16 July 2010

Opening up gold's distribution channels

Nick from Sharelynx forwarded two announcements to me today, one on Sprott's new Silver fund and Japan’s first precious metal ETF (actually four of them) where the metal is stored in Japan. The Mitsubishi series name is "Fruit of Gold", gotta love that.

I have been tracking all of these ETFs as well as other publicly reported storage facilities (eg GoldMoney) since 1999. I gave this proprietary data to Nick to combine with his extensive data sources to create a unique time series of these products, which you can find here if you are a subscriber (and if you're not you should be otherwise you are operating in the dark re data on the precious metals markets).

I'm sure we will shortly have some article by the gold haters that the growth of these ETFs are another bubble top indicator. I disagree, and would answer by quoting from a strategic paper I wrote for the Mint's Board in 2001, which probably sounds a bit old hat now:

The demonetisation of gold led to an emphasis on gold as an investment and this was reinforced further with the development of the Krugerrand and subsequent coin programs. However, from this promising start, gold has failed to move with its financial competitors and has thus lost its "market share" of the average consumer’s investment dollar.

What occurred with other investments was a shift from physical to virtual. For example, consumers moved from cash to credit cards, from bank passbooks to account statements, from physical share certificates to electronic registration of holdings. Consumers clearly became comfortable with the virtual form of investments and the convenience they offered. In contrast, however, gold remained physical and therefore became relatively more difficult to purchase and hold.

The result of gold remaining physical was that fewer and fewer intermediaries were willing to offer it to their customers. The two key intermediaries – banks and brokers – stopped offering direct investment in gold because other investment classes, such as shares and mutual funds, were easier to sell. This shrinking of gold’s distribution channels (in some countries it is only available from coin dealers) is it considered to be a contributing factor in the marginalisation of gold as an investment class. Hence, it is not surprising that gold is no longer considered part of a consumer’s investment portfolio.

The arrival of the Internet is accelerating the move to virtual investment categories. Customers will expect to interact through the Internet, especially for "low touch" products such as shares, insurance, and gold bullion. Customers will also increasingly move their banking and investment management online. However, this move will still involve intermediaries, it is just that the intermediaries themselves will become virtual, mirroring the change that has occurred in the financial products they sell. For example, instead of telephoning their broker, investors will trade shares directly with ComSec or Charles Schwab.

If gold is to regain a position on the average investor’s portfolio it must be on the intermediary’s "product list". The response of the gold industry to the move to virtual forms of investment does not address this issue. Virtual gold is only available via direct-to-consumer models, such as Perth Mint Depository Services or online from businesses such as Kitco. However, this approach requires consumers to find and set-up an account directly with the business concerned. These services are also not suitable for use by key intermediaries such as banks and brokers. As a result, gold is not truly "online" as far as average investors are concerned – it needs to be one of a number of investment options available when consumers ring or log on to their broker.

To do this gold needs to be virtual, as shares are. The difficultly is that, unlike shares or mutual funds, gold is inherently physical – failure to insist on physical backing against customers’ holdings leads to the temptation to issue more "paper gold" and with infinite supply, the price and value of gold becomes meaningless. Physical backing is the key to marketing gold as safer than mere paper assets, as something with intrinsic value.

The listing of ETFs on stock exchanges in my view begins the process of legitimising gold as an investment class in the minds of the average investor. However it is a necessary but not sufficient step - a case still has to be made for gold, it still has to be promoted. But at least it is "on the shelf".

The other advantage of ETFs is that they bring transparency to what is an otherwise very opaque market. While ETFs only account for 6-7% of estimated privately held gold, this percentage will increase over time, giving greater insight into the mood of gold investors. Well possibly greater insight, depending on how well analysts read the entrails of changes in ETF holdings.


  1. Gotta love minimum of 10 LGDB (ie ~10k oz) to actually redeem for silver in the Sprott fund. Redemption is for big boys only.

  2. At least it does have a more reasonable physical redemption option.

    Not as good as the original, and first, "ETF" to have physical redemption, the Perth Mint's ZAUWBA, which you can redeem for any of our coins or bars.