July 27, 2004 – How does the gold cartel pick pockets? One way works like this.
There is a huge pool of capital – running well into the tens of billions – that trades the commodity markets. When leveraged, this capital can have the impact of hundreds of billions of dollars.
Much of this capital is traded according to proprietary ‘black-box’ trading models (often based on mathematical formulas) that seek to measure trends in the various markets, and then take positions either short or long in accordance with the trend (i.e., buying the commodity when its trend is rising and selling short the commodity when its trend is falling). The underlying mathematics of these models varies widely, but they all come back to one general and basic common denominator – is the trend rising or falling.
These models make no distinction about the type of commodity being traded. Nor do they care about fundamentals. So gold is traded just like any of the other commodity markets on one basic factor – is gold’s trend rising or falling.
Over time, smart floor traders and market observers can ‘reverse engineer’ some of these ‘black-box’ models. By observing when they enter and exit from positions, one can begin to anticipate their trading pattern.
As a rule of thumb, the ‘black-box’ trading models start covering shorts and go long when the commodity crosses above its 21-day moving average. Conversely, they start exiting longs and go short when the commodity falls below its 21-day moving average. This of course is just a sweeping generalization and each model has different filters and refinements, but this basic description provides an accurate assessment of how these trading models work.
When the trend is protracted, i.e., the commodity stays above or below its 21-day moving average for a long time, these ‘black-box’ trading models make a lot of money. But in the short term, when the commodity crosses above and then falls back below the average (or vice versa), then the ‘black-box’ models get whipsawed, and take a small loss. It is this set of circumstances that the gold cartel seeks to exploit to its own advantage.
The gold cartel sells into the buying by ‘black-box’ trend following trading models, like they did recently in the gold market episode that was explained while it was happening by the ‘cafÃ©’ writers. The buying by the ‘black-box’ models and the huge volume of selling by the cartel caused the Comex open interest to surge, without much upside movement in the price.
Then as John Brimelow cogently observed in his July 20th article, some enterprising shorts joined the side of the cartel, at first “wearying” the ‘black-box’ longs and then in time kicking them out of their positions as the price fell. The ‘black-box’ models were reversing their positions from long to short all the way on the move down from $405, and the momentum to rush for the exits was particularly strong when gold started trading below $398, its 21-day moving average.
I think these reversals reached a peak on Friday, but there may be some more liquidation in the week ahead. After all, it is option expiry week, and I have noted this particular type of end-of-month market manipulation before.
The gold cartel sells many of the calls traded on the Comex and over the counter market. If the gold price drops below the call price on expiry date, the gold cartel takes in as profit the entire premium that it received when it sold the call. Thus, gold will in all likelihood stay below $400 this upcoming week.
But to maximize the cartel’s profit, the cartel may also attempt to manage the gold price so that it stays below $390 this week so those calls expire worthless as well. In fact, we may see real downside pressure on Tuesday and Wednesday so that gold is even below $380 on option expiry, so that the $380 calls expire worthless as well. And yet again, the longs will get their pockets picked by the gold cartel.
Also, the low month-end price makes the marked-to-market value of the cartel’s trading positions (particularly their derivative positions) look as good as possible in their publicly reported balance sheets. So in the near-term, don’t expect gold to bounce back up until next week and the beginning of the new calendar month.
It’s an outrageous set of circumstances, but few people truly understand the depth of this market manipulation by the gold cartel. Consequently, there is little outcry, Le Metropole Cafe of course being the notable exception.
But don’t be disheartened by this ongoing manipulation by the gold cartel. They will in time have their head handed to them when gold soars over $500 because no market can be manipulated forever. And the gold cartel is operating on borrowed time.