Monday, April 22, 2013

The Difference Between Paper and Physical Gold

Gold ownership is now divided between strong hands and weak hands. The strong hands are Russia, China, some of the other central banks, and anybody else who is buying gold for cash in physical form, without leverage.

The weak hands are retail jumping into GLD, at a top, using margin, futures players, and people who don't really understand gold. There are a lot of trend followers out there who started following gold on a trend basis, but didn't really understand anything about gold, or how it works, etc.

The hedge funds turn out to be weak hands, not strong hands. The reason is they've got redemptions. Hedge funds don't have permanent capital. They may have monthly redemptions, or quarterly redemptions, or one-year lockups, or whatever it is, but it's not permanent capital.

When they get the drawdowns, and they start getting redemption notices, guess what? They have to sell to get cash to meet the redemptions. And that feeds on the selling.

So, there is a lot of dynamic that is not unique to gold, because it would be true of any over-leveraged situation, there are a lot of new players who don't understand gold, and then there were a couple of very specific events that started the unwinds.

But it looks like it's found its level. The last weak guy puked, and now we'll go from here.

- Source, Business Insider, read the full article here: