24 August 2008

"The" Gold Price

The recent US Mint coin production suspension has, unsurprisingly, resulted in a bit of a premium developing on small forms of gold and silver. A few people have interpreted this as an increase in the "real" price of gold compared to the "fake" price (ie COMEX) and proof of manipulation.

My view is that coin prices are not the real price of gold and should thus not be accorded too much weight in trying to analyse what is happening in the gold market, particularly as it is small compared to the overall market. There are various prices for gold:

1) Spot Price. This is the price for wholesale 400oz bars for immediate delivery (actually, the market works on 2 day settlement) usually ex-London as traded in the over the counter (OTC) market. This is the "real" physical price and is the basis on which all the other prices are set.

2) Futures Price (eg COMEX). This is the price for delivery in the future (ie whenever the next contract is). Americans love to quote this price like it is "the" price of physical gold. It is not, it is a future price. It is related to the spot price, with differences reflecting the relative costs of borrowing cash and gold. COMEX type prices are just an exchange traded version of the OTC forward price, which is a lot more flexible as you can set any date of maturity and amount.

3) Exchange Traded Fund Price (eg GLD). This is a proxy for the spot price, because it is based on physical gold in 400oz bar form. Because any significant dealer can deliver physical (or take delivery) in exchange for shares (or deliver shares) its price will never significantly diverge from the Spot Price except to reflect the costs associated with the share creation/redemption process.

4) Retail Price. The price for small, non-wholesale amounts of physical gold (coins and bars). It is usually priced based on the spot price plus an additional fee to reflect the cost of turning 400oz bars into smaller sizes. This is a physical price of sorts, but it is not the spot price and can diverge from it if manufacturers don't forecast demand correctly and run out of or get too much inventory. All that is occurring is that the premium to the underlying gold value (based on the spot price) is changing based on shortage or excess of small forms of gold. Until the manufacturers can get metal from the spot market and convert it into small forms, the retail price will continue to diverge from its normal price.

The first three prices, because they can be traded in large quantities for wholesale forms of gold, will always stay in alignment. Why can I be so confident? Because I am relying on one of the few certainties in life - people like to make money. As the first three prices are for forms of gold that can be interchanged with little cost and delay, they are easily arbitraged. You can be 100% sure that no bullion market dealer is going to forgo easy profit for any length of time. Therefore there is nothing "fake" about the COMEX or ETF price - they are intimately linked to the spot price.

In contrast, the retail market price will diverge from the other three prices because wholesale forms of gold are not quickly or cheaply convertible into small forms of gold that the price represents. Arbitrage will still occur as manufacturers are not going to sit by while large coin/bar premiums go begging, but the response will be sluggish due to the lead times in making retail products.

Also note that what we see happening in the retail physical market or GLD or COMEX is but a small part of the overall market. As discussed in this blog what we can see represents about 2% of the entire gold market. By far the majority of trading occurs in the OTC market. If you want to know what is really happening, you need a contact in the industry who deals in large volumes. For most commentators this is not possible, so all they have to work with is GLD or COMEX or the US Mint's little problems. Unfortunately, this lack of information means people are over emphasising or extrapolating what happens in the markets they can see, resulting, in a lot of cases, the wrong conclusions.


  1. Bron,
    I think you are being very gracious and kind in your description of what is going on in the retail segment of the market. Retail buyers have been hysterically energized by a few recognized touts. As to why these people are accorded credibility, I'm not sure, but I reckon a few social scientists / psychologists could build a very interesting study out of the dynamics going on here.
    It seems that a relative few commentators ideas are picked up by other commentators and repeated, and before you know it, and idea has become accepted wisdom.
    I noted in passing that one of the touts is selling 2500oz (if I recall correctly) silver on eBay. Now why would such a "bull" on silver be selling (and advertising the fact across the goldbug web) ? He knows that he can replace it at around the spot level, that's why.

  2. Keith, are you saying it is conspiracy by retail bullion dealers to inflate the price of coins and bars!?! No, no, I don't want to believe it, it can't be, if so you can't trust anyone anymore?

    Somehow I don't think this particular conspiracy theory will get picked up and run with for some reason.

  3. Bron,

    I need to correct my previous comment. The tout in question is not auctioning on eBay, he is holding his own private auction where he invites bids by email. This con artist knows no limits - he is publicly declaring that he is holding a closed auction (ie. bids are not publicly posted), but apparently that's not a problem.

    Having monitored eBay sales on and off for some time, I find it quite strange that recently, people insist on purchasing retail forms of bullion at sometimes 40-50% premium to the quoted retail price of the producer. In 2006 I could purchase silver bullion on eBay at up to a 40% discount. Those days will return once this retail bubble pops. I guess that's just 'swings and roundabouts' for Perth Mint and other manufacturers.

    These touts are certainly putting the con in conspiracy !


  4. I hope none of those buyers are Australian. I bumped into our shop manager today and she said she recently did a sale to a guy for 5000 x 1oz kookaburras (silver).

    At those premiums it must be cheaper to buy from us and freight it over to the US!

  5. Bron,
    Great blog - industry insight is a rare and valuable source for us retail guys. Have become so bored with the incessant perma bull chatter, regardless of price or timeframe.

    The only point I would make on your gold price article, is that retail will ultimately sell back into retail in most cases (I certainly plan to use ebay), or wherever they can get the best price (some dealers, Tulvig, are now bid over spot to retail). So the OTC/Comex price may be completely irrelevant.

    Which brings me to Keiths comment...he bought at 40% discount and could now sell at 40% premium. Nice work! I wish I'd used ebay earlier, I started buying PMCP and on GM back in 2005, and foolishly paid 4% over spot (albeit $7/ oz). Bron - any truth in the rummours on Kitco that Perth have stopped selling 1000oz Ag bars?

