-- Posted 31 March, 2011 | | Discuss This Article - Comments:

JP Morgan has a new excuse for its massive silver and gold investments.  Short or long, whichever it happens to be claiming at the moment, Morgan says it is holding the silver for clients.  To buffer its claim, JP Morgan insists the holdings are the result of a new lending window it created, where investors can deposit their gold for safe-storage and obtain a loan in the amount of the gold borrowed.

In offering this lending program, JP Morgan is stocking up on gold.   Investors find that the program helps them multiply returns, essentially allowing investors to buy gold as a dollar hedge and then obtaining low-rate loans against their ownership in dollars.  This loan, once reinvested, essentially acts as a 200% net-long gold, as well as net-long equities or commodities.

Recycled Metals

Plenty of gold and silver is recycled each year when it is removed from physical goods, ranging from popular electronics to automobiles.  Even more is recycled in the secondary markets, where companies like Cash4Gold make millions providing a valuable service: trading cash for hard metals.  It may not be the best deal on the block, but no one leaves empty handed.

JP Morgan is expected to have been engaged in recycling of a more precarious nature.  The firm, which has been a net-shorter of silver for years, is still playing the same old song and dance.  In promising to store investors’ gold, one has to wonder why it would bother storing each gold bar.  Wouldn’t it make far more sense for an enterprising company like JP Morgan to sell it again, either in bullion or in future-form, to take advantage of the instant liquidity?

In the world of finance, paper gold and silver are remarkably inexpensive.  As the amount of derivatives around the world enjoys a parabolic upward slope, surely JP Morgan, a bank of international influence, is capable of tapping derivatives for large bets on the value of metals.

The company could quite easily sell each gold bar coming into its warehouse, then buy gold derivatives, essentially hedging its dollar risk to an uptick in gold prices with a promise to pay from a counterparty.  Of course, the difference here is that the derivatives market does not deal in the physical; instead, investors come together to buy and sell their promises to pay.  It is very much like the global government currency and debt markets, but privatized.

Hedging Behind the Scenes

Critics of such viewpoints assert that JP Morgan would never do such a thing.  It couldn’t do such a thing, as the vaults are audited and under the watchful eye of others.  Others should see the faults in such basic thinking; in terms of metals, a future promise--in the form of cash, or equivalents through derivatives or the future markets--is as good as gold.

And to that end, JP Morgan has an internal complexity that works to foil even the most strenuous accounting standings.  With so many investors trusting the company with their physical metals – and many others entrusting it to buy gold and silver futures on their behalf – the company is an accounting nightmare.

With each 100oz bar of gold the company takes in through its lending arm, it could easily sell futures in another division with different books.  In between, its derivative desks can offer a bet to its trading arm that allows the company to again go market-neutral gold, when it is, in fact, short physical gold (futures) and long paper gold (derivatives, which are sold to itself).  The lending arm has the assets to make good on the promises, but the real wager is on the trading desk, where its agreement to deliver gold in the future is backed only by its derivative arm.

Learning from History

JP Morgan would wise to take a lesson from the US Treasury: putting off your problems doesn’t make them go away.  It only compounds them.  With a web of lies in the press and a chain of gold and silver positions that would be nearly impossible to follow, the bank has put itself in a position where it faces system risk in the collapse of the futures market.  When gold and silver manipulation goes mainstream, it will be JP Morgan’s collection of metal IOUs that ultimately send the price of metals reeling.

This last second bet on suppression won’t be effective, and ultimately, the bank will have to unwind or interject excessive risk into the derivatives market or onto itself.  It’s a suicidal balancing act, the equivalent of many magicians walking on a wavering tightrope across sky-scrapers.  While you’re on level footing, you’re on top of the world, but should you fall, there’s no coming back.

Dr. Jeffrey Lewis

www.silver-coin-investor.com