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No Indian gold import policy change explains RBI gold swap

<div dir="rtl" style="text-align: right;" trbidi="on">After a lot of speculation about what changes the 2014 Indian budget would bring for gold import policies, we got zip. That now supports my speculation on why the Reserve Bank of India (RBI) announced, ahead of the budget, a combined quality and loco swap of its gold: it was a temporary political fix to the problem of:<br /><br />1. Making promises to the gold industry during the election campaign that it would wind back gold import restrictions.<br />2. Reality, once in office, that such relief on gold imports would negatively affect India's current account deficit.<br /><br />Standard political MO: "Oh, it is a lot worse than we thought, we can't honour our promises, it is the previous Government's fault". Interestingly, on the eve of the budget the Indian gold industry hadn't read the warning signs and thought there would be relief, with Bachhraj Bamalwa, of All India Gems and Jewellery Trade Federation, speculating that the duty would be cut to 6% and even that <em>"the government might remove the 80:20 rule in a gradual, 'phased' manner"</em>. This view was probably helped along by statements from the Government like <em>"any action on gold should take into account the interests of the public and traders, not just economics and policy"</em>. Well it is clear they sided with economics and policy.<br /><br />There were some warning signs, with this Reuters article quoting commentators noting that the Government was <em>"moving back and dithering on their decisions, and in a sense playing politics".</em> Another sign was this Report that <em>"India risks losing its investment-grade sovereign rating if it fails to get its finances into shape"</em> with S&P warning <em>"there was a one-third chance of a downgrade </em>[of India]<em> to "junk" without a big improvement in the fiscal deficit and in implementing reforms."</em><br /><br />For me, the strongest sign the new Indian government was going to back away from its promises was the RBI gold swap announcement and the local gold industry should have paid more attention to it, because its timing was very unusual: just before the election about gold which had been sitting in RBI's vaults in India for decades. Why was this non-standard gold suddenly an issue?<br /><br />I think it is a reasonable speculation that the RBI knew in advance that the new Government could not open up the import restrictions and have a flood of gold imports affecting the current account deficit and the country's rating. This gold swap was then a planned action to placate the industry by releasing supply into the local market in a way that would not affect the current account deficit.<br /><br />The RBI is aware of the local gold supply issues, have loosened the 80:20 rule a little in March by allowing some banks without three years worth of exports to import gold, but only on the basis that they had current customers to export gold to (see this Reuters article).<br /><br />Sidebar: the clear message from the Indian session at the recent Singapore Gold Forum was that it was the 80:20 rule that halted gold imports and not the duty hikes. On that basis I was expecting some duty cut as that would have made it look like the Government had done something while not making any difference to how much gold could be imported.<br /><br />So how does this gold swap work and not impact the current account deficit? Firstly, a swap involves two legs, as explained here, in this case being:<br /><br />1. Sell non-LBMA standard gold loco India<br />2. Buy LBMA standard gold loco UK<br /><br />No doubt the RBI had some interest in upgrading its non-standard gold (as it makes it easier in the future to mobilise it in a financial crisis, like it did in 1991) but it could have just sent it to a local refinery. However, this would not have had any impact on local supplies as the gold would have just went straight back into the RBI's vault.<br /><br />The key is that the swap results in a net supply of gold into the local Indian market, but the replacement gold is supplied from London (or Switzerland, as we will see shortly). The net supply in India will result in a reduction of the local premium (which the public will welcome) but more importantly, it will give the local gold industry material to work with (of which they are starved) and this should increase employment. The reason this swap will not affect the current account deficit is because the cash legs of a swap are netted, so the RBI will only be paying a few dollars per ounce out of its offshore USD reserves.<br /><br />Regarding the swap, I had a debate with twitter based precious metals analyst Silver Watchdog who thinks the RBI swap would also involve leasing. I see this as unnecessarily complex, which his diagram indicates. The leasing angle only makes sense if you believe that there is a shortage of gold in London (as the second leg of the swap pulls physical out of the London market), so only if the RBI subsequently leases their newly acquired London gold will this take pressure off the London market. Apart from there being no indication that the RBI was intending to do this, Perth Mint does not see any such shortages in London at this time.<br /><br />I would note here that while bullion banks will probably quote on this swap, the advantage is with the refiners given the quality upgrade required. The one in the box seat is the local Indian refinery PAMP-MMTC who, through PAMP's parent MKS, is capable without bullion bank help to do <em>"options, hedging and EFP’s; location, purity and quality swaps; forward leasing arrangements</em>". PAMP would have no problem refining the gold locally and supplying 400oz bars into London out of its Switzerland operations.<br /><br />While India has 557 tonnes of gold reserves, there is no indication of how much non-standard gold they hold or are looking to swap. This Reuters article notes that the RBI <em>"would decide further in regard to quantity, swap-ratio </em>[i.e. swap fee]<em>, timing etc. of the gold to be swapped"</em>. The reference to "timing" implies that the RBI is looking to supply their gold over a period of time, which would make sense if you want to alleviate local gold industry supply problems and help them out for as long as possible.<br /><br />Whatever amount is involved it will only last for a limited time, in the order of months, not years, given India's appetite for gold. So this is just a short term fix to a political problem and ultimately shortages will resume due to the 80:20 rule.<br /><br />Of course, it is entirely possible that the RBI's swap is solely about upgrading its gold reserves and the timing is purely coincidental. That would clearly be the case if the replacement gold was going back into the RBI's vaults in India, rather than with the Bank of England as reported by Reuters. However, as we are dealing with central banks, where transparency even on simple matters is rare to come by, we just don't know what the real motivation is and thus have to resort to speculation. I hope you got some value, in terms of how the industry works, out of my speculations even if they turn out to be wrong.</div>

After a lot of speculation about what changes the 2014 Indian budget would bring for gold import policies, we got zip. That now supports my ...