    Keith, you are wrong about Mr Hommel, he showed 6 bids so far, the highest being almost 28% over spot. He isn't selling his own silver, but even if he was, I don't see how he could replace it near spot. The public can't take delivery of a futures contract.

    I am a big fan of silver (and gold) but don't care about conspiracy /wars / financial meltdown. To me these are undervalued assets and a good way to preserve wealth (annoymous, fraud free, no credit risk etc).


  6. No, they are still selling 1000oz bars and 100oz bars. I think the prices he mentions are our retail shop's, which deals in small sizes. The Depository still sells them. On this artilce http://seekingalpha.com/article/92890-sorry-there-is-no-silver-conspiracy?source=wl_tab in response to some claim you can't get physical silver I left this - and he hasn't called Gordon yet.

    "Davinci - if you are serious, 1000oz silver bars ex-Perth Mint in quantity you require are available for immediate delivery. Call Gordon Smith +61 8 9421 7431 Perth business hours. He will reserve them for you over next couple of days - mention "davinci"."

  7. Vesp,
    I rarely go near Hommel's website these days, so thanks for filling in the details, however I don't understand why he would need to be brokering an auction - but I guess its good exposure. I get the impression that he is one of the prime movers in whipping the US retail crowd into a frenzy. I first got an inkling some months ago, when he made allegations about a "Perth Mint crisis", meanwhile my Perth Mint orders were (and still are) being filled like clockwork. Having identified this dissonance between Hommel's allegation and my purchasing experience, I theorized likely future developments, one of which would be the emergence in his writings of 'recommended' US dealers/suppliers, who still have/can get inventory. This has now occurred. Regrettably, Hommel has now been filed under 'shill'. Of course, if Perth Mint dries up suddenly, Hommel will be immediately re-filed under 'acute and perspicacious analyst', but I think asteroid impact is more likely. I feel for the guy - he is riding the tiger (his adoring public), and doesn't realize yet that he needs to get off.

    In regard to eBay, I would emphasize that I am still on the buy side of the market, and I am speaking from an Australian (AUD) perspective. My prime point of comparison is the Perth Mint price list, as they are always reasonably close to spot. When I look at eBay prices or other dealers, it's relatively simple to compare and see who is cheapest. At present Perth Mint is cheapest, so that's where I go. As previously mentioned, when eBay was cheaper, I went there. Yes, happily some of those cheap eBay purchases could now be sold back to Perth Mint (ie spot) at around 40% profit, and I guess upwards from there on eBay, but at present, this is not particularly relevant. In another post, Bron discusses investment timeframes. I probably fit in the investor/insurer category in so far as physical holdings are concerned.


    I don't know if Aussies are buying as there is more privacy for buyers these days, but my eBay search criteria is specific to Australian sellers, so I would expect that a significant proportion of the buyers would also be Australian. Amazing, eh ? Your buyer of 5000 kookaburras might be trying to become an instant eBay power seller.
    I watch a few items on eBay from time to time. A recent example :
    10oz Perth Mint bar sold for $355 plus $10 postage on 5/8/08
    I estimate that I could have purchased the same bar from Perth Mint for approx $195 on 5/8/08.
    A lousy 82% profit - hardly worth getting out of bed for ! And it was an Australian buyer - oh dear.
    When they next update the standard english dictionary, they ought insert the above example in for the definition of hysteria.


  8. Sorry, that link I tried to embed didn't work
    Try this.


  9. Very interesting Keith, I don't begruge anyone trying to make a profit out of someone else's stupidity. It isn't difficult to look up gold & silver merchants in the yellow pages, ring around for a few calls and establish that the ebay price is a rip off. Maybe people just feel that because it is on ebay it must be a bargain?

  10. A quick look at that ebay purchasers history shows you he even buys discontinued fiat paper. Ironic that old 'worthless' paper is re-valued over time once it becomes scarce again.

    Hommel lost a lot of credibility with me as well over Perth Mint. He generally means well, but seems too emotionally attached to his 6 tonnes of silver.

    You guys are lucky in Oz - I don't know of any other country that offers cheap and plentiful physical gold and silver to retail. North America is probably just in a fabrication bottleneck and premiums should ease back next year. But Europe will always command a high premium (ebay etc) as there is little or no dealer/coin shop network and high taxes on bullion. All silver bullion is taxed 17-23% depending on which country. Throw in the shipping, handling, insurance, lack of supply and you end up with 40-50% premiums as a base (in the good times).

    So all the recent commentary about retail tightness is massively dependent on what part of the world you live in. Arbitrage opporunties abound for small amounts, but it's not easy or cheap to do any size (and then you get into the whole privacy issue - reporting to Cutoms and Excise etc)


  11. I do think our situation is special, I mean AGR Matthey has 5 tonnes a month coming out of its pipeline from mining for a population the size of one US state, so shortage for local demand is not really going to occur.

    You do make a good point about the distribution network - I think in the bear market up to 1999 local coin dealers just folded up, no one wanted to by precious metals. Now when you have demand returning there is no infrastructure as such to supply it efficiently.

    The Perth Mint is perfect and should have been better at dealing with its clients over conversions to allocated and collections of physical, but there were a number of non-conspiracy simple reasons for what happened. Anyway, I think that episode got their attention and they are back on to it - we haven't heard anymore from him on it about further failures to deliver because there hasn't been but that doesn't make a good story.

    One of these days I will do a blog on the conspiracy against the Perth Mint!

  12. Sorry, I meant to say the Perth Mint is NOT perfect, maybe I was wishing it was!