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Bang! Bang! Maxwell's Silver Hammer

May 06, 2011 7:47 PM ETSLV, GLD
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Contrarian, ETF investing, Long/Short Equity

Seeking Alpha Analyst Since 2010

Dr. Clemens Kownatzki has been an executive in the financial services industry for well over two decades. His experience ranges from management positions in brokerage and treasury operations to advising corporate as well as retail clients with a focus on managing their risk effectively. He has also been an active investor in options and derivatives markets. Having lived and worked in Europe, the Middle East, Asia and the U.S., his investments range from equity to international capital and currency markets.

In 2010, he joined Pepperdine University as an adjunct professor of finance teaching financial risk management and derivatives to graduate students. Dr. Kownatzki’s primary research interest focuses on the important question of how risk and market volatility affects investment returns.

As a passionate musician of many years, Dr. Kownatzki has a keen interest in supporting the arts and serving his community. He also authored the book Money Music 101: Essential Finance Skills for Musicians, Artists & Creative Entrepreneurs. His book was the foundation for a personal finance class at LA College of Music.

Dr. Kownatzki earned his PhD in Economics and Management from Claremont Graduate University. He also holds an MBA degree from the Graziadio Business School at Pepperdine University. He currently lives in California


    PhD, Claremont Graduate University, 2015.
    Major: Finance / Economics and Management
    Supporting Areas of Emphasis: Finance
    Dissertation Title: Examination of implied volatility as a proxy for financial risk

    MBA, Pepperdine Graziadio Business School, 2000.

The famous Beatles song came to mind as I reflected on this week's market movements. It was all about commodities in another episode of trader’s nausea but this time, led by some 30% price declines in silver. What lead to the massive selloff will be the topic of endless panel discussions in the days and weeks to come.  Take any one of the possible events below and you could have a good enough reason to produce significant price movements.  The combination of these events however, not necessarily in this order and magnitude of impact, was a perfect recipe for broader turmoil in the commodities markets.

• Bottoming of US Dollar?
• Bin Laden killed by U.S. forces?
• End of Quantitative Easing 2.0 in June?
• George Soros and other hedge funds exiting silver?
• Much  higher margin requirements for silver futures?
• Technical factors, profit taking after parabolic price rises?
• IPO of Glencore, the largest commodity trader - top of the market?

There may be several other factors you can include in this list.  For me, it was a much more benign event that led me to pull the trigger on silver the week before.  As I opened the Financial Times to start my daily morning briefing, a big glossy brochure popped out advertising silver as “the most indispensable and miraculous metal on Earth.” This was yet another one of those gold/silver “experts” who’s ads have been mushrooming in the media.  The brochure featured a shiny embossed replica of a One-Ounce U.S. Silver Eagle along with a quote by an unnamed “leading silver analyst” who called silver:  “The best financial asset you can own.”

Granted, your typical FT reader is usually not of the widow and orphan kind, but still... 

What timing to tout investors towards a none-the-less speculative investment only to see that investment lose 30% of its value in a week.  How much worse it must feel if an average investor, scared by these ads into buying precious metals, losing almost one third of the investment in 5 days.   While we cannot deny the fact that the US Dollar has lost much of its luster, we must question the inherent (investment) value of precious metals as well.  In particular, one should be wary of parabolic price increases as we discussed last week.  To get a different perspective on silver and to appreciate why some exchanges dramatically increased margin requirements in recent weeks, please consider the chart below showing the recent history of actual dollar values of gold and silver futures contracts.  For some of the big names in the trading community, the recent rise was too much, too fast, and so they pulled out. Very curious to find out if more investors will take the foot off the pedal next week…

Gold Silver Contract Values

Silver was the all the rave it seemed until last week. Technicians however, must have been somewhat concerned about the dramatic price changes which seemed to occur rather fast even for traders of volatility-laden commodities. In a span of just a few days, silver fell through several technical support levels.  On Thursday, it pierced through the closely watched 61.8% Fibonacci retracement area indicating a trend reversal rather than just a pause in the underlying short-term trend.


To get a better sense of the medium-term trend, please consider the weekly chart below.  The sudden rise and fall of silver is more obvious now in the context of the underlying trend channel.  Still bad news if you bought silver anywhere above $40 as it appears more likely that silver will return to the trend channel, possibly reaching an area closer to the $30 range.  Still, the silver bulls may take some comfort from the fact that the major underlying trend remains intact. This breakout may have just been a brief exaggeration in an otherwise upward trending major bull run.  Stay tuned to see how deep the rabbit hole goes. 


Disclosure: I am short SLV, USO.

Additional disclosure: Bought put options on SLV and USO

Seeking Alpha's Disclosure: Past performance is no guarantee of future results. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. Any views or opinions expressed above may not reflect those of Seeking Alpha as a whole. Seeking Alpha is not a licensed securities dealer, broker or US investment adviser or investment bank. Our analysts are third party authors that include both professional investors and individual investors who may not be licensed or certified by any institute or regulatory body.

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