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April 12, 2004

Market Commentary
by Leonard Kaplan

For markets of April 12th

General Comments:

The precious metals experienced a quieter week, rather uncharacteristic from the volatile frenetic market action seen recently, to close rather mixed. The gold market took little comfort from the rapidly escalating conflicts in the Middle East, and following the Euro, closed down by $1.80. The weekly range was only a bit over $10, from high to low, a good deal more sedate than usual. As fighting in Iraq became headlines, gold caught a bid from "safe haven" investors and speculators and was able to close the week near the $420 level basis spot prices. As noted in previous commentaries, this market appears very well supported at lower price levels by physical demand, and sharp sell-offs seem rather improbable. On the other hand, the gold market seems doomed to failure, at this point in time, on its attempts to push to new highs. For the interim, the gold market seems content to wander in the $415 to $430 price ranges providing excellent opportunities for the shorter-term traders.

The insanity of the silver market subsided a bit; with the weekly range of 32 cents seen all in one day, Monday. During the rest of the week, it bounced around rather aimlessly, following the gold market which was in turn mostly following the value of the USD in foreign exchange markets. Silver prices closed down only 6 cents for the week, a paltry loss in comparison to the huge gains of late. While it most evident that, at least for now, the upward momentum has died, the question is whether this could be a sign of an imminent and devastating crash in prices as occurs historically, or is this market consolidating for a move to even higher levels. Certainly the silver market remains vulnerable at current price levels due to speculative demand, but I am not sure of what "trigger" will persuade the large speculative funds, and perhaps even the small public specs, to exit their positions.

In 1987, when the silver price crashed to $7 from $11 in just several hours, I was unable to find any reason, it just kind of happened. Thus, it might be difficult to pinpoint what conditions could encourage the longs to sell. Some things come to mind however, as the rally in silver has been encouraged by the sharp rallies in the base metals, any technical downside breakout in copper or other base metals may have some effect. If the gold market falls below $405, this could also be what breaks the silver rally. If the USD continues to rally, this obviously would be another data point. But perhaps the most critical market would be USD interest rates, because much of the current general rally in commodity markets in general stems from the current unseemingly low short term interest rates. From a technical standpoint, I would see the $7.95 to $8.00 price level as CRUCIAL. If silver prices close beneath this level for two days, I would expect a sharp retracement of the recent quite impressive rally. Baring all that, odds favor silver to continue higher, for no other reason than for momentum. There are few mainstream analysts who can justify $8 silver based upon its fundamentals, but truth be told, it just simply doesn't matter short term. This market, most thin and rather illiquid, has become the darling of the speculative crowd and they will take it wherever they wish. It is a most dangerous game.

The real action of the week was in platinum and palladium, up $3.50 and $24.50 (!!) for the week. While palladium just layered on significant gains day after day after day, to close at over $330 per ounce, platinum was wild. First, we saw this market break under $880.00 basis the July Contract, breaking all technical support and looking like it wanted to go sharply lower. But no, platinum prices were up over $25 on Friday alone as physical demand, notably from the Far East, encouraged the large commodity funds to buy heavily.

Ardent gold bugs have been hoping, well beyond intellectual rationale, that the Central Banks of the Far East, notably China and Japan, would add to their gold reserves. There has been much made of this in the financial press which held out promise. This commentary has been dismissing such an event, and on April 8th, Japanese Finance Minister, Mr. Sadakazu Tanigaki, was quoted as, "I'm aware of arguments about the need to diversify our foreign exchange reserves away from U.S. assets, but I don't agree with calls for us to hold more gold....I don't think Japan needs to hold more gold". Since Japan continues to press for a lower yen value, and now that it is most clear how difficult it is to offload serious quantities of gold (as demonstrated by the new Washington Accord), it was always very unlikely that Japan would be buyers. But, emotions run deep in the gold market, and bulls will always rationalize their hopes by one means or another. On the other hand, so will bears. Best to think with your head rather than your heart.

With higher gold prices upon us, gold production has begun to sharply increase in Peru. Output during the month of February was up some 29%, compared year over year, to 16.282 tons. On the bullish side, with the Indian Rupee gaining some 4% in the past weeks, making gold some $14 per ounce cheaper in Rupees, and with a superb harvest forthcoming, Indian gold demand, probably the most important demand source on the planet, looks to remain very strong during the " marriage season" regardless of the current price. I think it very important to monitor the value of the Rupee, as this has quite an outsized effect upon gold demand in that nation. Indians "see" the gold price as value now, due to the rise of their currency against the USD, in which gold is universally priced.

The president of Turkmenistan, after moving to ban beards, ballet, and circuses, has now told his populace to shun the traditional gold teeth favored by custom. Displaying a smile full of gold has long been a status symbol and a sign of wealth in that nation. While this is of some amusement, I do not see this as a great loss in the fundamental supply/demand equations. I think Turkmenistani dentists have more to fear than gold bulls. Hmmm..perhaps we should get long the toothpaste market.

Speaking of toothaches, the current price of silver is paining Kodak, who might take a hit of $30- $50 million USD, or much more, if silver stays above their forecasted pro forma price of $5.25 per ounce. Whenever I read such news, I wonder just who is running the show at such companies, and why in the world don't they hedge their costs, when it is so easily done. It seems such firms spend lavishly in marketing, advertising, and in corporate salaries, but fail to do the simplest and most elementary hedging of their financial needs. I am now wondering if those same stockholders who demanded that their gold producers remain hedge free feel the same way about the users of a metal, rather than the producers. If so, they deserve what they get. Hedging costs, or hedging revenue streams, are a fundamental part of wise business practices.

