Friday, July 26, 2013
Monitoring some Gold Spreads
Sometimes a picture can be worth a thousand words so perhaps this graph of the spread between the delivery month August 2013 Gold and the most active December 2013 gold will help illustrate a point that I have been attempting to make in regards to the idea of backwardation in the gold market.
The spread is obtained by taking the price of the August gold contract and subtracting the price of the December gold contract from it. If the August is gaining on the December, the line on the graph will rise, as it is indeed doing.
I wish to note that I have stated several times in previous posts that the spreads in gold have indeed been tightening. That is worth monitoring; however, the market has not moved into a backwardation structure.
Now that August is entering its delivery period, we will get the chance to see if buyers of gold, who are using the Comex to source it, will indeed be willing to pay enough for it to take its price above that of the rest of the field.
Some have asked me in private emails why a market is generally in contango (the nearby months trade below the distant months in price). The reason is that the commodity in question, in this case gold, has to be stored. It also, in nearly all cases that I am aware of, must be insured against loss. Those are costs that are added into the price. Obviously the longer one has to pay storage costs each and every month, and the longer one has to insure it, the more the monthly premiums add up.
Those prices are added in by the futures market as it attempts to move the price structure of the board to line up with the current supply/demand dynamic that traders are working with.
As commodity markets are constantly in a state of flux, these spreads will change according to the changing views of players.
Generally speaking, and again this is a general tendency, markets that are in uptrends will display a tightening of the front month spreads. Gold is an unusual animal in the sense that it is not like cattle or corn or beans, etc, which are eaten and consumed, or copper which is used in electrical wiring, etc. Yes, there are industrial applications for gold which consume it in the sense of taking it out of bullion form , as well as jewelry demand, but for the most part, gold simply changes hands from one entity/person to another and is then stored elsewhere. In the case of jewelry, the gold is still there. It is merely in a different form.
I should note here that even as gold was imploding in price, these spreads were in the processing of tightening which is quite different than that which we can usually expect across most other commodity markets. More precisely, the spreads gave no indication whatsoever of the massive barrage of hedge fund selling and long liquidation which saw the price of gold collapse nearly $400 this year at one point.
I personally do not trade the gold spreads because they are more often than not, about as exciting as watching paint drying and quite frankly there are times that I do not understand what the heck that they are doing.
Here is another spread chart - this time it is the October Gold contract vs the December gold contract. Here too the spread is tightening but has not yet seen the October trading at a premium to the December
We'll continue to keep an eye on all this especially as August deliveries begin to occur. Remember however, spreads or no spreads, tightening or no tightening - the final arbiter is the ACTUAL PRICE ACTION on the board. Strong demand led bull markets consistently breach overhead chart resistance levels. When all is said and done, price alone matters because that is the collective vote of all market participants as to what the VALUE of anything is at any given moment. The market always has the last say!
By the way, as I am finishing up typing these comments, I see that Crude oil is breaking down more sharply once again. There were some analysts who were suggesting gold was gaining strength because of rising crude oil and unleaded gasoline prices which were incipient signs of inflation pressures building in the economy. As previously stated however, energy is just one shoe of the inflation boogey man; the other is food costs and those are sinking....
Either way, with crude moving sharply lower today and breaking downside chart support, with grain prices moving lower, today, at least for this day, wholesale food and energy prices are moving lower and that takes the inflation factor away from the minds of traders, again, at least for today.
The spread is obtained by taking the price of the August gold contract and subtracting the price of the December gold contract from it. If the August is gaining on the December, the line on the graph will rise, as it is indeed doing.
I wish to note that I have stated several times in previous posts that the spreads in gold have indeed been tightening. That is worth monitoring; however, the market has not moved into a backwardation structure.
Now that August is entering its delivery period, we will get the chance to see if buyers of gold, who are using the Comex to source it, will indeed be willing to pay enough for it to take its price above that of the rest of the field.
Some have asked me in private emails why a market is generally in contango (the nearby months trade below the distant months in price). The reason is that the commodity in question, in this case gold, has to be stored. It also, in nearly all cases that I am aware of, must be insured against loss. Those are costs that are added into the price. Obviously the longer one has to pay storage costs each and every month, and the longer one has to insure it, the more the monthly premiums add up.
Those prices are added in by the futures market as it attempts to move the price structure of the board to line up with the current supply/demand dynamic that traders are working with.
As commodity markets are constantly in a state of flux, these spreads will change according to the changing views of players.
Generally speaking, and again this is a general tendency, markets that are in uptrends will display a tightening of the front month spreads. Gold is an unusual animal in the sense that it is not like cattle or corn or beans, etc, which are eaten and consumed, or copper which is used in electrical wiring, etc. Yes, there are industrial applications for gold which consume it in the sense of taking it out of bullion form , as well as jewelry demand, but for the most part, gold simply changes hands from one entity/person to another and is then stored elsewhere. In the case of jewelry, the gold is still there. It is merely in a different form.
I should note here that even as gold was imploding in price, these spreads were in the processing of tightening which is quite different than that which we can usually expect across most other commodity markets. More precisely, the spreads gave no indication whatsoever of the massive barrage of hedge fund selling and long liquidation which saw the price of gold collapse nearly $400 this year at one point.
I personally do not trade the gold spreads because they are more often than not, about as exciting as watching paint drying and quite frankly there are times that I do not understand what the heck that they are doing.
Here is another spread chart - this time it is the October Gold contract vs the December gold contract. Here too the spread is tightening but has not yet seen the October trading at a premium to the December
We'll continue to keep an eye on all this especially as August deliveries begin to occur. Remember however, spreads or no spreads, tightening or no tightening - the final arbiter is the ACTUAL PRICE ACTION on the board. Strong demand led bull markets consistently breach overhead chart resistance levels. When all is said and done, price alone matters because that is the collective vote of all market participants as to what the VALUE of anything is at any given moment. The market always has the last say!
By the way, as I am finishing up typing these comments, I see that Crude oil is breaking down more sharply once again. There were some analysts who were suggesting gold was gaining strength because of rising crude oil and unleaded gasoline prices which were incipient signs of inflation pressures building in the economy. As previously stated however, energy is just one shoe of the inflation boogey man; the other is food costs and those are sinking....
Either way, with crude moving sharply lower today and breaking downside chart support, with grain prices moving lower, today, at least for this day, wholesale food and energy prices are moving lower and that takes the inflation factor away from the minds of traders, again, at least for today.
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