Allocated Gold at Bank of England declines 755 tonnes

<div dir="rtl" style="text-align: right;" trbidi="on">The Bank of England's just released 2014 Annual Report discloses that it was holding 5,485 tonnes of gold as a custodian, down 755 tonnes to around the level it was in 2011 and 2012. Below is a chart of the data against the average gold price over the Bank's financial year ending February, which shows that the amount of gold has basically followed the gold price, very much like the behaviour of the gold ETFs.<br /><div class="separator" style="clear: both; text-align: center;"><span style="margin-left: 1em; margin-right: 1em;"><img border="0" height="446" src="http://lh4.googleusercontent.com/-YnisdIFWxfk/U6EdLny4r-I/AAAAAAAAAPE/ucoJXoyUUPE/w426-h272/BoEGold.PNG" width="640" /></span></div><br /><br />The table below details the figures and calculations back to 2005, when the Bank first started reporting its custodial activities.<br /><br /><br /><table border="1"><tbody><tr> <td>As at Date</td> <td>Allocated Gold (GBP billions)</td> <td>London PM Fix (GBP)</td> <td>Allocated Gold (tonnes)</td> <td>Year on Year Change (tonnes)</td></tr><tr> <td>28/02/2005</td> <td>29</td> <td>226.514</td> <td>3,982</td> <td></td></tr><tr> <td>28/02/2006</td> <td>36</td> <td>318.078</td> <td>3,520</td> <td>-462</td></tr><tr> <td>28/02/2007</td> <td>43</td> <td>338.964</td> <td>3,946</td> <td>+425</td></tr><tr> <td>28/02/2008</td> <td>72</td> <td>488.854</td> <td>4,581</td> <td>+635</td></tr><tr> <td>28/02/2009</td> <td>102</td> <td>669.809</td> <td>4,737</td> <td>+155</td></tr><tr> <td>28/02/2010</td> <td>125</td> <td>746.149</td> <td>5,211</td> <td>+474</td></tr><tr> <td>28/02/2011</td> <td>156</td> <td>868.682</td> <td>5,586</td> <td>+375</td></tr><tr> <td>28/02/2012</td> <td>197</td> <td>1110.484</td> <td>5,518</td> <td>-68</td></tr><tr> <td>28/02/2013</td> <td>210</td> <td>1046.719</td> <td>6,240</td> <td>+722</td></tr><tr> <td>28/02/2014</td> <td>140</td> <td>793.931</td> <td>5,485</td> <td>-755</td></tr></tbody></table><br /><br />In this June 2014 Quarterly Bulletin, the Bank reports on page 134 that 72 central banks hold gold with them (which is 65% of the 113 central banks that the World Gold Council records as having gold reserves). It also noted that the <i>"Bank also acts as a bank to certain other financial institutions. One example is central counterparties"</i>. Included in that the latter group would be the six London bullion market clearing banks. As it is unlikely that the Bank runs allocated gold accounts for banks that are not central to the gold market, it would be fair to conclude that the majority of the allocated gold it holds is for central banks.<br /><br /><br />Given there was nowhere near 755 tonnes of central bank selling in the year ending February 2014 it would therefore be fair to conclude that this gold outflow was from the allocated accounts that bullion banks had with the Bank of England. This is not surprising considering that the major gold ETFs lost in excess of 600 tonnes over that same period.<br /><br /><br />Just one final observation from World Gold Council central bank holdings data: it wasn't until the year ending Q1 2010 that central banks were net buyers. Prior to that they were net sellers (1,011t for 4 years to March 2009), yet the table above shows customers of the Bank of England adding to their holdings (753t for 4 years to February 2009). Now if we remove central banks that most likely don't store with the Bank, this 1,011t net sell figure may change, but I doubt enough to turn it around to anywhere near 753t of net buying. Tentative conclusion is that bullion banks were accumulating a lot of allocated gold with the Bank of England.<br /><br /><br />Combining the above figures with detailed LBMA turnover figures, UK gold import/exports, London ETF flows, and central bank activity is more work than I have time for at the moment, but it certainly would give us a better picture of the London gold market.</div>

The Bank of England's just released 2014 Annual Report discloses that it was holding 5,485 tonnes of gold as a custodian, down 755 tonne...

Why no direct relationship between price and stocks

<div dir="rtl" style="text-align: right;" trbidi="on"><div style="text-align: justify;">A great article by Keith Weiner explaining why open interest in gold has fallen but in silver it has increased - hint: to do with profit from carrying gold. Apart from that, it is also useful for those who falsely think that if the price goes up (or down) then open interest should increase (or fall), and also that ETF holdings should increase (or decrease).</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">It does puzzle me why people think there should be a direct relationship between open interest or ETF stocks and price, given that they don't have any problem understanding that the price of a company's shares can go up and down while the number of shares on issues doesn't change.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">For a company ownership of shares is just transfered between buyer and seller and that doesn't drive price. Price is a function of there being more buying pressure resulting in buyers not being willing to sit around waiting for people to accept their bids and instead accepting seller's offers (and vice versa).</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">The same can happen with precious metal ETFs. ETFs shares are only created or redeemed if the person on the other side of the trade is someone with no interest in the ETF (ie a market maker). Where existing holders sell to new buyers no new shares need to be created, yet the price can still go up if the buyers are willing to accept the seller's offers (and the non-market maker sellers are adjusting their offers to match gold prices on Comex or the spot market.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Also, check out Warren's latest bullion bars project post, where he notes that 70% of bars added to GLD during 2013 where previously in the GLD list, demonstrating that <em>"there is a really large stock of gold in London and that it doesn't necessarily all vanish instantly to China".</em> He also predicts the return of <b>specific</b> bar numbers by July 30th - now that's a real forecast, no vague hedged cop out wording.</div></div>

A great article by Keith Weiner explaining why open interest in gold has fallen but in silver it has increased - hint: to do with profit fro...

GLD vault defragmentation

<div dir="rtl" style="text-align: right;" trbidi="on"><div style="text-align: justify;">Warren has a cool animation showing the addition and redemption of pallets of gold bars out of GLD's vault, done in the style of the old PC disk defrag programs, at the screwtapefiles blog.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">A few comments on the 5 minute animation (see screenshot below):</div><ul><li><div style="text-align: justify;">During the redemptions in 2013, most of the bars are taken from the bottom, that is, the recently added stuff. Makes sense, this stuff is easier to access.</div></li><div style="text-align: justify;"></div><li><div style="text-align: justify;">But note much of the redemptions are from all over the place. Some of that is explained by them "hunting" for 9999 bars as Warren discussed in emails. He will have a follow up post taking this animation analysis into more detail showing this.</div></li><li><div style="text-align: justify;">In the pic below the area just above the empty bottom area is really stubborn, something about those bars they don't redeem from, even though they are more recently added than the bars in the first half of the pic above that section.</div></li></ul>Snapshot of GLD defrag youtube:<br /><div class="separator" style="clear: both; text-align: center;"><span style="margin-left: 1em; margin-right: 1em;"><img border="0" height="446" src="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEgv1eOCyhzgPR3wlwe7NZEb7EiNR3xaolNGWBybS8BCcF9_vDMWoMQYO66D0dSYrZIGcvlj-Bf1JTuXJtwjU8QIrdHHAahSHlT_9vhYWxv6HdO1ZHKpjn_z22WLTSDLWsC0AEQKAMEQBjQD/s1600/glddefrag.PNG" width="640" /></span></div></div>

Warren has a cool animation showing the addition and redemption of pallets of gold bars out of GLD's vault, done in the style of the old...

