Repatriation Update

Ronan tweets that FRBNY Dec withdrawals were only 10.31t. As we were expecting 42t, Victor suggests only three options:

1. US gov't tells lies
2. Bundesbank tells lies
3. US gov't loco swapped part of their gold to London so the Bundesbank could get LGD

I think a swap is the most likely and as Ronan notes such loco swaps between central banks occur often. The question is whether it was the US or Germany or Netherlands that requested the swap and who else was on the other side of the swap - I'd agree Bank of England is best candidate.

 

A possible rework of the repatriation schedule from my last post is below.

 

Month	Germany	Netherlands	Total
Feb 14	10.31		10.31
Mar 14	9.58		9.58
May 14	5.16		5.16
Jun 14	5.16		5.16
Jul 14	24.31		24.31
Aug 14	15.47		15.47
Sep 14		7.37	7.37
Oct 14		41.99	41.99
Nov 14	5.16	41.99	47.15
Dec 14	10.31		10.31
Total FRBNY	85.46	91.35	176.81
Swapped		31.65	31.65
Repatriated	85.46	123	208.47

 

The numbers can work with Germany not doing a swap and it being the Netherlands that did the swap but you can mix up the numbers any way. Koos reported that the Netherlands started in October which if true means they must have swapped something as only 99.45t came out of FRBNY over the last quarter and even if you include the 7.37t as a late Sep shipment for Netherlands, which could be consistent with a general statement about an October start, they still had to swap circa 31.65t.

On the side of Germany having done a swap is their reporting of them utilising BIS' "expertise", as the BIS is involved in facilitating transactions in the gold market.

 

The 10.31t figure for Dec gives both Koos and Boehringer something to question the two governments about who swapped - either way Germany or Netherlands has not fully explained that they did not physically repatriate ALL of the gold from the US. Hopefully they can get to the bottom of who misrepresented by omission.

German repatriation - trainspotters only

Quite busy at the moment with a few projects deadlining at the same time, hence the lack of posts. This is a quick post which is deliberately trainspotting detail so no critiques I'm ignoring the big issues. Koos notes that:

 

"January till November 2014 the FRBNY was drained for 166 tonnes, if we subtract 123 tonnes The Netherlands got out that leaves 43 tonnes for Germany. The fact Germany claims to have repatriated 85 tonnes from New York in 2014 means they must have pulled 42 tonnes from the Manhattan vaults in December. By the end of this month (January 2015) the FRBNY will release the foreign deposit data of December and we’ll see if the numbers match."

 

So given the data from FRBNY, how can we construct 123t and 43t (or 85t for the year). I found it interesting that in Koos table 5.16t is repeated three times, that the Feb 2014 10.31t is basically double 5.16t and that the Aug 2014 15.47 is basically 3 times 5.16t. So working from this I get the following breakdown of the FRBNY withdrawals.

 

 

I cannot find any other way to get 123t and 85t. I find it very interesting that Nov 2014's 47.15t less 5.16t exactly equals the Oct 2014 41.99t and the balancing shipment for Germany for Dec 2014 has to be 41.99t. This cannot be coincidental. Issues:

• Is it possible given the somewhat random nature of 400oz bars (assuming that is what Germany and Netherlands are getting) that every shipment exactly equals 5.16t or multiples thereof? (I note that the figures are rounded to 2 decimals, so there could be some small variance if it was shown to 3 decimals).
• 5.16t means over 400 bars that every bar is overweight. I haven't had time to check the US Mint bar list (see here and here) to see whether their distributions shows this tendency to overweight.
• Maybe the coin melt or whatever non standard bars Germany and Netherlands are getting are exact weight bars, hence the identical shipment weights?
• If Germany has been doing 5t every month or so, why the rush to do 42t in December? Would it have not been easier to just do a few 10t months and spread the work out.
• Note that in the Bundesbank release they say that "As soon as the gold was removed from the warehouse locations abroad, Bundesbank employees cross-checked the lists of bars belonging to the Bundesbank against the information on the bars removed" so that is a lot of work for December - 3360 bars to check - rather than just 400 or 800 bars per month.
• Why would the need the expertise of the BIS?
• Why do you need to do a "spot check" if Bundesbank employees are cross-checking every bar anyway.
• What was the "spot check" - given point above it isn't a check of the weight and bar number on the bars to the bar list as that is already being done.
• It can't be an assay check as they would have said that explicitly and in any case if anyone should help with that it should be someone from the refinery doing the reprocessing, not the BIS.
• All I can think is it was weighing the bars (that weren't being reprocessed) on a scale to check the weight was correct to the bar or bar list. Do you really need the BIS to help with that?