There are continuing rumors that the World Gold Council is about to reorganize, yet again, by firing many of its top executives. After an abortive attempt at an Exchange Traded Fund in London, only to be reborn under a different guise recently, and after almost 2 years of attempting to get such a fund rolling in the USA to no avail, this organization continues to defy logic by amazingly being completely wrong 100% of the time. I consider such a track record most impressive. On the old Rocky and Bullwinkle cartoon show, there was this captain named Wrong Way Peachfuzz, who had the same ability. This was soon rectified when the heroes of the show rejiggered the controls, so the boat would turn right when he turned left, yielding the perfect result. Mineweb, who posted the article, quoted an insider saying, "go through the list of people at WGC who actually know something about the gold market and virtually all of them are going". I am certain that Rocky and Bullwinkle could fix this problem as well.

Lastly, as a sign of the influence of the speculators in today's markets, we look at the palladium price which has doubled in the last year, from about $160 to the current level of $330. Speculators have gone from a neutral position in early 2003, to a net long position currently of over a million ounces. In a market as thin as palladium, it is clear just who is setting the price.

On to the Commitment of Traders reports, as of April 6th, both futures and options:

During the reporting week, gold prices were down by $3 with open interest up by another 2-3%, even as the long speculators continue to add to their already RECORD positions. Large long specs added almost another 10% as the commercials continued selling. Two weeks ago, the ration between long specs and shorts was 4.7 to 1, last week it was 6.8 to 1, and now it registers at almost 7.5 to 1. While there is excellent justification to firmly believe in the long side of gold, I wonder just how much more can be added to the long side, how much ammunition is left to the bulls. Long specs now own about 813 tons of gold, about 35% of so of its total annual global production. For it is, and has been evident, that the year long bull market has been fueled by the spec, and not by the commercial. With such firepower already expended, it will make it all the harder to get through the technical resistance at $430 or so.

That said, there is ample evidence that superb actual physical demand lies beneath the current price and the $400-$405 range should easily contain any cascade in prices. Look for gold to continue basing, look for gold to continue in its now well traveled trading range of perhaps $410 at the worst, and $430 at its best, baring any unforeseen news event. Recommendations will follow.

Silver prices were up by 45 cents during the relevant period, with open interest rising a few percent, a classically bullish signal. What is most interesting is that the professionals, the large speculative funds, were sellers (although in small size) into the rally, as the small speculators were the buyers. Small long specs now hold a historically high position, as this market turns into a most "public" arena, rather than professional. But, to be fair, the changes in the ownership of contracts was rather meager, and I would not make all that much of it.

As mentioned above, anything can and probably will happen in this market. There are more " urban legends" and mistruths told about the silver market at this time then at any time in my recollection. There is talk of a major squeeze coming in the May Contract at the Comex (this about the elevendyseventh time I had heard that one over the past 30 years), there are those who predict the imminent demise of the short commercials because they are losing so much money (huh?, by definition they are hedgers, not specs, and are not losing any money at all), and the abject forecasts of silver rocketing to $50, $100 per ounce or higher. My very favorite is that there has been some sort of intergalactic conspiracy to suppress the price of silver for the last 15- 20 years. Of course, the fact that there is absolutely no financial justification or reward for having done so is not mentioned. My advice is to leave your emotions at home, and look and study closely. Make up your own mind, and ask the hard questions.

While it may sound that I am deliriously bearish, that is certainly not the case. We are in the throes of speculative excess, which may last for quite a while, or it may not. As mentioned above, odds favor that we go higher. My goal, my mandate, is to describe, accurately and fairly, what the risks and rewards are in this market from the vantage point of 30 years in the industry. And, honestly, I could be wrong. Make up your own mind.

Oh, one more question. Do intergalactic conspiracies pay well?

GOLD RECOMMENDATIONS:
Expected trading range: $410 to $424

If the USD remains strong, and the bond market continues its declines, I would be a seller on any sharp rally. For day traders, look to sell against $422 to $424 and look to reverse the position as we approach technical support near $415. Let us characterize this market as a trading range with a definitive bias to the downside. However, should gold get convincingly over $432, I would be a buyer, and in size.

With adequate evidence that the gold market is VERY well supported at lower levels, selling out of the money puts seems most prudent at this time. I really like the June 390 puts, and would be rather aggressive selling these options. Call our offices for specific recommendations for your account.

SILVER RECOMMENDATIONS:
Expected trading range: $7.95 to $8.30 (only a guess)

The silver market seemed "heavy" last week, and it is becoming clear that the upward momentum has been lost. But, prices have remained stable and appear to be consolidating for a possible continuation of the uptrend. Day traders should be sellers near the top of the range and buyers against $8.05. Position traders might try buying in the low $8.00 range with a stop under $7.95. But do this trade in small size.

This is now a public market, a classic mania that may or may not continue. There is no mainstream analyst who can justify current levels from a fundamental consideration of supply and demand characteristics. But insanity can reign for longer than you may think. The only strategy for long term position traders is to sell, very lightly, on a close under $7.93 in the May Silver, and exit if the market if at all higher the next morning. We will attempt to catch the momentum lower, if it occurs. No option strategies appeal to me at the present.

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.

PLATINUM RECOMMENDATIONS:
Expected trading range: $880 to $920

This market continues to confound. We had a massive technical breakdown, only to be followed by a equally massive recovery. With palladium very strong, platinum may do higher. I would now be a buyer on dips to the $890 range with a $10 stop.

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

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