Central Bank gold reserves transparency

<div dir="rtl" style="text-align: right;" trbidi="on"><div style="text-align: justify;">For a physical asset held on behalf of a country's citizens primarily for use in extremis, central bank reporting on gold holdings is woeful. It is impossible for a country's citizens to determine if their central bank is appropriately managing their (as in citizen's) gold such that it can perform its "last resort" function, if necessary, without knowing:</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">a) the amount of physical gold held under its control and ownership versus how much has been leased (physically, not book)</div><div style="text-align: justify;">b) the amount of physical gold held domestically versus offshore</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">I would argue that gold has a higher standard of disclosure compared to a central bank's fiat activities because if lost, say by the bankruptcy of a lease counterparty, physical gold cannot be printed out of thin air.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Now you may argue that I am being unrealistic, pointing to GATA's freedom of information lawsuit against the US Federal Reserve, or the IMF's 1999 weakening of central bank gold reporting requirements, as examples of central bank opacity. I agree that it is a difficult ask, but in both these cases either the detail sought, or the reporting frequency, opens up lines of arguments that can be used to muddy the waters and give plausible grounds for refusal.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">I would argue that one does not deal with bureaucrats as one would in a commercial negotiation, where you go in with your highest (or lowest, if buying) offer, as that just opens up many points for refusal. It is better to go in with your strongest argued case, which will often not be exactly what you want, because it give much less wriggle room, and thus the best chance of success. Secondly, bureaucrats can have an arse covering herd mentality, so appeals to precedent are always useful as no bureaucrat wants to strike out on their own lest they get it wrong.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Given the above, I would propose that the best way to approach central bank gold reporting is to simply argue that central banks follow the accounting standards, that normal commercial organisations do to, when producing their annual reports.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Simple and reasonable. It is also difficult to argue against as central banks, via their oversight and regulation of the financial system, impose those accounting standards on others. It is also hard to argue against it on the basis that it would be market sensitive, as it is only being disclosed once a year and many months after the balance date of the annual report. As a result, one could interpret a refusal to do so as hypocrisy and an indication of something to hide.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">You may wonder if this will achieve anything with respect to physical versus leased gold. By way of example, I offer the Reserve Bank of Australia (RBA), which also provides you with a precedent. The RBA has, at least since 1998, been reporting physical gold, gold leases, the duration and risk profile of those leases, and average lease rates, all to accord with Australian Accounting Standards.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">For example, an analysis of the RBA annual reports allows us to produce the chart below, which shows how much of Australia's meagre 80 tonnes was held as physical and how much was leased out for which terms.</div><br /><div class="separator" style="clear: both; text-align: center;"><span style="margin-left: 1em; margin-right: 1em;"><img border="0" height="261" src="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEiR2qdA0qXejsjzs04lfcAT6GistOnKuMgwmZ0JJRQKDCAI8hePYPAxC27-JpFNwFFsG90Tpm_OR3JPihf6r7O8prcxYiYJp9Izf8N83xLV6fKb3iganxfjiDs_Gk1YlIcOYXLGbHLVLFWu/s1600/rbaterm.png" width="400" /></span></div><br /><div style="text-align: justify;">It is clear that the RBA started winding back its leasing after 2004, due I would argue, to the fact that lease rates by that stage had moved below 1% (and subsequently continued to fall), providing a poor risk/return tradeoff. We can also produce a breakdown of the credit rating of who the gold was leased to.</div><br /><div class="separator" style="clear: both; text-align: center;"><span style="margin-left: 1em; margin-right: 1em;"><img border="0" src="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEi_pBzoGA2QlW8_iC4m-LrlQ-7jyG9YYRbN71wKfKixmbyWMwZiL7M-8jA-HkRutqF5kZG6nByLeFweCe8pcrrkvpPGMtoetQjEGPFQIcf463W70-ZB3KpeWaLOsFaWG9j8qGI3Lv8istV_/s400/rbarisk.png" /></span></div><br /><div style="text-align: justify;">So we can tell from the above that the RBA is now only leasing 1 tonne of gold for a duration of between 3-12 months to an AAA rated counterparty. Such information, if provided by all central banks, would provide their citizens with the ability to assess how prudently their gold was being managed. It would also provide valuable information to the gold market in general.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">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.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Technical Note: In point a) I referred to "leased (physically, not book)". The reason is that there is a difference, in terms of whether gold is at risk of counterparty failure, whether a lease involved actual physical shipment to the borrower, or whether it was just leased by way of a book entry with the physical gold remaining in the possession of the central bank.</div><div style="text-align: justify;"></div><div style="text-align: justify;">Thus when looking at gold reserves in terms of its last resort use, if gold is leased by book entry then it is arguable that there is no risk as, in case of a war for example, a central bank can just extinguish the paper claim by the counterparty and retain the gold.</div><div style="text-align: justify;"></div><div style="text-align: justify;">The extent to which central banks have lent gold physically or only via book entry to bullion banks and the different implications of those two methods for the stability of the fractional reserve bullion banking system and its run-proofness is another topic altogether, and one I can cover in another post if anyone is interested (stupid question, of course you do).</div></div>

For a physical asset held on behalf of a country's citizens primarily for use in extremis, central bank reporting on gold holdings is wo...

