The Moral Failures of the Paper Longs
Silver Stock Report
by Jason Hommel, Jan 22, 2003
Based on my readings of GATA's work (www.lemetropolecafe.com), my readings of Ted Butler's work (www.butlerresearch.com), and a little application of common sense, I see clearly that the gold and silver futures markets are manipulated and controlled by the endless creation and selling of futures contracts. It is clear to me that the futures contract creators and sellers are the deceivers. It logically follows then, that the paper longs are the primary ones being deceived. I believe it is a moral failure to be deceived. We are not to be deceived. What do people say? "Fool me once, shame on you. Fool me twice, shame on me." Shame on the paper longs for being deceived!
True, the manipulation affects the entire world. It hurts miners all over the world. It continues to hurt long term holders of the actual physical metal, while at the same time, helping buyers of physical metal by providing the metal at artificially low prices. It hurts those who have invested in gold for a lifetime and now wish to sell for their retirement, but it helps those who are younger and still working, and who are able to continue to buy gold and silver at today's liquidation-sale prices.
But market manipulation is temporary, and when it ends and the price is restored to a true market value, some will be hurt, and others will benefit. When futures contracts default, it will not hurt the miners and owners of physical metal, who will benefit from the subsequent rise in price and shortage of the metals. But the paper longs will be among those who suffer the most. I believe they will either receive a cash settlement offer, or perhaps nothing. So the paper longs are deceived into thinking that they will receive the promises of gold and silver as written in the contracts they buy.
There is a fundamental difference between investing in the mines and/or actual physical metal, as compared to buying the long side of a futures contract or call option. This difference points out another primary moral failure of the paper longs. Futures contracts are gambling. And gambling is morally wrong.
There is a reason that Las Vegas, the city built on gambling, is called "Sin City".
There are many ways to make money in the world, and not all of them are morally equivalent. You can take money from others (and this is commonly called stealing), or you can produce wealth yourself by creating something, or through trade. Obviously, taking money from others (whether through force, deception, or gambling) is not the morally right way to make money. Producing things, and trading, is right and acceptable. After all, once you make something, you have to sell it, or trade it.
But buying a futures contract is not trading, nor is it investing. It is gambling. In a trade, you exchange; you give one thing to someone else, and you receive something else back in exchange from the other person. This is usually a win-win situation, as each person involved in the exchange receives a personal benefit.
Gambling, on the other hand, involves people pooling their money together, and then one person takes home the winnings. In essence, one person takes from the other, and the other is left worse off than before, not benefiting from the deal. This is unlike trade, which is mutually beneficial to both participants. This is the moral failure of gambling: the attempt to profit at another's loss or expense.
I'm not using the word "gambling" to denote activities that contain an element of risk. Life contains risk, and it is not a moral failure to attempt to live. Gambling is morally wrong because it will necessarily cause misery and loss to at least one of the participants.
Gambling is fundamentally different from producing something, or investing in something. It does not logically and necessarily follow that if you trade (or invest) dollars for gold that the person receiving the dollars will lose. The other person might use the dollars right away to buy more gold at a lower price at a profit, or he might spend the dollars on what he might perceive to be a better investment, such as silver.
But futures contracts and options are gambling: there is a winner and a loser and the broker (who is always a winner). The short seller must, in theory, pay any price for the metal to deliver at the agreed upon price. It represents a loss for the short seller if the spot price at the delivery date is higher than the contract price. Conversely, the long would lose if the spot price at the delivery date is lower than the contract price. Therefore, somebody must lose. Why are people deceived into thinking that it is morally acceptable to profit from another's loss?
The answer is greed, which is another moral failure. (Their own greed blinds the paper longs to the wrong that they attempt to do to others in the event that their investment "wins").
Futures and options promise greater returns than investing in physical metal or mines. The purchaser of a futures contract, or call option, is told that they can "control" much more metal for their money, by using margin, which is akin to borrowing, and therefore make a greater profit in the event the price moves up. But does the paper long, in fact, actually control metal? No. Is the metal in his hands? No. Therefore, the paper long does not control anything. He who has the gold makes the rules!
The paper long buys his position on margin, he only puts up part of the money for his position. This means the paper long is going into debt to hold his position. That the paper longs incur a debt is another moral failure.
