How Derivatives Will Trigger A Bond Market Melt-Down (Part 1)

Get your money out of the bond market.  Once the default-contagion starts, it will spread faster than the bubonic plague which caused the Black Death in the 14th century.  I just got off the phone this morning with a source in NYC who confirmed that several Wall Streeters he knows all believe a far bigger “Long Term Capital” collapse triggered by derivatives defaults could occur at any time:

Long Term Capital, for those of you who are unaware, was the infamous hedge fund run by an ex-Salomon Brothers bond “guru.” He assembled a Dream Team of Nobel Prize Winning professors who claimed to have figured out how to produce “alpha” (excess returns) without any “beta” (systematic risk). One of the professors was Merton Miller. I was at the University of Chicago when Miller received his Nobel Prize. We bought his snake-oil hook, line and sinker. So did the large pension funds and wealthy investors who threw their money a Long Term Capital.

To cut to the chase, it didn’t take too long before LTCM imploded. I guess the Nobel “Dream Team” had not figure out how to turn lead into gold after all. LTCM was bailed out by the Fed plus several of the big Wall Street banks who also faced collapse if LTCM was allowed to incinerate to the ground. These banks had all plugged LTCM with the derivatives trades that blew up LTCM. I was at one of them, Bankers Trust, which was one of the guiltiest perpetrators and which had been found guilty several years of earlier of ripping off Proctor and Gamble with derivatives.  Bankers Trust is now part of Deutsche Bank, one of the two most risky banks in the world (JP Morgan is the other).

Back then it was the Wall Street banks who were required to put up “equity” to keep their businesses alive. In 2008 it was the Taxpayers and the “equity” put up  by Taxpayers was 8x greater. Only that equity went into the pockets of the people running the banks.

Don’t let your “equity” sitting mutual funds and money market funds get taken from you in the next stage of bailouts, which will be the nefarious “bail-ins.” “Bail-in” means your money that will taken from your pocket and given to the entities who face collapse.

31 thoughts on “How Derivatives Will Trigger A Bond Market Melt-Down (Part 1)

    1. Any money held by a custodian is at risk. When you let another entity hold your money, you are exposed to counterparty risk. FDIC and SIPC insurance have somewhat mitigated that risk and lulled everyone into thinking their money is “safe” in a bank or brokerage. The problem that will hit our system will vaporize FDIC and SIPC instantaneously

  1. Dave: When this happens physical gold and silver will not help. Uncle Sam will outlaw ownership of said assets-they’ve done it before.

    1. If it gets to that point in this country where the Govt dictates what you can and can’t do to that degree, we’re going to need help from a Higher Power…if that stuff starts to happen, I’ll either leave the country or put a gun to temple.

      1. Don’t panic if the government ever tells people what they can or can’t own, remember these points to help you sleep at night-

        1. Back in 1933 the government told the American Public to turn in their gold, few really did. I have mentioned this before and I will mention it again, Coin Clinic, by Alan Herbert, page 112, Question, How effective was the withdrawal of gold from the public in 1933? Answer …it was something of a flop…only about seven per cent was actually turned in.

        2. Every day and every night in the USA people are selling drugs in spite of what the law says. Every day and night in the USA people are stealing cars in spite of what the law says. Every day and night items are smuggled into, and sometimes out of, the USA in spite of what the law says.
        I had read or heard somewhere the following quote, ‘we have ten thousand laws on the books to basically enforce the ten commandments, and we do a piss poor job of it’ Maybe the Spartans were right, it is only illegal and wrong if you get caught.

        3. What is illegal in one jurisdiction is perfectly legal in another. Gold knows no master. Gold respects no crown or constitution. Gold will travel to where it is appreciated and leave where it is not wanted (along with the wise owner of gold who knows when it is time to get out of Dodge). What law keeps you from leaving the US with your gold, legally or otherwise? Gold smuggling is probably as old as money itself, and there are many ways to leave with your gold and not be noticed by the border guards. I won’t say how this is done, you will have to figure it out yourself but it is doable. I won’t say how it is done since I might have to use these techniques myself someday.

        Don’t scare yourself over the big bad big brother government, just remember the government is a bureaucracy, and when was the last time any bureaucracy was ever 100% effective at doing anything?

    2. Utter nonsense. The U.S. Government will never outlaw gold ownership, and for several fairly obvious reasons. They are likely, however, to raise taxes on the profits from sales of gold.

  2. Pretty spook and the news reported another JP Morgan suicide. What’s going on with all these suicides this year alone ?

    I watched a 13 minute video on Youtube of a guy with a solid 1 ounce gold coin valued over $1,500 at the time. Nobody on the street asking various people if they were interested in buying this coin for $25. The guy even went down to $10 and even to trade some ladies water bottle. That is really super scary people don’t understand it’s real value.