I'll just reiterate what I said on 20 January 2014 and 21 January 2014, it is all one big central banking club and as Jim Rickards said, it is all just a "political sop to agitation in Germany's parliament" and there isn't any concern on Germany's part as to whether the US has their gold, and if there is, they can't be seen to be concerned, lest the Narrative of Central Bank Omnipotence be questioned (even more so after SNB dropped its peg).

Straining at gold gnats while swallowing central bank camels

Chris Powell characterised my post on marginal miners as "straining at gnats while swallowing camels". It is an accusation of hypocrisy, that I'm being "very strict and precise in smaller matters of the law, but careless and loose in weightier matters" (see here for an explanation of Chris' use of Matthew 23:24). I'm entitled to a defend myself I guess.

 

Firstly, Chris said my post "argues today that gold's price is being kept down in large part". In large part? The very title of my post said "Gold price may be affected" and I said "this may crimp increases in the gold price" I think that is enough "may"s to qualify my statement and make "large part" an unfair representation of my post.

 

Chris goes on to say that I "overlooking central bank 'production'" and that it is "exceedingly hard to get respectable people to discuss that part of the market". In other words, that I focus on smaller matters while ignoring weightier matters. I assume that Chris is not arguing that gold commentators are only allowed to post on central bank camels and cannot post on smaller gold gnat issues. Therefore I guess he is commenting on my overall 6 plus years of commentary on this blog.

 

Certainly I do focus on detailed technical issues - that is where my expertise lies. It is also partly because that is an area few cover, while almost all other blogs cover GATA's central bank camels extensively enough, so I look to offer something different to those who are looking for a gnat level understanding of the gold market. But Chris' point is that "respectable people" aren't discussing it. Now I don't take it he means the majority of gold commentators are not respectable, but that the mainstream doesn't consider them respectable and will only listen to those it considers respectable.

 

I'm guessing that Chris' comment is that given I work for the Perth Mint that makes me respectable in the eyes of the mainstream. Unfortunately I don't think the mainstream would consider what I say on gold to be respectable and would consider me hopelessly conflicted as my employer makes money from selling gold and thus from a higher gold price.

 

In any case, when it comes to central bank camels I think I have looked at these weightier matters, and in a far more considered manner than many. For one, I did a 10 part series on fractional reserve banking (starting here) with this one specifically on the role of central banks and how "central bank lending of gold allows the bullion banking system to expand gold credit and this extra supply suppresses the price". I doubt that can be considered shirking from the matter. Consider also these selections from my blogging history (with select quotes):

• Central Bank gold reserves transparency: So if it is good enough for the Reserve Bank of Australia to report this level of detail with respect of its gold reserves, I think it is fair to say it should be good enough for other central banks
• The Bundesbank & the Narrative of Central Bank Omnipotence: central bankers use ... use public statements to play the Common Knowledge Game and drive market outcomes by proxy."
• Central banker pop quiz on gold: that was just to scare people off investing in gold, because do you really think we don't understand gold when we employ over 300 Ph.D. economists and have written hundreds of papers on gold
• Why gold's contango suggests central bank interference: the fact that gold has been in contango for "essentially all of the last 25 years strongly suggests central bank interference with the gold market
• Reserve Bank of Australia Gold Sale: governments will want to be re-elected. Rather than take the tough decisions, they will turn the inflationary tap back on. For that reason, I believe that gold will again have its day.
• Counter to Ben Bernanke's The World on a Cross of Gold: Bernanke’s words, much like Temin’s and Eichengreen’s, contradict his argument. If central banks could absorb and sterilize gold, “reflecting conscious Federal Reserve policy,” the central bank, not the gold standard, was running the show
• To roll or not to roll, that is the central bank's question: Moves to return gold are eminently sensible, of course: what is the point of a country having its gold out of its immediate physical control if everything goes to hell. That is really the whole point of having gold reserves.
• The death of gold: the theory of suppression of the gold price misses the point. To kill gold you don't manipulate its price, you manipulate its volatility
• Central Bank Selling: The end result will be gold in the hands of individuals and what I call “the decades long privatisation of gold” will be complete. As per Professor Fekete, the power over the money “supply” will then be in the hands of the average person, where it should be

