Precious metals bulls question why metals prices keep falling in the face of what appears to be strong demand and great fundamental reasons for prices to move higher instead.

The bears have some answers of course. You can’t eat gold, it’s basically a pet rock, and modern financial systems are doing just fine without anything as antiquated as bullion gumming up the works.

The bears are declaring victory and saying the market has spoken. They ought to look a bit deeper into recent developments.

Outside of the price action, there is very little to support claims that gold and silver are relics of the past.

Lately, the real answer to the bulls’ question about why prices are headed lower isn’t the stuff of a lengthy philosophical debate. These days, the answer seems to be a lot simpler; huge demand for physical metal hidden behind an enormous glut in paper supply. And the actual physical metals are shifting into new hands.

Without looking, you would never know that exchange inventories are falling – a combination of demand for physical bars and a dearth of sellers willing to furnish actual metals at the current price.

The natural dynamic is for prices to move higher, but the market has been completely overwhelmed by a huge increase in leverage. Unfortunately, there is no end to the supply of paper gold and silver contracts the trading exchanges will stack atop a shrinking layer of physical bars in their vaults.

The amount of paper gold has tripled relative to “registered” stocks available for actual delivery. This has happened in just the past few months. Just one ounce of registered gold now backs nearly 300 ounces in COMEX contracts (as depicted in a chart we re-published last week from Zerohedge.com).

Stated another way, that’s razor thin coverage of just 0.0033. Trouble is brewing. About 1% of contract holders have been standing for delivery in recent years. So we could see requests to deliver 3 times more gold than is currently in the registered category in Exchange vaults.