  3. Dave according to an article in todays “Economic Policy Journal”

    Friday, July 11, 2014
    7 Gold and Silver Stocks That George Soros Bought in Q1
    It seems like the evil manipulator is preparing for some price inflation.
    According to his latest 13F Securities and Exchange Commission filing from May 2014, Soros has been building positions in precious metal mining companies.
    Following are a look at seven gold and silver stocks that Soros has been buying.
    George Soros, has been bulking up his holdings of gold and silver stocks.
    Silver stocks
    According to his latest 13F Securities and Exchange Commission filing from May 2014, instead of buying physical gold and silver, Soros has been building positions in precious metal mining companies. That’s likely because some mining firms stand to benefit more than metals themselves when prices rally because of the essential leverage in the business.
    Indeed, while gold prices rose 10% and silver prices added 8.6% in 2014’s first half, gold mining stocks performed even better, up 27.5% in the same period.
    Following are a look at seven gold and silver stocks that Soros has been buying.
    Seven Gold and Silver Stocks from Soros’ 13F (via Money Morning)

    AuRico Gold Inc. (NYSE: AUQ) was a new position for Soros in Q1.
    Barrick Gold Corp. (NYSE: ABX) is the world’s largest producer of precious metals. It’s also involved in exploration and mine developments.
    Gold Corp. (NYSE: GG) was another new addition to the Soros portfolio in Q1.
    New Gold Inc. (NYSEMKT: NGD) was also a fresh add to Soros’ holdings in Q1.
    Pan American Silver Corp. (Nasdaq: PAAS) explores and develops silver-producing properties and assets in Mexico, Peru, Argentina, and Bolivia.
    Silver Wheaton Corp. (NYSE: SLW) was also a new Soros position in Q1.
    Yamana Gold Inc. (NYSE: AUY) was yet another new Soros addition.

    1. Thanks. If he put money in some of my junior mining stock ideas, he would get RORs that were 3-5x the stocks he bought. 😉

  4. I was interested in your radio comments when you said if I remember rightly that the silver derivatives where $ 5 t and gold was $ 18 t. Not sure where these numbers came from as I thought these exposures were multiples (10 times) higher but the way these figures have been massaged they could now be any number under the sun.

    What was interesting was your comment that silver exposures were in a ratio of 1:3 with gold. Somehow you don’t seem to have embraced the derivatives rainbow (or colors on fx dealing board) concept. Silver is a liquid market just like the yen, euro or indeed gold. When they wrote the rainbows it is perhaps surprising that the exposure is not at parity with gold. After all they have all got one button on the board.

    The fact gold and silver are not at parity indicates to me some vestigial element of sanity remains in the system in the form of cognitive dissonance, a sort of ghost in the machine from a bygone age of market theory. Today we have embraced the tulip mania of the 1600’s with similar market structures and leverage levels. Not surprisingly this is when gold flowed from the Dutch to London just as gold is now flowing to China.

  5. Butbutbutt…the eCONomy is looking up.

    WASHINGTON (MarketWatch)—The federal government posted a budget surplus of $70.5 billion in June, the Treasury Department said Friday, another sign of a significant improvement in the nation’s finances.

    Including the June surplus, the budget deficit for the first nine months of the 2014 fiscal year totaled $366 billion, down 28% from the same period a year ago. That is the smallest year-to-date budget deficit since 2008.

    1. The reason there was a budget “surplus” in June is because certain payments for the month of June (e.g. military active duty and retired personnel, veterans’ benefits, etc.) were made at the end of May because June 1st was a Sunday. This explains why the deficit for May was so large. Yes, the year-to-date deficit has come down compared to last year, but there are still 3 months left in the current fiscal year (July, August & September). There were deficits in July and August of last year, and the August deficit was very large–the third largest monthly deficit in all of fiscal year 2013.

      1. Theres a lot of accounting games going on right now. One of the reasons Jack Lew was put in the Treasury job besides needing someone in there in case Citi blows up (2nd largest derivatives player now in the U.S. and it has a huge exposure to Europe) is that he was known for being an accounting numbers manipulation guru at Citi. He should be in jail, not running our country’s accounting books.

  6. A key quote why LTCM failed, the MBS/CDO’s failed, and why the black swans will be missed by the know nothing experts…

    courtesy of Zerohedge-

    …8. The world is now filled with a large number of people in powerful positions who mistakenly think they know answers to questions, when they really do not. The problem is that researchers tend operate in subject-matter “silos.” They build models based on their narrow understanding of a problem. These models may temporarily work, but as we reach limits in a finite world, these models produce misleading results. The users of these models do not understand the problem and make decisions based on badly flawed models.