And finally, Australian Gold Confiscation, where I drew attention to a previously ignored mechanism by which the Reserve Bank of Australia could enact confiscation in Australia. I would argue the above is plenty of drawing attention to camels, particularly for someone who whilst speaking on this blog personally, still works for a government where politically neutrality on policy matters is expected.

 

Tone is very hard to get in the written word, so let me say I'm not at all fussed by Chris' comments - I can take as good as I can give - and I don't expect Chris to have read all of my 450 blog posts and understand where I'm coming from. Hopefully, Chris, you'll reconsider your J'accuse?

Gold price may be affected by marginal miners not going to company heaven

Izabella has a post on FT Alphaville on the changing structure of the oil market. The point of interest for me is that the speed with which shale oil can be developed, as well as shut down and restated, means that "the clearing price of oil in a shale world needs to be much, much lower to dissuade unnecessary investment, and also needs to rise much less significantly to encourage it when it is necessary".

 

The take away for the gold market is that the run up to $1900 no doubt resulted in a lot of marginal gold mines being developed that probably shouldn't have been. At current prices these are not profitable on an all in basis but they are holding on as prices do cover marginal cash costs. We need a much, much lower price to really kill this potential supply but this hasn't happened - we haven't seen large numbers of bankruptcies or care & maintenance mothballing occurring. The fall in the oil price will probably give these mines some breathing space.

 

As the money spent on developing these mines is a sunk cost, the problem is that they will stay around and we only need the price "to rise much less significantly to encourage" them to continue producing gold on a cash costs basis. The result is that this may crimp increases in the gold price compared to the situation where a lot of the sub-standard projects would have been cleaned out and the potential for increased supply on any price increased would have been muted.

 

Rick Rule has been talking about how few listed junior miners are worth investing in. Unfortunately the oil price drop may mean that the others don't "go to company heaven" resulting in a sideways gold price as they keep on producing any time the price shows strength and affecting the marginal supply/demand balance.

Why asian gold contracts/exchanges haven't been able to crack the London market

The idea that gold would be released from its manipulated western shackles if only a physically settled Asian gold market could be established had its fullest expression in the 2011 Pan Asian Gold Exchange (PAGE) hype/meme. PAGE failed because of the political naivety of its exponents that "there can only be one" in the Chinese gold market, namely, the Shanghai Gold Exchange (SGE).

 

In 2014 there was a flurry of activity in Asia with the SGE International Board, Singapore Exchange's (SGX) gold kilobar contact and now, the CME's announcement of a loco Hong Kong kilobar gold future contract.

 

The future for CME's new contract doesn't look bright, with Reuters noting that the "25 kg contract on the Singapore Exchange and the three new international contracts on the Shanghai Gold Exchange have failed to garner significant trading volumes." As Silver Watchdog tweeted, SGE announced they would be exempting international members and customers from all fees for six months "with a view to encouraging international members and customers’ participation in trading and delivery activities on the International Board". Not exactly something you need to do if your contract is successful.

 

The CME's new contact seems pitched a little better than the SGX's, being in lots of one kilo (versus SGX's 25 kilos) and in USD per ounce (vs USD per gram). I would note that CME's Comex contract, while for 100oz, can be settled in three kilobars (although it is a 99.5% purity contact compared to 99.99%) and this similarity would be behind the CME's promoting of it "providing spreading and arbitrage opportunities with other world gold markets virtually 24 hours a day", which seems a pitch directly targeted towards traders, not physical users.

 

However, no matter how well the contract specifications are designed, I think CME's new contract will go the same way as SGE and SGX and the reason is hinted at in the blurbs for the two contacts:

• SGE: "there is an increasingly compelling need for a transparent and centralized Asian price discovery platform for the kilobar gold market"
• CME: "will offer a liquid and cost-effective price discovery tool and a precise risk management instrument that accurately reflects the underlying kilo gold market in Asia"

A compelling need for price discovery by whom? The problem is that these exchanges are only looking at one side of the market - the demand side. Certainly importers, distributors and manufacturers large enough to trade a kilo contract would want more transparency on kilobar premiums. But it takes two to tango and these new contracts have little appeal to the supply side (which is not miners, BTW).