The story behind JPM's 10 tonne gold withdrawals

<div dir="rtl" style="text-align: right;" trbidi="on"><div style="text-align: justify;">What is JPM up to? A detailed look at the movements in an out of their eligible stock indicates they, or a client, is stockpiling/parking kilobars in a Comex warehouse for later withdrawal, possibly to do with Chinese new year.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Back in October, TF Metals Report noticed some "round number" Comex movements in multiple of exactly one tonne. At the time I noted that 3 kilo bars are acceptable for delivery against a Comex contract and speculated that:</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><i>"if we see 99.5 bars going into COMEX then it may be an indicator that Asian demand has eased. Maybe JPM had commitments with refiners to buy their output for a period of time, and if Asian demand had eased then they may have just asked their refineries to make 99.5 (for all we know maybe those deliveries were 99.99 kilo bars) and they are just parking them in their COMEX warehouse, waiting for Asian demand to return ... if there are movements of round ounce tonne lots, indicative of kilo bars, out of the warehouses then it may be an advance bullish signal of Asian demand returning."</i></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Given these two large recent withdrawals, I decided to have a look at all tonne type movements in and out of JPMs eligible stock over the past two years. The first list shows the recent movements, which started in October with eight receipts totalling 20 tonnes. Coincidence that exactly 20 tonnes is then withdrawn a few days before Chinese new year on the 31st? I don't think so.</div><br />18 Oct 13 Received 6 tonnes <br />21 Oct 13 Received 3 tonnes <br />23 Oct 13 Received 1 tonne <br />11 Dec 13 Received 2 tonnes <br />12 Dec 13 Received 2 tonnes <br />13 Dec 13 Received 2 tonnes <br />16 Dec 13 Received 2 tonnes <br />17 Dec 13 Received 2 tonnes<br />24 Jan 14 Withdrawn 10 tonnes<br />28 Jan 14 Withdrawn 10 tonnes<br /><br /><div style="text-align: justify;">The other explanation to my initial one is that JPM contracted to sell 20 tonnes to an Asian client way back in October, hedged that on Comex and then accumulated kilobars over the next 4 months from refineries. That is, the 20 tonnes that was being accumulated was already spoken for. Either way, the two 10 tonnes withdrawals do not look like they were unplanned or unexpected by JPM.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">This isn't the first time JPM has done this. Consider this sequence of movements towards the end of 2012 - accumulating 18 tonnes, then 17 tonnes withdrawn:</div><br />27 Aug 12 Received 6 tonnes<br />19 Sep 12 Received 6 tonnes<br />09 Oct 12 Received 6 tonnes<br />13 Dec 12 Withdrawn 10 tonnes<br />18 Dec 12 Withdrawn 2 tonnes<br />26 Feb 13 Withdrawn 5 tonnes<br /><br /><div style="text-align: justify;">Chinese new year in 2013 was 10 February, so the pattern is not as strong as 2013, but I would note that the 12 tonnes accumulated in September and October exactly equal the 12 tonnes taken out in December.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Here are some other tonne lot movements back to the beginning of 2012, which is as far back as I went in this quick analysis and that don't seem to be related, just for completeness.</div><br />06 Feb 12 Withdrawn 5 tonnes<br />09 Apr 12 Withdrawn 5 tonnes<br />12 Apr 12 Withdrawn 5 tonnes<br />20 Apr 12 Withdrawn 3 tonnes<br />29 Jun 12 Received 1 tonnes<br />02 Jul 12 Received 2 tonnes<br />07 Aug 12 Received 5 tonnes<br /><br /><div style="text-align: justify;">It is clear from the above that tonne lot movements in Comex warehouses are certainly not unique - a quarter of all JPM eligible movements are in tonne lots over the past couple of years. Seems they use Comex for holding kilobar inventory on a semi-regular basis.</div></div>

What is JPM up to? A detailed look at the movements in an out of their eligible stock indicates they, or a client, is stockpiling/parking ki...

Gaming the London Fix ... Seat Price

<div dir="rtl" style="text-align: right;" trbidi="on"><div style="text-align: justify;">While goldbugs are focused on whether the London Fix is gamed, the industry is watching an equally interesting and delicate game around Deutsche Bank's London Fix Seat.<br /><br />If you thought that the gold market was opaque, well a seat on the London Fix would have to be a totally dark market. This creates a problem for both buyer and seller as:<br /><ol><li>there are no public prices for a seat</li><li>neither seller or buyer want to be seen as too desperate by approaching the other party directly</li><li>the buyer doesn't know how profitable a seat could be, as Fix volumes are not published</li></ol>Given the above, it is not unreasonable to expect the seller and potential buyers to play some of their signalling/negotiating game via the media. However, to be fair the "sources" mentioned in various media reports could also be legitimate bystanders just speculating, we just don't know. Either way, no need for that to spoil the fun of looking at the various comments made in the media (here and here and here) over the past few days to see how the London Fix Seat price game is playing out.<br /><br /><strong>In favour of the seller</strong><br /><ul><li>the last time a seat was sold in 2004, it cost around 1 million pounds ($1.6 million) [anchoring high]</li><li>Gold traders say the benchmark still has value, helping them to hedge risk [you make money being a fix member]</li><li>a seat at the table is prestigious; to say that they're a fixing member carries a certain kudos [the seat carries a premium above the profit made as a market maker]</li><li>there could be quite a few contenders; Deutsche said it had already begun talks with other banks to sell its role [lots of buyers]</li><li>a logical possibility would be for another of the London Bullion Market Association's market-making members ... not currently involved in fixing - Credit Suisse, Goldman Sachs, JPMorgan, Merrill Lynch, Mitsui Precious Metals and UBS [lots of serious buyers]</li><li>a candidate is more likely to emerge among the Asian banks ... as these look to raise their profile in the London market ... Bank of China and Industrial and Commercial Bank of China (ICBC) are already members of the LBMA. ICBC is also about to complete the acquisition of the London commodity arm of Standard Bank [even more buyers]</li><li>bidders ... may also include other parties with an interest in the gold market such as refiners [a lot more buyers than you think, better rush]</li><li>The bank said it would ... resign its seat if it fails to do so [but if I can't find a buyer I'll walk away, I'm not desperate]</li></ul><strong>In favour of the buyer</strong><br /><ul><li>Market participants said the role as a rate setter would be worth around £200,000 and had more value as a mark of status [anchoring low]</li><li>it's a tough sale at the moment, there's nothing really in it for the banks [there's not that much money in market making]</li><li>who, after the Libor scandal, will want it; increased scrutiny, with regulators pushing for new rules on commodity benchmarks after the Libor scandal, threatens to outweigh that benefit; if regulators are going to say 'well the fix doesn't work as it is, and we have to find another way of doing it', nobody is going to want to buy that seat [lots of regulatory risk]</li><li>it is a very old-style, archaic system and it is amazing that such a way of doing business has survived the modern day and age [Fix is old school and will probably fade away so not worth that much in the future]</li><li>any interested party ... would have to weigh the price carefully against shareholder value [I'm not desperate, won't overpay]</li></ul>So we have a £200,000 to £1,000,000 price range with good points made on both sides. I think there is a good chance a Chinese bank will buy a seat for the prestige as it gives them the ability to differentiate themselves from their domestic competitors - Deutsche can be expect to work the status benefits point hard to new players in the bullion market or those looking to step up.<br /><br />On the negative side, Deutsche Bank's biggest problem is the risk that regulators turn the fix from, as Paul Tustain says, a place where <em>"financial trading principals [win] what traders call 'order-flow' from customers, principals (who sell gold to you)"</em> where you can make money working your book, into a place where the holder of a Fix Seat is just an <em>"agents (who buy gold for you)"</em> and who can only earn the $0.20 per ounce Fix fee spread.</div></div>

While goldbugs are focused on whether the London Fix is gamed, the industry is watching an equally interesting and delicate game around Deut...

