One must know what the FRA-O-IS... or IS O is FRA'd...
Among what I read in prying hidden words from between lines...
Markets now are hard wired to enable commodity price suppression in expectation of steadily declining prices resulting from... long list of stuff, including incentive structures re banks vs corp "club" management... that fosters short selling forward as "what you do"... while it advantages the bankers trading and corporate consumers of materials at producers (shareholders) expense... Some of that purely evil and corrupt... but, explains why a producer like CDE loses money for a generation without it changing anything... even though the bigger and more successful they become... the less a share is worth. The charts end up resembling the constant decline rates in the 3X levered funds... where the capital cost eats the share price at a more or less steady pace over time... because... that's exactly it... operations are not designed or managed to produce profits... but designed to enable producing "cheap" metals paid for by consuming capital... chart below...
But, beyond the easy in management surrender to $ as "from the bankers" instead of "what we make"...
that structure intends to subsidize materials consumers at producers expense and does so... as a means of transfer of wealth from producers at the bottom... to... manipulators... but, also, to the top of the hierarchy...
Concentrating profit into "the end product" vs "across contributions"... works as power is unequally distributed... by design... and enforced... rewarding the few...
Oil is an exception in the model;... because OPEC... protects resource owners and producers interests...
But, include in that set of structural drivers the byproducts of globalization that include seeking the few, biggest, most massive and capital intensive projects where-ever they are... as offering the "highest efficiency and lowest cost" over very long lifetimes... and in result... massive costs and outputs also mean capital coordination to avoid competition... or market disruptions... all of which are increasing "fragility"...
But, also, it is not independent of the parallel model seen in the export of U.S. jobs to China... as many small companies in competition are replaced by one large state-owned entity that becomes a monopoly.... all enabled by the re-deployment of capital on industrial scale... resulting in... fragility...
And, all of that... results in the re-structured flows in trade... yes, fragility,... but, more the point here is it results in the same dynamic in "transfers" and concentration of profit as the mining model... it funds that with the wage disparity... and, through the trade cycle... by the export of inflation from the U.S to China, and the export of deflation from China to the U.S., and it is only by that sustained flow... that interest rates have been bought down over decades... through the transfer schemes...
Wage parity in China... ends that cycle... as a simple fact of economic reality. And that means... among other things... fragility risks become realized and supply chains fail... along with trade based on the fragile mercantilist monopoly model vs trade based on other competitive advantages... As it fails, inflation (and growth) return to America, as they cannot be exported any more... and, deflation (and decline) return to China, as they cannot be exported any more...
The deflation exported to America... is what enabled the constant decline in borrowing costs... even as risks grew with wages approach to competitive parity... forcing a shift to competition based on other values.
That's the context... but, it means the entire global structure in trade... is no longer sustainable... and, along with other change... suppression of commodity prices to advantage large monopoly focused corporate consumers at producers expense... is also not sustainable... in the way it was.
As inflation returns... costs rise... and as costs rise... quickly find out you can't produce commodities at a loss and survive long. CDE survives doing that... by financialization exporting the losses to shareholders... not different than pink sheets in constant reverse splits, convertible note scams, and rinse and repeat...
But, "commodities super cycle"... where the price suppression of gold, and silver fails... and they correct to parity, and better, with oil... ? What were the barrels per ounce in the 1950's vs the 1970's ? Fragility risks realized force awareness that super-sized is not most healthy... but least competitive due to scale issues... only more when "noise" disrupts flows and market access... But, downsizing... is not economic in the large scale operations... where its relative value in mostly in mass of capital applied... not in relative value in other competitive elements. That mass of capital accumulated both enables... and controls... so scale must be maintained... to feed the capital...
Prices rising... shifts balances... favoring producers over consumers / manipulators, restoring lost balance... as the "ledger" side is wired to the model... it requires capital costs continue declining over time to rationalize the transfers... so, COMEX suddenly at risk a year ago.. and the "same" in news today re oil, and nickel...