 

The mistake of the exchanges I think is that they thought that if they created a contract which appealed to the demand side, which is composed of many firms, that the supply side, which is composed of refiners but primarily bullion banks, would follow. The problem is that the supply side is dominated by a handful of firms and the banks, who intermediate most of the supply to consumers, are quite happy with an opaque kilobar premium market. Why would the banks want to disintermediate themselves out of this position?

 

The only way to break this would be for an exchange to get all of the demand side to insist on only buying via the exchange. Given the large number of participants, this is next to impossible as the bullion banks would hold out until defectors looked to get a jump on their competitors. I would note here that many of the consumers are also looking for finance/delay settlement with their purchases, something the exchanges don't offer. Bullion banks advantage is they can provide both physical and finance in one deal.

 

If we ignore the asymmetry of the number and size of the suppliers versus the consumers, there is also the practical realities of the kilobar market where demand at the various locations changes frequently. After doing a deal with a consumer, bullion banks can ship the physical from a refinery direct to the consumer. The exchange contracts however require physical to be shipped to their warehouses for settlement, and from there we have another shipment leg to the end consumer. This is not as efficient as an over the counter (OTC) trade where metal can be directed quickly to where it is needed. It is funny that in the CME's new contract FAQs that they acknowledge this sort of market structure when they say that "with OTC clearing through CME ClearPort, you can continue to negotiate your own prices privately and conduct business off exchange" yet the contract they propose works against the current kilobar market structure.

 

The exchanges were given a hint of the problem by this comment made at the LBMA Singapore conference (I didn't catch the person making it) "whether a benchmark can compete or become established depends not just on its volume but also whether there a big enough premium/discount due to fundamental difference between the location and existing benchmark locations from a physical point of view". The brilliance of this comment is that the person making it knew that the loco difference between London and these Asian markets just isn't big enough to suck liquidity to the new venues - and knew that the exchanges didn't know.

 

The current OTC kilobar market is highly efficient with the spot price being traded basis the liquidity and depth of the London market and just the kilobar premium being negotiated separately on a client by client basis based on location/shipment cost, finance and purity (99.50% and 99.99%). Trying to compete against that while imposing a need to ship into a warehouse instead of directly to client, and require exchange settlement and clearing (with margin), while the client still has to deal with the bank anyway for finance, is a hard ask.

 

In the end China is probably best placed to win this game as they can force all of their consumers to trade through the SGE but as Adrian Ash at BullionVault noted "only a truly liberalized gold trade, with foreign cash and gold flowing in...and out...right alongside China's domestic flows will challenge London's 300-year old dominance." And that is still some way off.

WGC overstating Turkish gold reserves

In Koos Jansen’s latest post on the Turkish gold market, he has an interesting chart that shows that while the World Gold Council (WGC) has been reporting that the gold reserves of the Central Bank of the Republic of Turkey (CBRT) have increased from 116 tonnes to over 500 tonnes since late 2011, in actual fact CBRT has not bought any gold over that time.

 

It is a result of CBRT allowing Turkish banks to deposit gold with the central bank to meet their reserve requirements. Legally such gold is then owned by CBRT (as the Turkish banks are only holding a claim on their central bank for gold) so technically it is correct for the WGC to show it as reserves. However, I note that CBRT told Koos that gold so deposited “will show up in Central Bank balance … as “liability” to the bank which brought this gold”, so arguably the WGC should also take the liability side of a central bank’s balance sheet into account and only show the net gold position.

 

In effect what the WGC is doing is just looking at one side, the asset side. My problem with this is that most people are not aware of this CBRT policy and use the WGC gold reserves figures, and changes in them, as a way of gauging central bank demand for gold. Clearly in the case of Turkey the WGC figures are misleading to the majority of users and overstate central bank demand. I think it would be better for WGC to adjust the IMF figures to reflect the actual net gold owned by central banks and report any increases in gold held by a central bank against gold debts to its banks as a separate line item.