Wealthy Chinese short sellers a source of future demand?

<div dir="rtl" style="text-align: right;" trbidi="on"><div style="text-align: justify;">Koos Jansen latest piece on gold leasing and short selling within China is a must read. There seems to be two basic "gold trades" used by wealthy Chinese:</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><b>Finance business by Lease and Hedge</b></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">1. Lease gold from bank</div><div style="text-align: justify;">2. Sell gold on SGE</div><div style="text-align: justify;">3. Post 15% of cash from #2 as margin against long gold futures</div><div style="text-align: justify;">4. Use remaining cash from #2 to fund your business</div><div style="text-align: justify;">5. At end of lease, take delivery of futures and use physical to repay lease</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">The article says that the effective interest rate on the amount of cash left over from #4 works out at 6.7% compared to around 9% for a conventional loan. </div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><b>Finance business by Lease and Short Sell</b></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">1. Lease gold from bank</div><div style="text-align: justify;">2. Sell gold on SGE</div><div style="text-align: justify;">3. Use cash to fund your business or other investment</div><div style="text-align: justify;">4. At end of lease, buy back gold (which has hopefully fallen) and repay lease</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Needless to say, the second method is highly risky and is more a combination of financing your business plus a speculative bet on gold prices. Here are some interesting quotes that give a different insight into the thinking of some wealthy Chinese that is at odds with the common view (narrative) about how Chinese view gold (which is that they are buy and hold investors):</div><ul><li><div style="text-align: justify;"><i>"these business owners, in the background of gold’s 28% pullback in 2013, remain bearish on gold ... hope to buy back the same amount of gold to repay and get the spread when gold falls further to their targets in 2014"</i></div></li><li><div style="text-align: justify;"><i>"A business owner signed a 3-month gold lease agreement at the end of last year and sold the gold at $1300/oz. He said he would buy back and return the gold when gold fell to $1150/oz in Q1 2014 and pocket the $150/oz difference."</i></div></li><li><div style="text-align: justify;"><i>"some rich people even use the funds through gold lease to invest in high yield real estate trust products to achieve “getting something from nothing”. The spread between the yield on trust products and gold lease rate is risk free in their eyes."</i></div></li></ul><div style="text-align: justify;">While banks limit gold leasing to those legitimately involved in the gold business who need to finance their physical inventory, it appears that some gold merchants have excess physical stocks. They are therefore willing to lend this out to private investors (who put up cash margin and real estate as collateral). Alternatively, it seems people can create fake gold business to access this market.</div><br /><div style="text-align: justify;">Koos' article is similar to a trade identified by FT Alphaville in August, where <i>"Chinese firms have been able to benefit from cheaper US interest rates by using various commodities with high value-to-density ratios, such as gold, copper, nickel and “high-tech” goods, as collateral. The deals were motivated by the fact that borrowing US dollars in this collateralised fashion was cheaper than borrowing in the domestic Chinese market."</i></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">See also this GFMS note <i>"our information collection from various trade sources indicated that these Hong Kong export numbers have been highly inflated by growing round tripping between mainland China and Hong Kong whereby local companies used gold to engage in currency and interest rate arbitrage transactions"</i> This would make sense in light of Koos' research that says that the same bar cannot be traded back on to the SGE - maybe a way around this is to export gold out of China and reimport as "new" gold (I have been able to confirm that bars are being exported out of China as part of this trade).</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">There are a number of implications from this story:</div><ol><li><div style="text-align: justify;">How much of the gold that we have seen being imported into China is just tied up in these trades?</div></li><li><div style="text-align: justify;">Has this Chinese short selling impacted negatively on the gold price?</div></li><li><div style="text-align: justify;">When will the unwinding of these short selling deals happen?</div></li><li><div style="text-align: justify;">What will be the impact on the gold price when these short selling deals are unwound?</div></li></ol><div style="text-align: justify;">The FT Alphaville article noted that the copper collateral scheme may have raised between $35-40 billion. Gold is a lot more value dense than copper, so realistic to think that the gold collateral trade is of the same or greater size?</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">I would also note that exports <b>from</b> China to Hong Kong (the round tripping trade) really began to pick up in March 2012, when it was clear that the gold price had peaked. The quotes above indicate that some wealthy Chinese took a bearish view on gold and maybe March was when this short selling trade started to pick up. It is also interesting that this chart of Koos shows big differences developing between SGE withdrawals and all known supply in April 2013, on the price smash. Did the price smash encourage more bearish bets, which would have resulted in gold within China held by industry users being released and sold on the SGE? Maybe Koos can run this chart back a few years so we can see if this gap only developed once gold peaked.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Koos article closes with the observation that <i>"many real estate investment products are facing default risks and on the other, gold lease arbitrage is facing the volatility of gold price. If these 2 risks occur at the same time, this seemingly risk-free arbitrage could be in fact “picking pennies in front of a bulldozer.”"</i></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">I am sure that is the majority view of Chinese and this short selling is limited to a few, but China is a big market and this trade could still be significant in terms of the global gold trade. Maybe we have just found another source of potential future demand should these Chinese short sellers come to the view that gold has bottomed.</div></div>

Koos Jansen latest piece on gold leasing and short selling within China is a must read. There seems to be two basic "gold trades" ...

