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March 16, 2004

Market Commentary
by Leonard Kaplan

For markets of March 16th

General Comments:

Following a most familiar pattern as of late, in the last calendar week gold prices continued to shadow the USD inversely, with the gold price moving tic by tic along with the Euro, ending some $6 lower. But even as gold faltered, the other precious metals continue their rampage to ever higher price levels. Silver was up only some 7 cents, while platinum and palladium screamed higher, the former up some $20 and palladium up $26 as speculative and fund buying was the most evident feature.

While gold prices are still in a downtrend off highs seen earlier this year, commodities in general continue rising to multi year highs. As an example, on Monday, corn hit 6 year highs while soybeans clocked in at 27 year highs. Oil prices are in the $37 price range, up seemingly almost every single day. And yet, the Consumer Price Index, as computed by our government continues to show extremely moderate increases. There must be a major disconnect for as the input prices of raw goods continues to rise, and rise sharply, there HAS to be a somewhat commensurate rise in the price of the finished goods. OK, while classical economists and market pundits can dismiss this relationship by commenting that manufacturers of finished goods are simply "eating" the rise in raw materials due to a lack of pricing power, I fail to see how that completely answers this conundrum.

With the twin deficits of the United States now almost completely out of control (running over 9% of the GDP), with commodity prices rising rapidly in almost every sector, with interest rates being held at 50 year lows due to the inability of the US economy to add job growth, and with this being an election year where promises to spend oodles of money on every venture are offered, there is only result likely. And, that is going to be inflation, and it looks to be a very vicious monster this time around. Current financial markets simply do not see this potential, given the price of the US 30-year Treasury Bond, and the equity markets. But, I have to believe that once the financial markets finally see the ominous signs of inflation, the precious metals will benefit greatly.

Presently, some of the precious metals markets are being driven solely by momentum and speculative fever, such as silver, platinum, and palladium. Yes, certainly China and India are monster buyers of industrial metals as their economies are expanding rapidly. But, in my opinion, speculative interest in these metals has far outshadowed basic fundamental supply and demand considerations. This has been a frequent theme in this commentary, and makes reporting quite difficult, as each week the realities of the market have less and less relevance while the unknowable actions of the large speculative funds gain importance.

As an example, let us take a look at the silver market, where the total speculative position has reached net RECORD levels of 436 million ounces, up some 66% from the average spec position of last year. It is apparent that the price level of silver depends more on the vagaries of decisions made by the large speculators than any other imaginable factor. If the specs continue to hold or add to their long positions, prices will, no doubt, go higher. Should they, for some unknown reason, decide to exit, prices will go lower. It matters little whether India is in the mood for buying or not, nor any other fundamental factor.

Palladium has become another darling of the hedge funds and spec traders, where they hope that the conversion to this metal in the loading of catalytic converters, due to its favorable pricing, will force demand higher. Well, demand has not increased, and most analysts see this market as being significantly oversupplied, and for some years to come. But, it doesn't matter as millions of Dollars throw at a small market have pushed prices well beyond fundamental equilibriums.

And, ladies and gentlemen, this condition looks to worsen. Should the equities markets cease to be the strong magnet for capital, as they have been for years, funds will leave that arena and search out other venues, and commodities will be a most likely target as many will seek bull markets. Look for the even now excessive volatility to get more severe. The "thinner" the market, the more volatile trading conditions will become. Next, look for a greater disintegration of historic market relationships, and of necessity any semblance of sanity, as money flows from one market to the next based upon what "black box" system some commodity fund is using. In other words, we are going to be in for a very wild ride in the markets the next months.

To change subjects, even as the new Washington Accord has been resigned, with the ECB agreeing to sell some 500 tons of gold per annum over the next 5 years, please note that the USA was not a signatory to that agreement, just as last time, and yet still holds 8,135 tons of gold as reserves. As other nations have been sellers, the USA remains, a quiet holder. Those nations holding the largest reserves are as follows:

USA 8,135 tons
Germany 3,439
IMF 3,217
France 3,024
Italy 2,451
Switzerland 1,666

The Commitment of Traders reports, as of March 9th, both futures and options:

During the reporting period, gold prices were up over $10 per ounce, with open interest expanding slightly. As demonstrated above, the rally was totally fueled by large speculative longs adding to their positions, as well as large short specs covering. Small speculators, both long and short, pared their positions almost equally. The ratio between long and short speculators rose to over 4 to 1, a rather lofty number but sustainable.

These numbers speak well of the gold market, as professional traders were buyers on the dips seen earlier in the reporting period. This justifies my belief that gold should be bought in the low $390's and sold in the low $400's. It appears that we remain in a trading range.

