Backwardation

With indicators from macro-fundamentals (e.g. retail sales, core capex, inventory-to-sales) to market-oriented measures (VIX levels and backwardation, HY credit spreads, commodity prices) all flashing various colors of dead canary in the coal-mine red, we thought today's colossal spike in the Arms (TRIN) Index was a notable addition.

That's what happens Larry when there are 64 million shares short and only 52.3 million shares outstanding...

Two state-owned Chinese oil trading companies (Chinaoil, which is the trading arm of state-run China National Petroleum Corp. and Unipec, which is owned by Sinopec) have been busy monopolizing the Dubai spot market, as a bout of suspicious trading activity between the two has served to distort prices and confuse other traders.

While all eyes are on the front-end of the VIX term structure, today's volatility term structure in the out-dates is now higher than they were at the close on Monday at "peak crisis." VXX - the VIX ETF - is still surging, as the massive short position continues to get squeezed amid the ongoing backwardation in VIX...

That's what happens Larry when you have 64.08mm shares short against 59.5mm shares outstanding... and traders read this (and the VIX is stuck in backwardation).

While oil prices are surging (global economic meltdown averted), stocks are back in the green on the week (crisis averted), and bonds are collapsing (not because of China selling according to the mainstream because "everything is awesome" again), we point traders' attention to the continued inversion in the VIX term structure. While well off the peak crisis levels, we have a long way to go to "normalized" levels of risk...

While the PBOC was literally everything in its power to keep the Shanghai Composite above its 200-day moving average as some sign of 'stability', it forgot about that other proxy of overall Chinese economic health: copper. And just as we warned previously, ever since the CCFD crackdown in 2012, copper has been tumbling and more crucially has just broken a 15-year trendline. The plunge in copper means almost one in five mines globally is losing money.

Both the October and December gold contracts are backwardated, and Feb '16 contract is not far. The gold market is tight. Why?

It began in Dec 2008. To understand it, it is necessary to understand two principles. The first is that gold is money and the dollar is credit (which is currently worth 28.4mg gold). For the second, we emphasize it's not just price, but separate bid and ask prices.

For those who are speculating on the dollar—i.e. most people—there was good news. The dollar rose to 28.3mg gold. It’s a big gain, and welcome news for those who keep all of their eggs in the one dollar basket.

In a January 2013 report “Report of the Working Group to Study the Issues Related to Gold Imports and Gold Loans by NBFCs”, the Reserve Bank of India estimated that the ratio of paper gold trading to physical gold trading is 92:1. That is a lot of unbacked paper gold instruments. This has almost entirely separated the “gold price”, such as it is (the clearing price for vast volumes of paper gold “representations” with a fractional backing) from the fundamental supply and demand dynamics for actual physical gold bullion.

As Mr L. famously quipped. "Ever get the feeling you’ve been cheated?"