Commentary was posted on Zerohedge today about the silver market that needs to be swatted out of the air. Some investment advisor who for some reason gets air-time on Zerohedge posted an analysis which asserted that commercial hedgers hit their most “extreme net short position ever in silver futures” LINK.  This is at least the fifth “analyst” I’ve come across who’s written, incorrectly, about this topic.

While it’s true that the open interest in silver hit a high as of LAST Tuesday (April 26), the “net short position” by the Commercial trader Bullion Bank segment, the trader segment to which Dana Lyons refers to as “smart money,” did not come close its most “extreme net short position ever.”

Since that COT report was released showing April 26th’s open interest, the open interest in silver futures has declined to 199k.  As of the date of that COT report,  the bullion bank short interest as a percentage of total open interest in silver is 71%.   But the highest this ratio has been going back to April 2005 is 82%.  The average short interest as percentage of total o/i over the time period is 63%.   In fact, from the week ending December 9, 2005 to the week ending January 27, 2006, the short interest as a percentage of total o/i ranged between 78% and 82%, which is quite a bit higher than it is currently

During that week – which was the most extreme net short position taken by the bullion banks – the price of silver actually rose.  More interestingly, that extreme net short interest in silver preceded a huge move that took silver from $9 in early December to  an intra-day high of $15 (futures basis) the week of May 12, 2006.

There’s been plethora of repetitive precious metals market analysis that has proliferated recently.  Many of these so-called “analysts” have not been around the precious metals market very long.   The trader category which Dana Lyons references as “smart” money did not look so smart when its true net short positioning in the context of total silver futures open interest outstanding (Dec 2005 – Jan 2006) is assessed.  And the trader category to which he labels “dumb” money made out like bandits.

Too be sure, there have been several periods in which the short term direction of gold and silver can be anticipated  with better than 50% probability based on assessing the relative long/short distribution across the COT trade classifications.   But a superficial analysis of the nominal open interest positioning is not the right tool to use in analyzing the driver of the gold and silver markets.  And furthermore, the Comex is a small part of the overall global market equation.

The reality is that many of us believe, based on well over a decade – and in some cases several decades – of precious metals market assessment and participation that purveyors of paper derivative silver face a potentially bigger problem than with gold of finding enough actual physical silver to deliver into those paper promises should the “dumb” money in any unexpected quantities decide to stand still with their paper longs and demand physical delivery.   And this why you get long term graph that looks like this: