Gold & Silver: Parabolic or Catch-Up? - Part II

From the 12 Temptations blog

The distinction between financialised supply and physical metal is easy to describe in theory and strangely difficult to hold in the mind during calm markets. When liquidity is abundant and delivery is rare, claims and commodities blur together. A contract behaves like a thing, and prices move smoothly enough that the difference feels academic.

That illusion tends to persist until it doesn’t.

For most participants in modern metals markets, buying or selling gold and silver does not involve bars, vaults, or transport. It involves exposure. A position expressed through futures, forwards, swaps, or other paper instruments. These markets are deep, liquid, and highly efficient at matching buyers and sellers of risk. They are not designed, first and foremost, to move metal. Delivery exists, but it sits at the edge of the system rather than at its centre.

The Asymmetry Between Paper and Physical Supply

This arrangement has advantages. It allows producers to hedge, investors to gain exposure, and markets to function at a scale that physical exchange alone could never support. But it also introduces a subtle asymmetry. Creating a paper claim is easy. Creating physical metal is not. One scales elastically. The other does not. Over time, that difference matters.

In futures markets, a seller does not need to possess metal in order to sell it. They need margin, access, and confidence that the position can be rolled, offset, or settled financially. Funding costs have historically been low. Leverage has been readily available. The system rewards activity, not possession. Physical buyers, by contrast, must pay in full, arrange storage, and accept illiquidity. Their participation is slower, more deliberate, and harder to scale.

This imbalance does not require coordination or intent to shape outcomes. It is enough that incentives align in one direction. When supply can be expanded cheaply in financial form, and demand is constrained by physical reality, prices tend to reflect the marginal ease of selling rather than the marginal difficulty of production. The market clears, but it clears through abstraction.

When Equilibrium Is Sustained by Abstraction

For long stretches of time, this works. Paper supply satisfies most demand. Volatility remains contained. Delivery rates stay low enough that the system is never seriously tested. The distinction between owning exposure and owning metal fades into the background, and prices settle into ranges that feel stable enough to anchor expectations.

The problem arises when that background assumption begins to change.

Delivery as the Point of Contact

Delivery is the point where financialised markets touch the physical world. It is where claims must either be honoured with metal or re-negotiated in cash. In normal conditions, only a small fraction of contracts ever reach that point. Most are closed, rolled, or offset well before expiry. This is not a flaw; it is how the system is designed to function.

But when more participants choose, or feel compelled, to stand for delivery, stress emerges. The system can accommodate some increase. Inventories can be drawn down. Metal can be mobilised from elsewhere. But these adjustments are slower and more constrained than paper issuance. At a certain point, the elasticity that defines financial markets gives way to the rigidity of physical supply.

When Price Is Asked to Do Different Work

This is where price behaviour begins to change character.

Volatility increases, not necessarily because sentiment has become unstable, but because the market is being asked to reconcile two very different forms of supply. Price must now perform a rationing function. It must discourage marginal demand, attract marginal supply, and compensate holders for the inconvenience of parting with something tangible rather than rolling a claim.

That process is rarely smooth. It does not resemble the steady grind higher or lower that technical models are comfortable with. Instead, it produces sharp moves, sudden reversals, and periods of apparent disorder. Liquidity thins at moments when it is most needed. Spreads widen. The market becomes jumpier, more sensitive, and less forgiving.

From the outside, this can look like speculative excess. Price moves faster than narrative can keep up. Headlines multiply. Explanations lag. But internally, something more mechanical is taking place. The market is discovering, perhaps belatedly, that not all supply is equal.

Accessibility, Not Existence

This does not mean that every delivery request represents a crisis, nor that inventories are about to vanish. Physical metal exists in many forms and locations. But availability is not the same as accessibility. Metal held for long-term reserves, jewellery, or strategic purposes does not flow freely in response to price alone. Mobilising it involves time, trust, and cost.

When markets are forced to acknowledge that distinction, price must compensate. It must rise not only to clear trades, but to overcome friction. That friction is invisible during periods of surplus abstraction. It becomes painfully visible when abstraction is no longer sufficient.

Structural Limits and Indicator Strain

What makes this moment particularly difficult to interpret is that futures markets were never intended to function as permanent substitutes for physical exchange. They were designed to manage risk around production and consumption, not to define price indefinitely in the absence of delivery. Over time, however, their success at providing liquidity allowed that role to expand quietly.

The result is a market structure that works exceptionally well until it is asked to do something it was not optimised for: reconcile large volumes of financial claims with finite physical supply. When that happens, price behaviour can appear erratic not because the market has lost discipline, but because it is operating under constraints that are rarely visible.

This helps explain why traditional indicators may struggle in moments like this. Measures of momentum, overextension, or mean reversion are calibrated to environments where supply responds smoothly to price. They assume that extremes invite countervailing forces that restore balance. But if those forces are slow, constrained, or unwilling to engage, the expected correction may be delayed or distorted.

That delay does not invalidate the indicator, but it does change its meaning. An “overbought” reading may still describe stretched positioning, but it no longer guarantees timely relief. Price can remain extended not because participants are irrational, but because the system lacks the flexibility to resolve the imbalance quickly.

Adjustment, Not Resolution

None of this removes risk. Markets under stress can overshoot in both directions. Sudden liquidity events can trigger sharp reversals. Financial players forced to manage margin, funding, or regulatory constraints may act abruptly. Physical holders may respond unevenly. The presence of structural tension does not make outcomes predictable or benign.

What it does is complicate the narrative.

If price is rising because financial claims are being reconciled with physical reality, then volatility is not merely a sign of excess. It is a symptom of adjustment. That adjustment may overshoot, stall, or reverse. But dismissing it outright as speculative froth risks missing the underlying mechanism.

This is where patience becomes an analytical virtue rather than a behavioural one. Interpreting markets under structural strain requires resisting the urge to classify too quickly. It requires holding the possibility that price is doing necessary work, even when that work looks uncomfortable or disorderly.

The distinction between paper supply and physical reality does not tell us where prices will settle. It does not guarantee that current levels are justified or sustainable. It does, however, remind us that markets built on abstraction behave differently when abstraction is no longer sufficient.

In such moments, familiar signals may still speak, but they speak with accents shaped by conditions that are easy to overlook. Understanding that accent does not confer control, but it can reduce the risk of mistaking adjustment for madness.

Looking Ahead

In Part III of this inquiry, we’ll look more closely at delivery itself. Not as a technical detail, but as a stress point that reveals how price, liquidity, and trust interact when claims are finally tested against reality.