 

It is not as if the WGC is not aware of this issue, as on their quarterly reserves changes spreadsheet  they say that “this table aims to show major changes in reported central bank reserves and the reason for the changes, which are not always the results of sales or purchases” and proceed to note the Turkish policy. Additionally, the do not include changes in CBRT’s reserves as central bank purchases in their commentary in their quarterly demand trends report.

 

You may then wonder if the WGC is doing this deliberately as it overstates central bank demand, helping their pro-gold agenda. The fact that they are more than willing to have the chart on this page default to include Turkey's inflated figures would support that view.

 

However I think it is more mundane than that. In the notes to their spreadsheet of central bank reserves it says that the data is “taken from the International Monetary Fund's International Financial Statistics (IFS) and other sources where applicable.” It is not like they are reviewing individual central bank reports, so it is just a case of not being bothered to review individual central bank annual reports and policies and make any appropriate adjustments (and its not as if they don’t make any adjustments, because in the notes they say that “where the WGC knows of movements that are not reported to the IMF or misprints, changes have been made”).

 

Whatever the reason, given the inconsistency in the way central banks report gold reserves, leases and swaps (see here) and the resulting potential for double counting, the WGC should not add to the confusion by failing to make simple adjustments. Consistency in the way they report data is essential to avoid the potential for misinterpretation on a topic as important as central bank demand for gold.

Chinese gold demand and SGE withdrawals: the role of leasing and inventory changes

Following on from my and Koos posts on leasing (here and here), Koos and I have been discussing leasing and SGE withdrawals. Koos says that when the gold is leased it’s transferred from the lessor’s SGE bullion account to the lessee’s SGE bullion account. It can then be:

1. sold spot on the SGE by the lessee (ie miner, or speculator).
2. withdrawn from the vaults. In this case it’s very likely the gold is leased by a jeweler for production - why else get your hands on the physical?

In this post I'm interested in the second point and what it means for interpreting SGE withdrawal figures. In short, to the extent that manufacturers are building inventory to support increased demand (or vice versa), SGE withdrawals will overstate (understate) the real amount of demand that affects gold prices. Now for the long version.

 

In my opinion, when looking at demand (or supply) figures what we are really interested in is getting a handle on what is affecting the gold price, that is, how many people are in the market to buy or sell gold. From that point of view we aren't interested in gold flows which don't involve any buying and selling. For example, if I told you that a huge amount of gold was going into Switzerland that is certainly interesting, but if all that gold was just people moving allocated from vaults in London to vaults in Switzerland then it wouldn't be as useful, because such actions didn't affect the gold price as no one was selling or buying. There might be some secondary information value in that fact, eg maybe it indicates that those holders are worried about the London market and are more likely to hold on to their gold and less likely to sell in the future, but it isn't impacting current price discovery.

 

In the same way, when manufacturers lease gold it doesn't impact the gold price. In effect, gold investors are moving their gold from a vault and placing in the factory of the manufacturer - no buying or selling goes on. It does have a secondary feedback impact, in that leasing activity affects the lease rate market, which in turn affect futures/forwards (ie GOFO), which impacts the attractiveness of shorting gold, but this is in the future and probably of marginal impact.

 

A few years ago I tried to explain unallocated within a manufacturing business using the analogy of water and pipes. Many thought it was more confusing than clarifying but its the best way I can explain it. Leasing is like pumping water from a dam into a long pipe to a town. Nothing flows out at the other end until the pipe is full. Only then water starts coming out (eg jewellery being sold) and results in water being pulled in at the other end from the dam (eg buying gold bars). The initial filling of the gold production "pipe" has no effect on the gold price market until the production processes are full and gold can start flowing out as finished product.

 

In the case of China and the SGE, any leasing for physical use by manufacturers will impact withdrawal figures. As a simplified example, consider someone starting a new jewellery business which takes 1 month to turn bars into finished jewellery. At the beginning of the year they lease 100oz, take delivery from the SGE and make jewellery. At the end of January they sell this 100oz of jewellery and then use the cash from their sales to immediately buy 100oz of bars on the SGE, which they withdraw so they can make it into jewellery to sell in February.

