Silver Spot Price Discovery ...
From Silver Futures Auctions

Silver futures are traded on commodity exchanges like COMEX … an abbreviated name for the former Commodity Exchange, Inc.

Now COMEX is owned by the CME Group -- based in Chicago with its live trading pit in the New York City area.

Earth and Gavel

Although there are other international exchanges, COMEX has the world's highest volume of silver and gold futures trading.

An exchange assumes the role of auctioneer.

Exchanges provide a platform for buyers and sellers to trade futures in a competitive environment.

Participants must follow predetermined specifications and rules. The only variables that are decided during an auction are listed below.

  • Are you buying or selling?
  • What is your price?
  • How many contracts are you going to buy or sell?

Price discovery is a consequence of the auctioning process as buyers and sellers determine what is in their best interests.

In a moment I’ll discuss how the silver spot price emerges from certain silver futures pricing agreements. But first, I want to summarize a few differences between spot trades and trading futures.

Spot Trades

A spot agreement requires immediate payment (within a few days). And delivery of the silver immediately follows receipt of “good (cleared) funds” by the seller. Therefore, when you buy silver coins or bars it is generally considered a spot trade.

Silver Bars and Philharmonic Silver Bullion Coins

That is why silver bullion dealers use the current silver spot price as a reference point to price their coins and bars.

Trading Futures

A futures trade is a price agreement in the present. However, payment and delivery occur during a future contract delivery month.

These agreements reflect buyers' and sellers' expectations of future silver prices.

The buyer in a futures agreement has the open long position ... the seller the short position.

For example, some buy silver futures to hedge a cash purchase of physical silver that might lose value if silver prices drop moving forward.

Others buy futures contracts to profit from future price changes. Typically this buyer type (speculator) is not interested in taking possession of the underlying asset (gold or silver bullion).

Please visit here to read examples of hedging and speculating with silver futures.

Nearby Contract Months

A futures contract month grows closer in time (nearby) and eventually becomes the current delivery month. Contracts with current month delivery dates cease as futures and become cash for silver transactions.

At COMEX the current delivery month ends on the third from the last business day of the calendar month. The next current delivery month begins on the second to the last business day of the previous calendar month.

Using this month as an example, February 2012 (leap year), February is the current delivery month and will remain so through Monday, February 27. March becomes the current delivery month on Tuesday, February 28.

Calendar

The nearby silver futures contract month generally means the closest month when the silver bullion may be delivered and the contract expires.

However, actual delivery of the silver bullion is rare.

Active Contract Months

During certain contract months, trading at settlement (TAS) is allowed. This means a trader can liquidate (exit) his/her open position with an offsetting trade ending the obligation to exchange silver for cash.

In the US (COMEX), the active contract month is the nearest, but not current, base contract month. For instance, if the current month is May, the active contract month for silver futures is July (see grey box below).

At COMEX the active contract months for silver futures are March, May, July, September and December. For gold futures, COMEX's active contract months are February, April, June, August and December.

Having the option to offset a futures contract without having to complete it - deliver silver/gold - results in much higher trade volumes for active contract months.

Therefore, since some contract months have very low trading volumes, exchanges discover spot prices from nearby active contract months with higher volumes.

Spot prices are used by gold and silver bullion dealers as reference points to price their products. Please visit here to learn how gold and silver prices of various coins and bars are determined.

Who Stores The Silver Traded On Futures Exchanges?

In the US, only COMEX-approved depositories store the silver bullion involved in futures trading. But if you purchase a futures contract and hold onto it until it is completed, you can personally take delivery of your silver.

Vault

However, once the silver moves outside of the COMEX-approved network, it must be assayed if you wish to sell it on COMEX.

Having your silver assayed is a certification process that ensures your silver bullion bars meet COMEX specifications.

All silver futures contracts traded on COMEX must specify 5,000 oz.
of 99.9% pure silver made by an approved refiner.

So the minimum amount you must buy or sell on COMEX is 5,000 oz. of silver bullion (i.e. five 1,000 oz. silver bars).

I hope this clears up some of the mystery concerning how the silver spot price is discovered from silver futures prices.

Please visit here to read my comments about silver spot price volatility.

Please select a link from my navigation bar to learn more about gold bullion and silver bullion.

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