I wrote about all this long ago as "tides turning"... not fast... but inexorable... with a calm in the slack... before eddies appear in reversals in prior flow. Welcome to eddies... slack tide no more...
Back to the specifics of now... classic liquidity crisis... because ? More liquidity drives more inflation instead of more of anything else... once the pieces start drifting apart... they don't go back together. And, tomorrow... QE ends (stopping a huge liquidity flow) QE reverses (contracting liquidity) and rates rise... (reducing liquidity)... all while velocity is near historic lows... ? But, the rate rise is the least significant in terms of any real or immediate impact... which the market will not comprehend... making it the most significant in perception changing... only in being recognized where the QE reversal is not... as marking the end of a forty year long trend fostering all the change we've seen in the last forty years...
Forty years of growth in China... funded by America... and forty years of decline in America... enriching the elite and beggaring the 99%... in a trend that is now ending and reversing...
The markets are not prepared for it... don't understand it... and that's Fed's fault in large part... as fostering a lack of transparency in policy designed and intended to ensure people don't understand... and, when they don't understand... can't prepare to cope with change being imposed... that they don't understand ? Anyway.
In the nickel case... they refused to act as the trade rules required... protected the failures... not the market. And, sure, easily rationalize the choice as "too big to fail" yada, yada... just "more of the same" as 2008...
Now, in oil... "doom loop" logic... says... we must avoid the doom... even with price controls... ???... thus the walk down in the oil price... forced as a risk reduction... because pick your own bullshit explanation... as that works in preventing markets running away and imposing risks we don't want... as we can't afford them any more... since money suddenly very tight... and can't afford to lose any money... or even take usual risks ?
Except... that won't really work to prevent prices reflecting reality... as more than a temporary expedient. Lying about the reality... MOPE it... only works until the lie is forced to fail... as inflation exploded the Fed's "transitory" bullshit MOPE effort... as predicted... The maneuver space... is really limited to the manipulation of prices in the range above the OPEC base price... so they can take oil down a peg by eliminating "the price speculation" only while imposing LARGER risks in the failure of markets enabling hedging...
Losing the ability to hedge... will make markets less efficient... which will not force prices lower when there is a genuine shortage forcing them higher. And, that's where we're headed...
Commodities super cycle... also means power shifting from "them"... back to the producers... call this series of events that we've seen the last week or two.. proof # 1...
They can let prices rise... or have the sustained effort in suppression put them at risk of failure... which sounds oddly like the OPPOSITE of what is being argued here... except for, there is a dynamic, and risk is risk, whether the long or the short of it... risk is the wrong side of the trade where risk accumulates. And, that, the basis of the Basel III trade... to manipulate the trade to fund shedding the paper short risks ?
Reverse engineering Pozsar's main point, Abate notes that the latest concern among markets is that "trading companies that are long the physical commodity and short derivatives as a hedge are experiencing steep margin calls from their exchanges" and Indeed, two central counterparty clearing houses (CCPs) have already raised their margins on energy contracts in the past week. To meet their requirements, Abate explains, these firms have to borrow large amounts of cash on very short notice, which puts strains on their bank lenders. And in order to raise the cash necessary to lend to the trading companies, their banks are tapping the CP market and pushing unsecured funding rates higher and spreads wider.
Short squeezes in commodities might suggest... don't be short commodities ?
I would shift the focus to "the margin"... margin calls in the trade, now, as prices and thus risk in the short trade rise. That's just a good old fashioned short squeeze, no ? But, also, the margin in the cost of production versus prices won and impact on the ROI of producers. That commodity producers sell forward and take on risk... instead of selling from inventory held... is an artifact of the financial environment in which they are starved of capital... thus engage in finacialization schemes... play the banks games... while forced to survive on a narrower margin... to allow others margins to expand... in the transfer scheme. But, if prices rise instead of falling all the time... producers might reduce risks and expand ROI... with longer transit and holding periods in process... that result in inventory built... which is not a risk shed in forward sales as prices decline... but value being held as prices rise.