 

In January, the SGW would report 200oz of withdrawals - 100oz from the lease and 100oz from the replacement buying. In February they would just report 100oz of withdrawals. Over the whole year SGE withdrawals would therefore be 1300oz when actual, real, price impacting demand was only 1200oz.

 

If business picked up for our enterprising jeweller half way through the year and they wanted to double production, they would borrow another 100oz. This would give them 200oz of inventory which they could turn into 200oz of jewellery. The result would be 1800oz of jewellery sales (6 months of 100oz and 6 months of 200oz) but SGE withdrawals would be reported as 2000oz.

 

This simplified example should show that wholesale demand figures are inflated and don't correspond to actual end consumer demand, which is what is actually driving gold prices. How far apart they are will depend on industry inventory turnover, production efficiency, scrap/wastage rates and how they are settled (on SGE or as toll refining) and other factors. I don't have a handle on these figures and I don't want to overstate the impact, as I'm sure Chinese manufacturers turn their inventory over pretty quickly, but this inventory build and reduction needs to be considered in respect of seasonal consumer demand patters (eg Chinese new year), certainly on a monthly basis.

 

The other point is that over the past few years as China has opened up (at least internally) its gold market it has grown substantially and accordingly, the size of the jewellery and minting businesses have also grown and with it the amount of gold tied up in their inventories. That amount in aggregate is not insignificant and in my opinion means accumulating SGE withdrawal figures over multiple years is misleading - I'm looking at you Nick and this chart of yours that the blogosphere loves :p

 

Using Sprott's PM funds to get physical at spot

Another month, another redemption from Sprott's PHYS gold fund, 29,761oz. SPPP also had 2,424oz of platinum and 5,539oz of palladium withdrawn. As indicated last month in this post, this activity is arbitrage driven and only occurs in these funds, and not PSLV, because they trade at a discount to their net asset value (due to a lack of investor interest).

Jesse is the only other blogger I know covering Sprott's funds and he has a different explanation, that it is due to "the mispricing of gold bullion and the tightness and leverage behind the scenes in the physical gold market". I disagree with him because as the chart below shows, the redemptions in PHYS don't occur when their is no arbitrage profit to be had (that is, when PHYS trades at a premium, see here for an explanation of the chart).

I find it hard to believe that the bullion market's tightness just happens to correspond with PHYS premium/discount patterns. Also, they are only taking out a tonne of gold once a month, which would hardly help at all.

I think it is worth pointing out that the redeemability option for Sprott's funds make them a better investment than totally closed funds like the Central Fund of Canada, as the capability for NAV discount arbitrage means that there is a cap on how big the discount will get. Compare that to the minus 10% discounts the Central Funds are currently at.

Jesse also notes that PSLV's "cash levels have fallen below one million. There is going to be a secondary offering to bulk up those cash levels some time this year." Whether this occurs will depend entirely on PSLV's premium getting to staying to around 5% in my opinion. In this post I got a confirmation from Sprott "that they would not do a deal that would have a material impact on PSLV’s premium." On the chart below I've pointed out where two secondaries occurred in the past on PSLV's NAV chart.

You can see that a secondary results in a hit of 3-4% to the premium. With the premium currently sitting around 1% Sprott isn't going to do a secondary as that would push PSLV into a discount: certainly a "material impact". You may then ask what happens if the cash goes negative, surely they have to raise more cash. Correct, but they can do that by just selling metal from the fund, just like GLD and SLV do to pay their fees, instead of by raising money from issuing more units. The chart below shows the historical cash balance of the three Sprott funds.

You'll note that SPPP went negative in March 20014 and it wasn't until late April that the fund's cash was topped up - by a liquidation of 600oz of platinum and 1400oz of palladium. Given SPPP is currently negative to NAV and negative cash, another liquidation will occur shortly.

At current burn rates PSLV's cash will go zero mid-February. Based on SPPP behaviour, Sprott should be willing to fund the fund for a month or so but if the premium doesn't get up to 5% then I'd forecast around end of March they'll sell silver from the fund to top up the cash.

