market but not PM ETFs as they are manipulated and don't reflect the true value of gold and silver. I believe that we are rapidly heading towards a decoupling of paper and physical but that's another topic for another day.

Good luck in whatever path you take!