When a long buys a futures contract, and the price drops significantly, the long has to put up more money to cover the position. This means that the long can lose all of the "down payment" so to speak, and even be forced to put up more money, the money that covered the rest of the position, that was considered borrowed money.
The question is raised, "What if the margin requirements were raised to 100%, so that there is no borrowing?" Well, that might be sufficient for the longs, but what about the shorts? There is a limit to how low a price can go, and thus, a limit to the loss on the downside. But there is no limit on the upside, since the price of gold can theoretically skyrocket to infinity dollars per ounce. Therefore, a paper short should really have to put up much more than 100% of the paper value of the contract. Even a 200% margin requirement for the shorts will not be enough if the price of gold skyrockets and increases by over 100%. A 500% margin requirement would be only half what the shorts would need if the gold price goes up by a factor of 10. Therefore, the only truly safe margin requirement for the shorts is that they have 100% of the actual physical metal that they intend to deliver, and also that they are unable to borrow against that metal or encumber it with other loans and claims.
Think about what that means. The entire process is actually worse than gambling. When two men bet on something, and each is not sure of the other's ability, or willingness, to pay, they both put up their money, in advance, and pool it together, and let a third party that they both trust hold on to the pot, and then they wait for the outcome of the thing on which they are betting. But the game of futures contracts, as it currently operates, is not even as honorable as that process of gambling, since the shorts are not putting up their obligations in advance.
The paper longs are deceived because they think they will profit from participating in something like a bank run. The only way to profit from a bank run is to remove your deposits before the bank run starts. You should not assume to profit from a bank run by leaving your funds in the bank, and standing at the end of the line, announcing your intent to receive delivery (make a withdrawl) months down the road, and then hope that a bank run will occur in the meantime, before you intend to make your purchase and withdraw your gold. Such hopeful wishing is ridiculous, and obviously counter productive. How can you expect a bank to pay you out after it has failed due to a bank run?
Contrary to the shorts (who may be acting with the support or backing of the Fed), paper longs are working with limited amounts of cash--the cash they own, and they can take no more positions than the money they have. The Fed, and the owners of the Fed, and their cronies, in contrast, can continue to create paper contracts forever. They can even take huge paper losses without much sweat, because they belong to the group who can print up the money out of thin air in the first place.
Can the paper longs reasonably expect to win a poker game with someone who has infinitely deep pockets and can always raise them another round? No, they can't. Eventually, the paper longs run out of money, and have to fold. Or, if the paper longs bet on margin, and the positions go temporarily against them, they can be wiped out.
Let's assume the paper shorts end up defaulting, and giving a cash settlement payout. But what good is a cash settlement payout if the gold price in dollars is headed on it's way to infinity dollars per ounce? What good will a cash settlement be if it takes months to receive a settlement during a crisis when the gold price continues to wildly escalate?
And there is the real world possibility that the short sellers will not even pay any cash settlement at all to the longs. I believe these companies doing the bulk of the short selling are like the shell companies that Enron tried to create to hide debt. I believe the insiders, the ones who control our monetary system, have set up the bullion banks to take the fall. And who will be hurt the most? The paper longs, and the public shareholders of the bullion banks -- the companies that have taken on the short positions that will be impossible to fulfill as the price of the precious metals skyrocket.
I simply do not believe that in the event the gold price starts running away up and over $1000/oz., that the short sellers will deliver actual metal. They simply cannot do so, as they don't have the metal, and to purchase so much in the open market to cover would be impossible. I believe they will default with a cash settlement, just as the TOCOM shorts defaulted on Platinum or Palladium obligations back in 2000 or so. So, at best, there will be a cash settlement, and at worst, the shorts will go bankrupt, and there will be a much reduced cash settlement, or much delayed cash settlement, or no cash settlement at all.
True, there will be wins along the way for a few longs, before the eventual massive default happens, just as there are wins in any casino. But the majority of all gamblers lose, just as the majority of the paper longs are playing a self-defeating rigged game of gambling.
