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Investing in precious metals is tricky

 

IT TAKES two to tango but a bunch of ill-informed commodity analysts to create hype around contango. Investors in precious metals must avoid the drove of commodities analysts as there are few signs of intelligent-life.


   Despite the tall claim that India is no longer a price taker for gold but a price setter, the claim does not cut much ice. We are all clueless of the happenings in the international market. Price and investment hype have come at a time when internationally one large market maker is sitting with the largest concentrated-position in the gold market in history ('short'), while the other large entity is sitting with the largest concentrated-position in the history of the silver market (also 'short').

 


   They are investing in commodity which has become genuinely 'scarce', due to the manipulation of the market. The explanation of "hedging" by gold and silver mining concerns is even more amusing. Miners sell forward their future output, essentially selling naked, sometimes going out as many as several years. Then they cover part of their short position through purchases of call options. One can hedge physical gold, but can one hedge gold locked up in ore deposits!


   In an Indian scenario a buy-and-hold strategy has become the profit-making proposition for many. The gold market has always been a contango market. This means that the gold spread has always reflected the carrying charge, the opportunity cost of carrying gold, most of which is foregone interest. The reason a large contango is rare is because it's too easy to profit from it.


   In the technical jargon of the futures markets, the basis is the spread between the nearest futures price and the cash price in the same location, but a strange phenomenon has manifested itself. Rather than remaining constant, the basis as a percentage of the rate of interest has been vanishing and now has dropped to zero. Has anyone checked the Indian "basis"? What about physical delivery still a chimera or is it quality certification issue which ensures that this remains a chimera.


   Growing numbers of investors are being drawn towards this market of buying precious metals. With festival and marriage season about to start. Gold, gold, gold...everyone may say...let us collect gold by which we shall remain wealthy... The banks, exchanges, analysts, brokers, mutual funds are misguiding people who seek to protect their wealth.


Gold is a cleverly designed trap. This trap has caught the middle class, upper-middle class, and upper class, totally off guard. Hundreds of thousands of hard-working people will invest their savings in gold, believing that the risk is nonexistent, and that their wealth is protected against severe market fluctuations and hyper-inflation.


Gold had lost nearly eight seven percent of its investment purchasing power between 1980 and 2000. That was during the best period for growing businesses in the twentieth century. It is often said "Buy facts and sell fiction" but how does one distinguish which is the fact and what is the fiction at a time when analysts are manipulated and there are hardly any facts apart from the rumors. And what if the entire gold futures turn towards "backwardation"? Will that be a fact or fiction?

 


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