How to know when there is a real physical-paper disconnect developing

<div dir="rtl" style="text-align: right;" trbidi="on"><div style="text-align: justify;">FastMarkets are reporting intermittent shortages of 400oz bars in London with premiums for physical delivery "as high as" $0.50 an ounce. In May 2013 I reported that</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><i>"We have heard that 99.99% purity bars are getting a sub-one dollar premium, which makes sense as they can directly melt them down and convert to kilo bars for Asia where 99.99% purity bars are getting a premium. Interestingly, we have confirmed that the bullion banks aren't paying a premium to obtain 99.99% 400oz bars (or 99.50% 400oz bars), which is not indicative of desperation for physical on their part."</i></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">I therefore put a question in to FastMarkets via Twitter to clarify if the premiums are for 9950 bars, which would be much more significant than if it was just for 9999 bars and am waiting for a reply. The detail is important here, particularly when another source quoted in the article says that <em>"there is gold available in London."</em></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">The Perth Mint has not seen such premiums and certainly the bullion banks aren't paying a premium to acquire 400oz bars from us. A journalist at Reuters told me today that <em>"We spoke to one of Switzerland's biggest refiners yesterday and they said that business is quiet at the moment. No mention to shortage of any form of bars."</em> (guarantee you aren't going to hear that on KWN).</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">This report is a good opportunity to discuss how to know if there is a real physical-paper disconnect occurring. The key is to look at the premium above spot for wholesale metal, which is 9950 400oz bars for gold and 9990 1000oz bars for silver.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Shortage of retail forms of gold and silver, that is anything less than 400oz/1000oz, does not necessarily tell us about whether there is a real shortage, and thus price disconnect, in the wider precious metals markets. A lot of people really struggle with the concept that coin shortages may be the result of production capacity shortages, see here and here, for example. You have to rule out production issues first, which in my opinion will be hard to do as when we get some real retail demand I don't think the industry can cope, as I discussed here.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">The reason premiums on wholesale forms is the indicator is because the spot price is the price for unallocated, that is, paper gold in London. That is how most trades are settled and if you want physical then a separate physical redemption instruction is issued. As such the industry works on premiums to spot for whatever form and in whatever loco (as spot gold has different prices in different locations).</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">The problem with this way of pricing (spot + premium, or pay me unallocated gold + $ premium for physical) is that it "hides" any physical-paper disconnect that may be occurring.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">For example, say the gold price is stable at $1200 but 400oz bars start to become rare and hard to get, and the premium to acquire them reaches say, $10 an ounce. Then what will happen is dealers will be buying unallocated gold at a "spot" of $1200 and redeeming the unallocated and paying $10 premium separately. However, what will be reported by Reuters and Bloomberg data feed services (on which all the websites rely) is just $1200, not $1210.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">This idea of unallocated spot + premium is heavily embedded in most of the industry. To them, loco premiums/discounts and premiums for various forms of physical are normal. They do not think about a physical-paper disconnect and initially may just see premiums on 400oz as unusual but not extraordinary. They certainly won't initially see the premium as a potential precursor to a bullion bank run and so may not consider it worthy to write or commentate about - their frame of reference is that the existing system has survived in the past and thus will continue to survive.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Unless you are in the professional market you won't see this occurring. I will endeavour to report on it if we see it, but you don't have to rely on me as there is another indicator. I would suggest keeping an eye on Bullion Vault or GoldMoney. These two services are backed by 400oz bars. If there is a real shortage of 400oz bars and thus premiums being asked, then you should see one or both of these being reported by these two services:</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">1. A widening of their normal buy/sell spread, or additional fee on purchases, to cover the premium they are being charged on 400oz bars.</div><div style="text-align: justify;">2. They stop taking in new clients due to an inability to acquire 400oz bars.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Now some people, like Jim H, may think that I am not <em>"really here to support me, the common man, [but] the State, who ultimately holds the key to your paycheck"</em> and thus you can't believe what I say about shortages or premiums in the wholesale market, but I doubt anyone thinks that James Turk and GoldMoney are part of the Cartel, so I think you're safe watching them for signs of that a <strong>real</strong> physical-paper disconnect is developing. Anything else is probably rumor and hype.</div></div>

FastMarkets are reporting intermittent shortages of 400oz bars in London with premiums for physical delivery "as high as" $0.50 an...

Coin shortages and rationing are in our future

<div style="text-align: justify;">The extraordinary demand for precious metals coins following the 2008 global financial crisis caught the minting industry by surprise, resulting in never before seen coin rationing and shortages.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">It seems not much has changed, with recent <a href="http://www.bloomberg.com/news/2014-01-08/u-k-royal-mint-says-runs-out-of-2014-sovereign-gold-coins.html">reports</a> that the UK Royal Mint ran out of 2014 Sovereign gold coins due to "exceptional demand", as well as the <a href="http://news.coinupdate.com/silver-eagle-bullion-coin-sales-begin-january-3096/">continuation</a> for over one year of an allocation program first put into place early 2013 by the US Mint on its ever popular silver Eagle bullion coins.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">While these recent events have been limited to specific coins, with availability of other leading bullion coins like the Perth Mint’s gold Kangaroo not affected, it does seem to indicate that worldwide minting production capacity is still unable to meet demand surges. I have been talking about this issue for some time, as in this <a href="http://www.perthmintbullion.com/blog/blog/12-07-25/Expect_Investment_Coin_Shortages_Should_Mass_Market_Demand_Emerge.aspx">July 2012 interview</a> and <a href="http://goldchat.blogspot.com.au/2012/07/expect-precious-metals-shortages-during.html">here</a>.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">The 2008 global financial crisis did result in private and public mints expanding their production capacity. The Perth Mint, for example, has spent over $50m since 2008 on improvements to existing machinery as well as new and expanded facilities.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">However, it is little appreciated that the bottleneck in the global coin minting process is blank (planchet) manufacture. This is a far more complex process than simple stamping of a coin, particularly around purity and accurate weight control. As a result, blank manufacture is a process that benefits from economies of scale and thus few mints these days make their own blanks, outsourcing the process to a limited number of private and public suppliers, of which the Perth Mint is one.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">If you dig deep, you will find that many of the coin supply problems come from underestimation of demand and the resulting exhausting of blank inventories. Often, blank suppliers are mints themselves and can face conflicts where they earn more by prioritising blanks for internal use rather than supply externally. Running higher blank inventories is often not an option, due to the cost of funding the high dollar value of the inventory.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">To get an idea of how high coin premiums can go when coin demand overwhelms production capacity, consider this chart from Nick at <a href="http://www.sharelynx.com/">www.sharelynx.com</a></div><br /><div class="separator" style="clear: both; text-align: center;"><a href="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEjTPU8kuSJ_-llXZ0tKd553egi_3mxvjaYzPvJ8BBoy0T_dNVpg6UwNDvjV_biiZHnVls45NEeRkgJ5WcgXvihqH4MSzBS92KSfoApKvTzmqD6A6bLzM8s7GgOXUihEmbi3R_G_pMmDl1u4/s1600/coinprem.png" imageanchor="1" style="margin-left: 1em; margin-right: 1em;"><img border="0" height="484" src="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEjTPU8kuSJ_-llXZ0tKd553egi_3mxvjaYzPvJ8BBoy0T_dNVpg6UwNDvjV_biiZHnVls45NEeRkgJ5WcgXvihqH4MSzBS92KSfoApKvTzmqD6A6bLzM8s7GgOXUihEmbi3R_G_pMmDl1u4/s1600/coinprem.png" width="640" /></a></div><br /><div style="text-align: justify;">The 2008 premiums were celebrated by some at that time as a proof of a physical-paper price disconnect and a "good thing". The fact is that there was plenty of supply of the raw gold or silver (the Perth Mint at one stage was shipping in 20 tonnes of silver each week for weeks on end from London with no problems). High premiums are actually not a good thing, because it means that the same money buys (and takes off the market) less ounces.</div><div style="text-align: justify;"> </div><div style="text-align: justify;">Notwithstanding the capacity expansion by blank suppliers over the past five years, in my opinion there is no way the industry can meet the demand that would occur were precious metals to see even a small bit of interest from the mass market. While cast bars are a lot easier to make and refiners have much more casting production capacity, I am not even sure if it could meet sustained mass market demand.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">For now 2008 style shortages and rationing don't seem to be on the horizon but the fact that the UK and US Mint are having supply issues on a few of their product with metal prices at these low levels is an idicator that as prices rise and (re)attract investor interest, shortages and rationing may become a reality of coin buying life again.</div>