With silver up some 46 cents during the reporting period, open interest rose by some 5%, a classical bullish signal. Obviously, the addition of positions by the long speculators forced prices higher, as the commercials accommodated their trades. Long specs now total 114, 528 contracts, or 572 MILLION ounces, against short specs at about 16,800 contracts, for a ratio of 6.8 to 1. I am not sure I have ever seen such a distinctly lopsided result.

As such, as I have said before, all rests in the willingness of the large and small specs to maintain or add to their positions. Prices depend solely upon their resolve. If I had to guess which way we go, I would have to say higher. But, trust me, after watching this market for 30+years, this is going to end very badly, as it always has. The real question is whether it collapses from $7, $8, $10, or even higher? On the other hand, this market is very vulnerable as the ratio between longs and shorts is very ugly.

One more thing, rising commercial shorts forcibly demonstrate that there is little or no demand in the physical trade, for the physical metal. Commercials are not speculators; they are simply hedging their commitments, keeping more or less a neutral position. Commercial shorts buy futures when someone buys from them, and that is not happening. Over the long term, one can reliably judge the nature of the physical marketplace, its supply and demand, by the short commercials, and for now, no one wants the physical commodity. It is all speculative demand for futures and derivatives that is fueling this rally. But, truth be told, the large spec funds could drive prices much higher in the short term.

GOLD RECOMMENDATIONS:
Expected trading range $392 TO $403

Short term traders should be playing the range lets say buying near support at $392 or so, and selling in the $402-$404 range. Unless the USD makes a convincing new low, I think gold is a fairly good sell at the top of the range. Continue to expect vicious and violent movements within these boundaries. At this point, I am neither bullish nor bearish on gold, I continue to expect range trading.

The USD movements will continue to dominate all influences in this market. Selling out of the money puts, against SMALL short positions, seems most prudent at this time. I really like the June 380 puts, and would be rather aggressive selling these options. Call our offices for specific recommendations for your account.

SILVER RECOMMENDATIONS:
Expected trading range $6.80 to $7.25

Volatilities are incredible high as the funds throw their weight (and billions of dollars) around. This is not a market for the feint of heart as last week we saw prices move over 10%. From a very short term trading perspective, look to buy silver at about $7.05, use a 10 cent stop, and pray vigilantly. If conditions look right, sell silver at about $7.24, also with a 10 cent stop. This strategy appears dangerous and should only be taken by those clients with risk tolerance.

My sense is that it is best to have very small positions in this market at present. Anything can, and will, happen. Probably, though, silver will simply follow, in exacerbated fashion, what occurs in the commodities markets in general and is, of course, at the whim and caprice of the large speculative funds that hold nearly record long positions. As per the Commitment of Traders reports, speculators now hold long positions worth almost one years total global production. If some external influence discourages the large spec funds, I assure you that they will have no one to sell to. Things are way too dangerous in this market, although if you have to play, I would be a seller on rallies to the top of the range, although very lightly.

PLATINUM RECOMMENDATIONS:
Expected trading range $860 to $900

Again, as this market is dominated by the large specs, there does exist the chance of a sharp sell off. But, I have no idea of what to do here. There is no rule that says I have to play in a market without a clear picture of where it may go.

But, if you put a gun to my head, I would be a seller near $900, in small size.

Leonard Kaplan
Prospector Asset Management
1415 Sherman Ave. #504
Evanston, IL 60201
Ph: (847) 733-8400
Fax: (847) 733-8958

Prospector Asset Management, and its sister company, Prospector Metals LLC offer the following services:
*Brokerage of commodity futures and commodity options
*Managed and directed speculative accounts in commodity futures and options
*Brokerage of physical precious metals
*Consulting Services
*Daily Newsletter and Special Reports on the Precious Metals

A complimentary subscription to the newsletter, with specific recommendations and positions, is available upon request for a one-month period.

Futures Trading is for individuals willing to accept a higher level of risk for the opportunity of greater returns. This information is obtained from sources considered reliable, but its accuracy is not guaranteed by Prospector Asset Management. The recommendations reflected are those of Prospector Asset Mgmt. and are based upon circumstances it believes merit such recommendations. It is possible that other brokers or analysts may disagree with our opinions based upon their current commodity research or the analysis of commodity trading advisors. Expressions of opinion are subject to change without notice. Reproduction or rebroadcast of any portion of this information is strictly prohibited without the written permission of Prospector Asset Mgmt.

There is a risk of loss trading futures. You should carefully consider the risk associated with futures trading in light of your specific financial position. Past performance is no guarantee of future performance.

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