A Melman Minute By: Leonard Melman   NOTE: In order to complete Mr. Melman's forthcoming book on the essential fundamentals of the developing international financial crisis and its relationship to gold and silver, new "Melman Minutes" will be posted only three times per week, each Monday, Wednesday and Friday. Since the work has been expanded to include potential solutions to the growing list of seemingly insoluble dilemmas, the working title of the book has been revised to 'REVERSING THE WAY IN!"   MELMAN MINUTE - May 14, 2010 - - - - - During my youthful days growing up in the city of Winnipeg on the Canadian prairies, I spent many happy summers in the resort town of Winnipeg Beach on the shores of, you guessed it, Lake Winnipeg.  The greatest attraction at Winnipeg Beach during the 1940s and 50s was the giant roller coaster, which I rode many times as a youth, thoroughly enjoying the exciting ups and downs of that 'monster'.  Well, that coaster had nothing on the movements in the price of gold during the first three hours of trading in today's commodity markets. One look at our short term chart illustrates the point.  Please note that after opening with some good relative strength, the gold Exchange Traded Fund (ETF) suddenly plunged by three dollars - or the equivalent of $30.00 in gold's price - within just one hour, then turned around and rose by the equivalent of $20 in the next hour, only to turn downward once again.  One can only wonder what awaits us during the remainder of today's trading session.  And gold is not the only item trading through wild swings as the US Dollar Index, copper, interest rates, crude oil and the financial markets are all making outsized moves as well. ................    While gold has been the focus of intense attention during the past few days as it races to historic new highs, its 'junior partner', silver, has been somewhat ignored.  When the historic trading relationship between the two is taken into account, traders might be making a big mistake if they do not pay close attention to the white metal. One of our favorite relationships when it comes to metals trading is the gold/silver ratio, which has ranged widely through the years.  In the old metallic monetary era of the nineteenth and early twentieth centuries, that ratio was held near sixteen-to-one, but since the legal basis between monetary metals and currency was shattered, that stability has been broken.  Since that time, the ratio has had a tendency to expand when the metals are in decline and contract when the metals are in high demand. As examples, we would point to 1980 when gold peaked at $850 and silver at $50, a ratio of 17:1.  During 2001, when both metals were relatively weak, gold bottomed at $257 while silver plunged to $3.90 - a ratio of about 66:1.  By 2004, the ratio had reached as high as 75:1 with gold near $420 per ounce while silver languished below $6.00.  Since that time, we have seen the ratio fluctuate in a general range between 60:1 and 75:1.  This morning, with gold at $1,230 and silver near $19.25 the ratio stands at around 64:1. Silver's actions can also appear deceptive at times, such as in recent years when gold has hit a historic new high while silver remains modestly below its 2008 and dramatically below its 1980 heights.  But beneath the surface, silver may be ready to reassert itself as it is beginning to make exaggerated moves compared to gold - both up and down.  During the 2008 decline, gold fell from 1030 to 680, a drop of 350 dollars or about 34%.  In the same time frame, silver fell from $21 down to $8 - a drop of sixty-two percent.  From that period until the present, gold has rallied from $680 to the present peak at $1,250, a gain of $570 or 84%, but silver has risen from $8 to about $20, a gain of nearly one-hundred fifty percent. Our interpretation of these historic moves is that as gold falls, people dis-horde their monetary metals and, given its lower price, there is a greater negative effect on silver's price.  However, during periods of monetary excitement - such as we are now witnessing - as the price of gold soars into new heights, many small investors become priced out of the gold market and turn to the other - and lower-priced - monetary alternative, silver. Accordingly, we believe that if the monetary crisis continues to intensify over time, history has given us many examples to indicate that silver may clearly outperform gold in percentage terms, perhaps by a wide margin. ............... The strongest argument being presented for a continuation of the financial markets' rallies of late is that the world economies have been 'cured' of the afflictions that brought about the 2007-9 collapses and we are now entering a renewed period of sound prosperity.  If that is the case, the behavior of several key commodities is strange indeed.  We note three in particular. We regard copper as a virtually pure industrial play and therefore find it curious that the price of copper is suddenly in serious decline just as the political establishment is crowing about the improving economic structure.  Copper has recently fallen from its peak of $3.70 to a low of $3.00, rallied a bit and is now once again headed lower this morning.  The sharp drop from peak to recent low has been nineteen percent. The drop in the price of lumber has been equally sharp, falling rapidly from a peak of $329 to a recent low of $263, a drop of $66 or almost exactly twenty percent.  Again, we must ask the question of how the price of lumber has turned so rapidly to the downside if this new era of prosperity and industrial expansion is now upon us? Without burdening the reader with too many charts, it is also worth noting that a similar drop has taken place in the price of Crude Oil with that commodity falling from its recent high of $87 per barrel to this morning's low of just above $71, a drop of  approximately $16 per barrel or about eighteen percent. One might explain that the rise in the value of the American dollar could account for these changes, since those items are priced in Greenbacks, but that, by itself, is not an adequate explanation.  During the same period of time as these declines, the US Dollar Index has risen from near 80 to about 86 - a gain of less than eight percent. Something is clearly out of whack, so to speak.  Perhaps the market will sort some things out over the remainder of this trading day.  As of 10:00 AM PDT, financial markets are trading to the downside in both the USA and Canada, with the Dow Industrials and Canada's TSX Index each down by about 170 points.  Gold is now virtually unchanged on the day at just under $1,230 per ounce while silver, platinum and palladium are all showing sizeable losses.  Base metals are sharply lower and mining share indexes, not surprisingly, are also down, but only moderately.  Crude oil continues lower, now trading near $71.60 per barrel and the Greenback remains the star performer in international currency markets. - - - - - All quotes US$ unless otherwise noted. Our next "Melman Minute" is scheduled for Monday, May 17.  Perhaps some sense of normalcy will be restored to the world's markets by that time.           ◄  Previous Minute                                                                                                        Next Minute  ►
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