The extraordinary demand for precious metals coins following the 2008 global financial crisis caught the minting industry by surprise, resul...

Interview with Argentus Maximus at TF Metals Report

Forgot to mention that on December 5th I had an interview with Norman Greene who runs a newsletter service Rhythm 'n Price and a blog on...

No high premiums for suggested gold miner cartel

<div style="text-align: justify;">Yesterday The Gold Report published an interview titled <a href="http://www.theaureport.com/pub/na/15759">Miners Should Launch a Gold Cartel or Risk Losing Everything, Advises Stephan Bogner</a>.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">In it Stephan suggests that <i>"mining companies should collectively refrain from selling into the market at spot prices but should instead find buyers themselves, as there are definitely investors worldwide—especially from Asia, as well as the Middle and Far East—that would pay high premiums on the spot price to get their hands on physical bullion."</i></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">I think this suggestion is simplistic in a number of ways. Firstly, while premiums can develop in certain geographical markets from time to time due to various factors (see this <a href="http://www.kereport.com/wp-content/uploads/1116-1-4.mp3">interview</a> with Al Korelin where I explain the impact of restricted Chinese import licenses and quotas) in no market is anyone paying $1900 an ounce - "high premiums" at best means tens of dollars, not hundreds of dollars (see this William Kaye <a href="http://kingworldnews.com/kingworldnews/KWN_DailyWeb/Entries/2013/11/1_Peoples_Worst_Nightmares_Coming_-_Have_A_Survival_Strategy.html">interview</a>). The fact is that Chinese demand exploded in April because the price dropped, and a lower price is the miner's problem.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Secondly, the gross premiums being quoted are not necessarily what the bullion banks are getting. In that William Kaye interview, he says that <i>"senior members in China’s government, probably in the State Council, basically decided that they were sick and tired of the premiums that the Chinese people were having to pay over the London price for gold"</i>, which accords to what we heard, but William gets it wrong when he says that <i>"they (Chinese officials) recognize that the bullion banks, at the expense of the population and the jewelers, have been making arbitrage profits"</i>. The real story is that it is the limited number of licensed Chinese importers who have the upper hand over the bullion banks, who compete to supply (and extend credit) to the importers, so a good part of the premiums were going to the importers, not the bullion banks. So miners would not get all of the reported high premiums.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Thirdly, the actual gross premiums paid by importers are just that - gross. From that you have to take off the costs of selling, which would include management time spent by each mining company finding and negotiating with each buyer, shipment costs to refiners, fabrication costs, shipment costs from refiner to buyer, and in most cases of the main distributor/importers, the cost of interest in funding the sale as these business often want 180 day payment terms or consignment stocks. The end result is that the reported gross premiums end up as a much smaller profit.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">The idea of miners finding buyers themselves is like saying farmers should deal directly with individual supermarkets. There is a reason industries like milk (and gold) have processors who aggregate volumes, and distributors who manage sale to many retail outlets. It is just more efficient than producers trying to deal directly with every buyer. Gold distributor/importers for example, prefer to deal in tonnes at a time as that keeps shipment costs between countries down.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">The only way it could work is if a group of miners got together and pooled their output and negotiated with a refinery for fabrication and distributors for sales at a scale that made sense. But then that organisation is just doing what bullion banks do. In addition it would need to raise capital from investors to fund the gold tied up until they eventually got paid, and miners are having problems raising money. There is also credit risk associated with who you are selling to, if they don't pay. These are not skill sets many mine managers have.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">I'm not trying to dissuade miners from forming such groups - it doesn't make a difference to the Perth Mint, for example, whether we deal with a bullion bank or a miner group. Just pointing out that there is no easy money in these "high premiums" that are seen from time to time. Gold distribution is a competitive business and the marginal profit earned is not going to solve miners' current financial problems, which require prices hundreds of dollars higher, not tens of dollars.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">The only way gold miners can really impact price at the margin is to withhold supply. Stephan suggests this, saying that miners <i>"should use gold and silver as the functional currency for the industry ... look for ways to bank their gold as cash assets or take out gold loans, not dollar loans. They should buy physical gold and silver and store it outside the banking system. When they require cash, they can sell part of their holdings."</i> David Baker, of <a href="http://www.blogger.com/www.bakersteelcap.com">Baker Steel Capital Managers</a>, has been talking about miners holding gold on their balance sheet and <a href="http://www.perthmintbullion.com/au/Blog/Blog/13-01-21/Would_You_Prefer_Your_Dividends_In_Gold.aspx">gold dividends</a> as well. Perth Mint fully supports such initiatives (see this Korab Resources <a href="http://www.asx.com.au/asxpdf/20130207/pdf/42cwzc9f0yr8dy.pdf">announcement</a> for example).</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">However, the problem with the idea of holding gold is that at this time the most miners are strapped for cash and don't have the ability to not sell and simply hold gold in the quantities necessary to impact the price.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">I don't know what the solution is to gold miner's current problem, but suggesting that there is some pot of easy high premium gold waiting for producers just creates a false hope.</div>

Yesterday The Gold Report published an interview titled Miners Should Launch a Gold Cartel or Risk Losing Everything, Advises Stephan Bogner...

