SLV aftermath and preparing for risk-off

This week was unusually volatile for the precious metals space. In retrospect it seemed an obvious market trap for the Reddit investors as all the sites and stations were pumping the big SLV squeeze.

I hit the market first thing Monday morning and started with my plan from last week. I sold all of my gold miner shares and call options immediately. Working through multiple names on 3 accounts and quite a number of long calls, it took some time to get through. That was fine, as I wasn’t planning on buying SLV until 30 minutes into trading, to take advantage of the post-buying dip that I saw in AMC the week before.

Short dated option contracts were being purchased in large numbers, many of which were in the money, and that would surely squeeze SLV higher. I decided that in addition to buying SLV shares, I should try my hand at some short-dated calls using the money I made in AMC the prior week. This looked pretty good until silver went sharply lower on the Comex around 11am. I sold a bunch of my SLV shares back in the intra-day test above $27/share around 1:15 and then bought it back 5 minutes before closing as I expected the gamma squeeze to still retain some effect after hours.

That night, silver dumped again as margin requirements at the comex were increased 18% allowing some of the big players to dump future contracts. Tuesday morning, I sold all of my SLV off – call options, shares, everything. My account was down to unallocated cash and hedges (TLT calls, IWM puts & EEM puts).

On Wednesday, I bought a significant number of SLV shares back at $25 and immediately sold end-of-week $25.50 covered calls on them. SLV was trading at a discount to assets, and I figured the crunch was over but they’d likely make sure that all the calls above $25 expired worthless. Turns out I was right on that count.

I am still nervous about overall market liquidity and some of the manic price action, so I increased my TLT calls considerably all week – focusing on 12 to 24 months out. I’m still convinced that we see a significant market drop at some point, which will be associated with new lows in US 20-30 year bond yields. If you want to know more about why I like the TLT trade, look up Steven Van Metre on YouTube.

With all of that hedging, I need to make sure that I’m not crushed if things continue higher, so I looked for some easy trades I could be confident on. I purchased more CCJ, immediately selling covered calls that will give me a 5% gain in 2 weeks as long as it doesn’t tank (I’m still long-term bullish Cameco and Uranium). I was following the miners like crazy, and they all got crushed Monday/Tuesday then seemed to level out nicely. Friday morning I went back and bought a bunch of those again. February and March aren’t strong seasonally for gold, but the pricing was near some solid support – so I stuck with shares only for the most part, and significantly less than I had at the start of the week.

Many people like to complain about the obvious market manipulation in precious metals. It was very obvious what the big players were doing, dumping silver to temper the price and make sure that all those short-dated out-of-the-money calls expired worthless. Honestly, I don’t see the point of trying to moralize this, they aren’t going to change their behavior, I can only change mine. If you think about it though, it was quite a surgical strike. Long term investors in SLV saw the price return to the pre-hype levels of the prior week – and any shares purchased on Monday only really went down between 10-20%. If I bought SLV like crazy Monday morning and just sold covered calls on it, I would have made decent money given those premiums – and that is exactly what I plan to do if this happens again.

All in all, it was an eventful week. Here’s how my portfolio ended up:

  • PRECIOUS METALS
    • 8.3% Gold Miner Stocks, Large
    • 10.3% EQX (small gold miner stock)
    • 2.4% SAND Calls (small gold streamer)
    • 21.7% SLV
  • HEDGES
    • 16.9% TLT Calls
    • 8.4% IWM Puts
    • 2.2% EEM Puts
  • OTHER
    • 5.9% CCJ w/ covered calls sold
    • 23.9% Unallocated cash

I actually like the miners and SLV here as they seemed to hold up well given the Comex pressure this week. Also, if they had to increase the allowable margins to let the big players dump futures contracts then it tells me their ability or willingness to do that again is somewhat limited.

Regardless, my thesis stands that precious metals will dump in a major liquidity-driven drop like we saw last March, but they will rise significantly if that doesn’t happen. I think the potential drop for gold and silver will be much lower than for the high flying US stock market.

My portfolio is uncomfortably tilted to expect a risk-off scenario, and I plan to look for more simple layup trades like selling covered calls to gain a short-term 5% premium on stocks that I don’t expect to go down, like I have now with CCJ. I am feeling increasingly wary of a risk-off scenario, but I’m not willing to risk my capital on betting that the turn happens immediately. Simple trades with an assumed upside scenario will need to offset my portfolio decay if the market continues to move against my hedges.

I’ve heard too many stories of people calling the dot-com bubble early in 1998/99 or calling the mortgage crisis early in 2005/06. The big money is not made in the crashes anyway, but afterwards as our financially engineered system sends those assets soaring in value again.

Good luck and happy trading.

About johnonstocks

I've been trading stocks since 2003, active on Motley Fool's discussion boards and using first Hidden Gems, then Global Gains. I no longer have the newsletters, but I keep up on the WSJ and read David Rosenberg everyday at gluskinsheff.com. Education: CFA level 2 candidate MBA-focus in Finance, Marshall, University of Southern California - expected Dec 2010. BS Mechanical Engineering, UC San Diego, June 2002
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2 Responses to SLV aftermath and preparing for risk-off

  1. phusg says:

    Thanks again for your blog John. One bit I didn’t get was this:

    > Also, if they had to increase the allowable margins to let the big players dump futures contracts then it tells me their ability or willingness to do that again is somewhat limited.

    Why, if they did it once, doesn’t that make it *more* likely they’d do it again?

    • johnonstocks says:

      Theoretically, the bullion banks can increase futures contracts on gold and silver indefinitely. However, there are side effects that become more difficult to manage as the comex price differs more and more from the spot price.
      You would have more and more big players that would purchase these contracts and demand physical delivery, including foreign central banks. This would force them to stop deliveries and settle in dollars on more and more contracts and discredit the system.
      Competitors to the Comex exist, and countries like China would probably like to host the center of trade for bullion, among other things.
      In other words, there are soft limits to how much the bullion banks can manipulate the price and the overall trend of the physical market. I don’t think it is in their interest to press too far for too long, they just like to make sure that major settlement dates have the price swing their way.

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