    Personal bias also muddies the waters when it comes to investing. Stock brokers tell you to buy stocks, real estate people coined the phrase “now is a great time to buy” bankers and insurance companies will try to sell you their financial products, etc.
    Who (Besides Dave) pushes for diversification? When I say diversification I mean physical metal as well as, or instead of stocks and bonds.

    We have entered The Black Swan game reserve, best to keep your windows rolled up to keep out the black swan droppings that must surely fall.

  7. I think everyone must have heeded your advice, and they are stuck on hold, thus no comments.

    Seriously, Dave, you’ve been going apeshit on this topic lately. I’m tending to think you are right. I will be thinking hard this weekend. Take care.

  8. When you invest in mining shares, how do you manage the trade?

    ie: do you have set stop losses? do you sell when there is a drop in the price? when do you sell?

    1. I don’t trade the juniors. You never know when one will release “game changer” news or be acquired. I play the juniors because I do very careful fundamental due diligence and I only invest in juniors that I think have the potential of at least doubling or tripling without any change in the price of gold. If gold does what I think it will do, many of the stocks I select will be at least 5-10x investments.

      Most juniors are too illiquid to use stops or to even daytrade. Daytrade NUGT. On good days, my best ideas outperform even JNUG.

      If I ever sell, it’s because I’ve decided I made a mistake in my fundamental assessment.

      1. I see you “only” have 4 junior stocks in your reports. With the way I want to structure my portfolio I want to invest in 20 stocks.

        Will you be releasing more reports?

        Also, is it better to invest half in juniors and the other half in mid-tier companies?

        1. Takes time to research and write up good quality research reports. I spent close to 20 hours working Minco Silver and management refused to return my calls. I burned a week working on it. This is my conclusion on Minco:

          FYI, if you do your research well, you should not have 20 of any stock in any portfolio. “Diversification” is a huge myth IF you know who to do the work. I went to the graduate school where modern portfolio theory was conceived and developed. Diversification diversifies away the reason you do research to gain an edge on everyone else.

          1. I believe you about diversification but if you are getting started in junior miners…how do you start?

            Your reports are an excellent start but surely its not a good idea investing all my capital in just a few companies?

            I’m not an expert in this field so am trying to follow a couple people who ARE far more educated in this sector than me!

            I really do appreciate all the time you put into your paid reports.

          2. Thanks for the feedback. Start with getting as much of your money OUT of the financial system as you can. Put most of it in physical gold and silver that you keep yourself, under the guard of lock, key and lead. This is your wealth preservation stash. When I say “out of the financial system” this includes any IRA money and any 401k money you have access to. Pay the 10% penalty and taxes and be happy that paying those charges is still an option.

            For the money want to use that is “hope and pray Dave is wrong about the collapse of the U.S.,” start slowly buying positions in junior mining shares. Take just 2 or my 4 ideas and decide which ones you like and put 10% of your cash in each (5% of cash x 2). Then keep searching for more ideas. Be careful of services like Doug Casey that push very highly speculative names or devote a significant amount of resources to aelling their newsletters. Hell, Casey won’t even acknowledge that the gold market is manipulated. How much faith can you put in his research of mining stocks?

            Invest your money carefully over time and leave your self room to add to existing positions. Junior miners are like watching popcorn pop. They don’t all pop at once and some pop when the rest of the market drops and some drop when the rest of the market goes up.

          3. Dave said, “FYI, if you do your research well, you should not have 20 of any stock in any portfolio. “Diversification” is a huge myth IF you know who to do the work. I went to the graduate school where modern portfolio theory was conceived and developed. Diversification diversifies away the reason you do research to gain an edge on everyone else.”

            What can I say… you are a gem Dave. You got schooled in the belly of the beast and came out with your ideals and objectivity intact. Please keep on writing. 1 Kg Lunar Dragon.

  9. You said “start slowly buying positions in junior mining shares”.

    How long do you think we have to buy junior mining shares until we miss this once in a lifetime opportunity?

    1. I wish I had the answers you seek. At a point you have to gather up as much information as you can and make your own conclusions. The best way to turn a large pile into a small pile is to rely on others to make your decisions for you.

      I think, IF our system doesn’t get completely incinerated, the next move in the miners will be historic and last a couple years. Beyond that viewpoint, I don’t know and neither does anyone else. Not even the insiders.

      1. I appreciate the input. I am learning as much as I can right now before I start to invest in the junior miners. Its quite a steep learning curve for a newbie but reading your website and GoldSilverData has been most helpful in getting me started.

        Please keep all your posts coming, they are excellent!

        Oh, I agree with you re Casey. They have been hopelessly wrong from what I have heard…

  10. Why not just buy NUGT and JNUG ……… i.e., bought JNUG in early June and it’s more than doubled already!!

    Isn’t that just as good as spending tons of time (with little experience) to do research on individual companies? Understand I’m playing “devil’s advocate” here.

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