So we have a situation where Sprott funds are unlikely to get too big a discount, nor a premium above 5%. This does create an opportunity for the patient investor will a bullish view to buy physical at spot. Just buy Sprott's funds when their share price dips below NAV and then wait when they get to a premium and sell them and use the proceeds to buy coins/bars. PSLV has presented that opportunity three times in the past two years. The strategy is more problematic with PHYS, which seems stuck in negative - you'll probably have to wait for gold prices to recover and thus investor money to flow back into PHYS bidding up its shares relative to NAV. The risk is that will also correspond to a stronger market for coins/bars so premium may also rise, but I don't think they will initially rise too much beyond what you should be able to get out of PHYS when investors get bullish on gold again.

Being aware of the true nature of unallocated accounts

For those new to precious metals, this guide put out by Global Precious Metals out of Singapore is straightforward and draws attention to a number of important things to consider when buying and storing precious metals, with little bias to their own offering. Plus you don't have to provide an email to access it, like many free guides require (h/t Bullion Baron for tweeting about it).

 

I've met Vincent and Nicolas (on an introduction from Grant Williams, who is a Non-Executive Director in the business) and these two guys know their business. You may be surprised why I'd mention/recommend a competitor, but at the Perth Mint we believe in diversification of your holdings and know many of our larger clients hold precious metals in multiple locations, so I don't think there is any point trying to "keep" all of a client's business to yourself, against their own interests. Vincent has a handy diagram to illustrate location diversification (although of course I'd add Perth as one of the stable safe jurisdictions).

 

I'd like to draw attention to Vincent's discussion about unallocated accounts. He says "that most investors holding an unallocated account are not aware of the true nature of such account" and I certainly think this is true. Vincent advises that "if the account documentation mentions insurance, chances are high that this is not an unallocated account". I would also suggest looking for very clear wording in storage agreements as to whether the metal is on or off balance sheet of the provider, what they are doing with the metal, how it is stored and so on. I have seen a number of unallocated accounts, usually offered by small coin dealers, that are completely vague on this and that is a warning sign. If the facility is not clear on exactly what they are doing, then stay away.

 

That is why you'll find the Perth Mint is very upfront about its unallocated and how it is different than the high risk fractional stuff offered by banks. Vincent notes that "those offered by reputed refineries are probably the safest option" as they are backed by the inventory of the company but he also says that such facilities are usually "only reserved for professional dealers (with the exception of the Perth Mint". In the case of the Perth Mint, this will not always be the case. Perth Mint stopped offering unallocated silver and gold will eventually close to new investors as well, as there is only so much metal we need for our operations (tip: you can tell something is not a Ponzi scheme if they close it to new inflows).

 

Regarding ETFs, one point I'd add to Vincent's concerns is to look at the diagram he has and note that the more people involved, the more fingers that can be pointed when something goes wrong, a point I made in this article.

 

One part I'd disagree with Vincent is on the London Bullion Market where he says that "a run on the London Bullion Market doesn't appear probable, but very likely", although I agree investors should stay away from this market if they are buying gold as insurance. I did a whole series of posts on the fractional bullion banking system, starting with this post, and whilst it is not easy going, it explains why this system has defied claims that its failure is imminent. That is not to say that it is safe and won't blow up, but the case for its instability is overplayed I think when you look at how it works (and can be backstopped by central banks, if they have the physical to do so) in detail.

India gets serious about anti-gold policy

It seems the talk of getting Indians out of hoarding physical gold and into deposit schemes (see this post on WGC/FICCI proposed gold policy) is reaching the highest levels with reports last week that Indian Prime Minister Narendra Modi called "upon banks to convince people to channel their savings away from gold into financial instruments" by convincing "people that a bank is as safe and as reliable as they perceive about gold". Good luck with that, but we shouldn't underestimate the Government's resolve and the resulting impact on gold.

 

I note that this article also makes reference to a policy to converting India into a cashless economy. I think this is less about improving productivity as Modi is quoted as saying, and more about eliminating the cash economy and increasing government revenue. Gold is part of that cash economy and hence this gold mobilisation move is also about targeting black money.

 

Even if these measures don't work, the scheme to "to provide all citizens with bank accounts" would have some impact on gold demand at the margins. Probably the only thing that would really help to kill gold demand in India would be as RBI governor Rajan was quoted as saying (and he obviously understands the real issue why Indian's hoard gold) making "positive real interest rates, i.e., yield higher than inflation rate, the cornerstone of his monetary policy-making." That is going to be a tough ask.