A couple of quotes from Andy Smith's Precious Thoughts commentary 19 April 2010 I like:
"the euro, still, arguably the most toxic structured product built by man"
"But this [SEC vs Goldman Sachs] is a never-ending story: The Inquisition -> Salem -> McCarthy -> Spitzer -> and here we are. It's about politics/power/control. Guilt/innocence bit players."
"Goldman were arguably the hub in the wheel [or at least the ball bearings; so this is not Lehman 2, but Lehman *2?]. Big Gov is about to put a boot in the hub. Watch what happens to the spokes: - 'Counterparty' a dirty word? We are closer to that Indian village end-game; extended families the only circle of trust, assets you can sleep nights over and on, in your mattress, the only rational investible products. The opposite of ‘synthetic’ is ‘real’."
If indeed counterparty becomes a dirty word, and people won't trust gold ETFs/GoldMoney/Perth Mint Depository or any other custodial facility, the problem is that the minting and refining industry as a whole does not have the production capacity to meet retail/mass market demand for coins and bars in my view. Look forward to high premiums and/or rationing of production. See my posts:
FUD. Fear, uncertainty, doubt. and
Why are there not enough coins?
Remembering that the ones who made money from the gold rushes were those selling picks and shovels to the prospectors, then if I am right the smartest investment will not be gold, but minters and refiners of gold.
"the euro, still, arguably the most toxic structured product built by man"
"But this [SEC vs Goldman Sachs] is a never-ending story: The Inquisition -> Salem -> McCarthy -> Spitzer -> and here we are. It's about politics/power/control. Guilt/innocence bit players."
"Goldman were arguably the hub in the wheel [or at least the ball bearings; so this is not Lehman 2, but Lehman *2?]. Big Gov is about to put a boot in the hub. Watch what happens to the spokes: - 'Counterparty' a dirty word? We are closer to that Indian village end-game; extended families the only circle of trust, assets you can sleep nights over and on, in your mattress, the only rational investible products. The opposite of ‘synthetic’ is ‘real’."
If indeed counterparty becomes a dirty word, and people won't trust gold ETFs/GoldMoney/Perth Mint Depository or any other custodial facility, the problem is that the minting and refining industry as a whole does not have the production capacity to meet retail/mass market demand for coins and bars in my view. Look forward to high premiums and/or rationing of production. See my posts:
FUD. Fear, uncertainty, doubt. and
Why are there not enough coins?
Remembering that the ones who made money from the gold rushes were those selling picks and shovels to the prospectors, then if I am right the smartest investment will not be gold, but minters and refiners of gold.
Bron, a quote from an article by Paul Tustain you may have read has me scratching my head;
ReplyDelete"Forwards, on the other hand, are hopelessly illiquid. Each was custom built 'over the counter' for a specific settlement day. But forwards really are deals in physical gold – which will settle as Good Delivery bars, on almost every day of the year."
He describes forwards as being important for those who deal in volume, specifically miners. But the pertinent question; how can a good promise to pay in physical gold, no matter its amount or duration, be hopelessly illiquid?
From a Palyian perspective if it is hopelessly illiquid then it is NOT a good promise to pay. Therefore, the bullion banks & in turn their backstop, the Central Banks, are hopelessly illiquid, irrespective of whether they are 'hedged' in the futures market. At some point along the line someone isn't getting their gold back.
I ask again, are these banks holding the worthless 'hedges' of gold miners as collateral for their gold loans?
Interestingly enough, just yesterday Norton, supposedly the fourth largest gold producer in the country, admitted it costs them more to produce gold than they can sell it for, & they are 'hedged' half their production until 2012 at $700 an ounce, WTF!?
What's a 2012 Norton promise worth if they can't turn a profit now?
Unless of course Paul Tustain has no idea what he is talking about. Which doesn't say much for the level of 'expertise' in the gold market.
If you haven't seen it yet, there is an excellent article by Melchior Palyi under 'What's New?' called Illiquid Central Bank, on the GSI (www.goldstandardinstitute.com (for the uninitiated)) site. From 1958!
ReplyDeleteThe forwards Mr Tustain refers to are illiquid because of the fact that they are over-the-counter (OTC).
ReplyDeleteA forward sale by a miner to a bullion bank is a private contract between these two parties, it cannot be "onsold" to someone else, traded on a market. It is like entering into a contract to buy a car - you can't onsell your right to buy that car to someone else if you no longer want the car.
This is not to say that forwards have no value or are bogus, but they are a promise, just like futures. For example, forward purchases from a miner are at risk of non performance if the mine has some production problem and can't produce gold. Same goes for a jeweller - they may go bankrupt and not have the cash to buy the gold when the forward is due for settlement.
I think Mr Tustain avoids discussing this counterparty risk aspect of the forward market. It is something that does need to be considered.
Surely though the involvement of a bullion 'bank' means there exists loan which must be repaid.
ReplyDeleteI understand that in modern practice these loans may not be 'marketable' as in actively traded 'securities', but nevertheless, they cannot be illiquid if they are good promise, there has to be some market for them.
Besides, a contract to buy a car is marketable; to a debt collector if you stop making payments, at a discount of course.
My analogy with with car purchase is not perfect. The reason an OTC forward is not marketable and illiquid is because it is a two way obligation.
ReplyDeleteFor example the miner has an obligation to give you gold in the future, but the bullion bank has an obligation to give the miner money in the future.
Because of this the forward contact between the miner and bullion bank cannot be onsold by the bullion bank to someone else. The contract with the miner does not allow it.
The miner entered into the contact with bullion bank A, which gives it an exposure to bullion bank A. The bullion bank can't pass that forward on to bullion bank B because it changes the counterparty exposure the miner has.
Certainly bullion bank A can securitise its forward contract much like mortagages are, but it takes time to construct the "product", hence they are illiquid.
Bron & Justin,
ReplyDeleteThanks for the discussion re: Paul Tustain's note. I read Adrian Douglas's reply, but it seemed to just reiterate the same message about 100:1, etc without furthering his justification of his dim view of the physical market.
On another topic there seems to be a rumour going around about WA seceeding at the moment. Do I add this to the previous rumours or is this one a bit more serious ?
ABC report use the S word
Thank you for the ABC news link, I will add it to my confiscation article.
ReplyDeleteIs Australia the EU and WA its Germany? It sounds like a tax grab dressed up as a tax review.
Bron, why would a bullion BANK contract with a miner to buy gold forward. Surely it could only be to match a concurrent liability? i.e. the bank has, if not to the miner, lent gold or its $ equivalent to someone else.
ReplyDeleteThe forward is thus the asset, which if illiquid cannot be considered a good promise i.e. the bank is illiquid.
It buys from a miner because the miner asks, not because it already has an existing liability (ie short) position to cover. That is its job as a bullion bank.
ReplyDeleteIt buys forward from the miner then works out the best way to hedge that long position, either:
1. Forward sell to someone (ie someone wants to buy forward), eg a jeweller or a speculator
2. Sell a futures contact
3. Borrow gold for the term of the forward and sell the gold
Alternatively, they can just go long, take a proprietary position.
The same process works in reverse for a jeweller wishing to forward buy gold.
Because OTC fowards all involve custom future dates, the forward sales by miners and forward purchases by jewellers will never line up exactly, nor will they line up with futures dates, so most of the arbitrage/hedging between the forward positions the bank has entered into and the futures market occurs via borrow/lend-sell/buy mechanism.