Miners whose management understand that... routinely punished by Wall Street for seeking to implement sound business practices that benefit shareholders. I've chatted about it a lot... including as "alternate capital" growth occurring in royalty companies... as a proof of banks failure in not adequately capitalizing miners... when they could have. The shift occurring now... not only tilts the field in value... it also says... lending will be getting tighter... and that means companies that succeed will tend to be those who reward shareholders... instead of bankers... as the costs of lent money grow... and constrain those who borrow... while the cost of equity money declines... as the value backing it expands... The tide is reversing... and all associated structures face a reversal in the dynamics in the markets...
Yes, Abate may not want to admit it - after all mundane, boring explanations are far more palatable for institutional sellside strategists who would much rather not make waves (just please explain to your readers why your bank just decided to suspend share creation and make a mockery of its VXX ETN if nothing is wrong with the market), but Zoltan was right again.
The oil price issue... is resolved by the logic of the argument above, which is: "You choosing to own oil, is a risk that we cannot take". That means... in their calculus, as they manage their casino... that you being long oil forces them to be short oil... and they don't want to be short oil, now... or, actually, can't afford to be...
The same sorts of stresses appeared in 2020... as funds responded to investors piling in to short oil, first, as it fell, and then try to go long as it rose... by ending their 3X oil and gas ETFs. The move back up got missed by many because the funds they traded got terminated before the bounce. Today... most of the funds have backed off the leverage... to make them 2X versus 3X... while cheating on the X by going to longer contract dates than the current contract... thus avoiding short term volatility... access to which is really the whole point of owning them. Bottom line... the banks let you place bets they expect you to lose... but won't let you place bets they expect you to win... So, when the bank TELLS you... "we won't take that bet"... ???
The reason they won't... may be explained as "technical"... may be "tied to costs"... or "excess volatility"... or maybe they just won't sign up to knowingly lose a bet... But, in the language of the market... there is no real difference between any of those explanations...
Several studies have looked at the connection between margin calls and market stress, and most have focused on a margin call "doom loop" in which higher margin requirements force fire sales into an already illiquid market where prices were gapping lower, which in turn triggered more margin calls, and so on. At the same time, these assets become harder to finance in repo, and with less access to financing, investors are forced to sell assets, which in turn increases the market dislocation, re-triggering the asset price and funding loops.
Translated... says only that a large change in the basis in the trade whether due to change in price or risk...tends to force liquidation events to raise cash and reduce holding risks...so, either rising risk or cost in a holding can force prices to drop in a sudden "fire sale"... ie., "a market crash" occurring for non-fundamentals reasons... but due to market structure issues... which is exactly what happened in oil prices last week.
So, to BTFD, or not to BTFD... ?
The "risk off" move is not without risk itself... as you will see at Barclays... as they're going to be losing customers now... because traders can't trust them to meet their obligations to make a market. They'll move accounts to trade with others they can trust, instead. And, bigger picture... if the market can't handle the risk of funding trading in oil... not just the trading... but the oil in the market will all tend to move and go to markets that can manage the liquidity required to sustain trading.
Thus: Absent a central bank liquidity injection "circuit breaker", such a self-reinforcing doom loop could have catastrophic results.
So, they have to fix that... or the global economy will collapse. But, none of them are used to the idea of "non financial things" mattering that much... so they may be slower to act than useful. Odds are good that without Pozsar's erudite insistence people notice this set of emergent issues... there would already be a smoking hole where the global economy used to be. And, as far as "risk"... worth considering before you go lobbing financial nukes at other people... as you have such obvious risks being exposed in result... that are entirely self induced errors... but now clearly labelled in bright flashing lights saying "warning, please do not press this self destruct button" ???
It also highlights... they did what they did... without preparing at all... without knowing what risks it imposed?
That shouldn't surprise anyone... or make them any less concerned about wrenches dropping in gears ?
Should note... I haven't seen a huge rush of $ into miners, yet... but, the rush into nickel, and oil... became so frenetic "they had to kill the price function to save the price function"... ?
Color me skeptical...
CDE chart... showing 32 years of accumulated "growth" and "value"...
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