Gold & Silver: It’s one thing to say a move is speculatively driven; it’s another to prove it with data. Large speculators in gold set a new, net long record of more than 300,000 contracts in the last week of June as well as a new total position record of 680,000 contracts. More interestingly, the commercial traders, in this case the gold miners, didn’t set a new corresponding net short record position until after the Brexit vote when gold jumped back above $1,350 per ounce. 

There is clearly a difference of opinion between the miners who are behaving as if these prices are transitory versus large speculators whose actions reflect an inflationary outlook that supports structurally higher prices. These situations typically resolve themselves in the direction of the commercial traders’ collective forecast. We’ll side with the gold miners and the short side of the trade at these prices as we expect a return towards the long-term support of $1,190 to $1,215.

We also see the same pattern playing out in silver where the commercial traders are now the most short they’ve been in more than 10 years. This corresponds to a net long speculative position that is the largest it has been since December of 2005. One caveat, silver rallied another 50% in 2005 before collapsing in May and June of 2006. These imbalances can take time to work out and no method should be traded without appropriate risk controls.

Soybeans: The argument between commercial traders and the speculators is very similar here except we have five-year, instead of all-time disparities. What this example loses in mass, it makes up for in speed. As recently as mid-March, the commercial traders and speculators stood near parity. South American and domestic supply threats quickly ramped up as speculators called for beans in the teens. Once the damage had been adjusted for, domestic soybean producers have come in to sell all they can contract for above $11 per bushel. The domestic grain markets are fairly well controlled by the laws of supply and demand. Barring a freak weather event, the commercial traders’ total position size dwarfs the speculators. This strengthens the calculation that crop prices are heading lower.

The setups in the gold and soybean markets are very similar with one major exception. Speculator behavior can lead to herd mentality. A herd of speculators can run right through the commercial traders’ value-based approach to trading. Commercial traders only trade to meet their business plans. Once their needs are filled, the market can do what it wants. However, resistance grows up until that point, as the fundamental profits of the industry are fully sated. It’s easier to attract new speculators through momentum models than it is to build more factories, dig more mines or plow more fields. This is why we track the total position ratio. The total position ratios of the gold and soybean markets are completely different. Commercial traders in beans hold 2.3 contracts for every speculative contract while in gold it’s only 1.3. This is because gold is much more likely to catch a manic speculative bid.

Watch closely. This is a front row seat for a major brawl.