First, a basic definition. A COMEX default means that they will not be able to actually deliver enough silver to meet the obligations of contract holders are due on a given date.
The futures markets turn into actual products on the monthly delivery dates. The interesting thing with silver (as previously discussed) is that there has been a steady decline in the amount of silver that COMEX has to meet settlement deliveries over the last two years. We are coming down to the end of this journey. A basic (though perhaps wrong) extrapolation of the line set us up to have zero silver available sometime in the fall.
At that point, I expect a combination of things to happen.
1) The price of silver will rise to entice holders of silver to sell their physical silver. There is still plenty of "eligible" silver in the COMEX warehouses, but it is not "registered" and thus not available for sale.
2) In response to the rising price of silver, regulating bodies will step in to mitigate the rise. This could take the form of margin hikes (CME in May 2011), forced cash settlements (LME in 2006), or an outright prohibition of purchasing silver futures(CFTC & CME in 1980). They allowed only sell orders in response to the Hunt Brother's actions!
3) People may begin to demand audits of silver ETFs (SLV) to find out if they actually have the silver that they claim. I have no insight to whether they actually have that silver or not. However, the action alone wold put downward pressure on the ETFs. This would in turn, put downward pressure on the price of silver, because they are a major day-to-day participant in the silver market.
4) Huge movements in the price of silver (up and down) as people try to figure a semi-orderly way out of the situation.
The Nickel default at the London Metals Exchange in 2006 is probably the strongest comparable case to our current situation. However, there are number of themes from the Hunt Brother's actions of 1980 that may also provide clues to what will happen. However, given the current fiscal crisis in Europe, the budgetary issues in the United States and the sustained and popular retail interest in precious metals, today's situation in silver seems broader (and bigger) than either of those other events. This suggests that the price action will be stronger, but also the regulatory response will be larger as well.
In any case, I think it means that the price of silver goes higher…but how much higher (and with how much volatility) is very unclear.
You can find the daily updated number of outstanding contracts here:
Also, the chart showing ounces of “registered” silver in the COMEX is available here:
One contract is worth 5000 oz of silver. As of this week, there are 27.72 MM ounces available. That is only enough to settle 5,544 contracts. There are still 28,081 contracts open for July. So the potential for July default exists. My guess is that we will scrape by in July. Enough people will settle for cash and roll over their contracts to future months. However, there are still 40,990 contracts outstanding for September and that may be enough to break the camel’s back.
As of today, there 93,023 contracts outstanding for the months remaining in 2011. Since there is only enough COMEX silver to satisfy 5,544 of them, we are in for interesting times. If the simple rules of supply and demand actually hold, we will be looking at MUCH more expensive sliver by the end of the year.
How much higher is anyone's guess.
MONKEY BUSINESS:
Buying: VXX @ $23.55
Holding: AGQ ($159.70)