To defend the legitimacy of the futures markets (gambling casinos masquerading as investment opportunities) , the argument is usually raised that a producer has a legitimate reason to sell what would become something like a futures contract. The argument is that if a miner borrows a certain amount of cash, the miner needs to lock in a certain cash price in order to be able to repay his cash debt. But it is not the case that a miner needs to borrow paper dollars in order to raise the capital to mine gold! That is a completely false assumption that a miner needs to borrow paper dollars in the first place! The miner can raise capital another way, in a legitimate way, and that is through offering shares to the public.
I believe going into debt is morally wrong. The reason that debt is wrong is that the borrower is the servant to the lender, and we are not to become the slaves of men, but we are to remain free. Debt represents shackles of restraint and obligations that might not be able to be met because life is uncertain. Additionally, debt that is accompanied by usury, must be avoided.
The bankers have no legitimate need to loan money. Let them invest it, and let them assume the risks of their own investments, rather than let the borrower assume the risk.
Miners need to avoid debt and they need to avoid creating a delivery obligation in the future for metal. The smartest run mining companies will raise all the cash they need through additional public offerings, and they will pledge to sell all their gold at the spot price when the time comes that they have metal to sell. They will avoid hedging at all costs, at all prices, no matter how fast or how far the prices of metals may rise. What if a miner hedges at $3000/oz for gold, and then the gold price continues to skyrocket up to over $30,000/oz? That miner will go bankrupt! Miners must remain debt free and hedge free, no matter how high prices rise, and have in place a mission statement that reflects that commitment.
The second major reason that miners should publicly renounce and rebuke hedging is that the availability of paper futures contracts creates a directly competing investment alternative that takes money away from the mining sector. Money that would otherwise be invested in mining companies directly is siphoned away into the long positions in the futures contracts. Mining companies ought to tell their prospective investors that it is a moral failure to go long and buy a paper futures contract, and that instead, it is morally right to choose to become a shareholder of a company that is debt free and has a commitment to avoid hedging.
The third major reason that miners should publicly renounce and rebuke the futures markets is that the futures markets are the primary method being used to harm the price of the products they produce. The sooner the fraud of the futures markets is exposed, the sooner the price manipulation will end, and the sooner the miners will be able to reap the rewards of their labors.
The moral failure of the paper longs can be summarized as follows.
1. They are deceived into thinking that the shorts can deliver. They are deceived into thinking that the endless creation of futures contracts doesn't affect the price, but it does, it even harms the value of their own paper positions.
2. The paper longs are gambling, and hoping to make money off of another's loss. They are deceived into thinking that buying a futures contract is a legitimate investment opportunity, when it is actually less honest and less reliable than many forms of gambling.
3. The paper longs assume the risk of debt, and worse, they may lose all of their money, and have to put up additional monies in the event of a margin call. They are deceived into thinking that they "control" metal, when, in fact, they do not control (own) anything. They own a promise, not a thing.
4. The paper longs are motivated by greed, thinking that through taking on debt, and owning a vain paper promise, that they will profit more than those people who choose to own actual physical metal. They forget and ignore the fundamental inherent quality of owning precious metal is that it represents payment in full, and gold does not default on it's owner, it is the only thing that truly protects one from default by another. Gold is the antidote to paper promises. A paper promise is no substitute for gold.
5. The paper longs think they are participating in a bank run, but they are not. They are the ones on the sidelines, or at the end of the line, hoping that a default will occur before they reach the window!
It is no wonder that Warren Buffet called derivatives "sewage". They are garbage. Options on futures are even worse, garbage on top of garbage, or perhaps the slime that lies beneath the garbage pile.
I believe it is inevitable that the shorts in the futures markets for gold and silver will default. And I believe that when they do, the price of precious metals will skyrocket.
I strongly recommend that people take advantage of what they know about the extent of the fraud and deception that exists in the world, and that they protect themselves from that fraud and deception through precious metals ownership.
Disclaimer: I am not a licensed investment advisor. I am not a broker. I hold positions in precious metals and mining stocks, which are subject to change without notice. I am biased against what I consider to be the fraud of fiat money, which are false weights and measures, and an abomination. I am biased against the fraudulent practice of creating money out of nothing. I am biased against debt: particularly when money is lent at any interest rate whatsoever, a practice called usury.
For a list of many other reasons why I believe now is a very good time to buy gold and silver, see my web site at silverstockreport.com