More on Comex producer/merchant long position

<div style="text-align: justify;">Further to my <a href="http://goldchat.blogspot.com.au/2013/12/producermerchant-net-long-is-not.html">Dec 6th post</a>, Gene <a href="http://www.gotgoldreport.com/2013/12/suchecki-producermerchant-net-long-is-not-necessarily-bullish.html">reposted</a> it on his site and it drew a number of comments there as well as at on my post. Some additional commentary on those questions below.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">One point was about the impact of miners. However the GFMS hedge book analysis has had miners slowly dehedging over time and has pretty much stopped, so that I don't consider a driver behind the position.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">There were a lot of comments about demand in Asia and other places worldwide, however I was discussing Comex producer/merchants. It may come as a shock to Americans, but Comex is not the centre of the gold world. There is a lot of OTC hedging going on as well. So my assumption was that most of the Comex producer/merchant category is US/Western refiners/fabricators/distributors. Therefore, given the point about miners, understanding producer/merchant category is about understanding the downstream value adding process.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">There was also some comments about how <i>"if demand has dried up, the inventory should be up, not down, because demand normally drops much faster than production. Only when the producers manage to close down their mines will the inventory then drop but this usually takes a long time [so] inventory accumulating in the producer. So for the entire group of producers/merchants, if demand has dried up, the inventory should be up not down."</i></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Firstly, producers/miners do not stockpile gold, they sell it as soon as they get it - they have tight margin and need cashflow. Downstream fabrication businesses also do not have the financial resources/funding to stockpile large amounts of gold in anticipation of demand (apart from the bullion banks themselves) hence they only hold what they need to support current sales.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">All the gold produced is sold to investors one way or the other. The refineries are set up to produce 99.5% 400oz bars in bulk and cheaply. They process and clear this into the market efficiently where it ends up sitting in vaults owned by some investor - the industry itself does not sit on gold waiting for buyers, because there is always a buyer at the spot price.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">There is a base amount of working inventory needed to support this "core" process. It is when you start value adding to that gold, refining it to 99.99%, casting it into smaller bars, or making blanks and then minting, that the industry's working inventory needs increase, because it is taking longer to transform the gold.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Hence when demand rises in these value added areas the "merchant" inventory and hedging needs will increase. When the demand reduces, the inventory reduces down to the base needed to support only 400oz bar manufacture.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Now this explanation is not meant as the sole reason why the producer/merchant category has went long. While the Perth Mint does not speculate on price, maybe it is common for other "merchants" to do so, although if that was the case, then why was the short position relatively stable during 2009-2010-2011 while a bull run was in place?</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">My point is that I think in the case of little producer hedging, merchant inventory needs (or lack thereof) would be a base macro trend/driver for the short position of this Comex category.</div>

Further to my Dec 6th post , Gene reposted it on his site and it drew a number of comments there as well as at on my post. Some additional ...

Producer/Merchant net long is not necessarily bullish

<div style="text-align: justify;">Gene Arensberg has a <a href="http://www.gotgoldreport.com/2013/12/rare-signal-producer-merchants-net-long-gold-futures.html">good post</a> up on the rare occurrence of COMEX Producer/Merchants category going net long. He sees it as a bullish sign but I would suggest another interpretation which could be more ambivalent.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Gene notes that the producer/merchant <i>"class of traders is dominated by actors who are hedging price risk of their own physical or financial exposure to precious metal, so they are usually more short than long futures"</i> and that it includes <i>"producers and miners, refiners, large jewelers, large bullion merchants"</i>. He also observes that for most of the time this group runs at around 160,000 contracts (circa 500 tonnes) short (see the chart below from Gene's site).</div><br /><div class="separator" style="clear: both; text-align: center;"><a href="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEgWv8zaWOEAD9OwUmF9muEDjW_2Ap9HPlpwiNytRxDDr5Q-eGU0vQd4d2Xz0OqOSGvjKqYMmp3ZdSVtXGVk0_FoBXUzm9Xl4hoV_YdnoDOWpjhm8_i-qw-fAFqRTH2elhw8QV97GNvi1Kw9/s1600/gene1.png" imageanchor="1" style="margin-left: 1em; margin-right: 1em;"><img border="0" src="https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEgWv8zaWOEAD9OwUmF9muEDjW_2Ap9HPlpwiNytRxDDr5Q-eGU0vQd4d2Xz0OqOSGvjKqYMmp3ZdSVtXGVk0_FoBXUzm9Xl4hoV_YdnoDOWpjhm8_i-qw-fAFqRTH2elhw8QV97GNvi1Kw9/s1600/gene1.png" /></a></div><br />Now the interesting this about this is that this group stays pretty much consistently short right through a huge bull run in gold, in pink. Don't you think that is unusual? As the losses mounted, wouldn't they have lightened up? How to account for this behaviour logically?<br /><br />The key is, as Gene says, that they are hedging their own physical. All of the types mentioned -  miners, refiners, jewellers and bullion dealers - have a lot of gold in the working inventories of their businesses. They own this metal (are long) and thus go short to hedge themselves. Their business is about buying gold and transforming it into another more valuable product and then selling it. They are not interested in making money on the gold price itself.<br /><br />Indeed, if they weren't hedged then as a group holding around 16 million ounces they would have lost around $11 billion dollars in the drop from $1900 to $1200. I'm pretty sure you'll agree that they are unlikely to be making so much profit making coins/jewellery or as coin dealers to wear that sort of loss.<br /><br />So that is why we see a stable short position for this group, with smaller ups and downs as their sales and inventory fluctuate in response to changes in demand. If demand surges, then their inventory gets run down and they would take short hedges off and the short position would reduce. As they restock inventory, the short position should increase.<br /><br />We now have a basis on which to explain the 2008/2009 and 2013 divergences from the long run average of 160,000 contracts short.<br /><br />My explanation for the reduction in shorts from 160,000 to 27,000 in late 2008 is that the financial crisis caused an <a href="http://goldchat.blogspot.com.au/2008/08/fud-fear-uncertainty-doubt.html" target="_blank">unprecedented</a> surge in retail demand for gold. The industry was not geared up for that sort of volume so inventories were run down, resulting in a <a href="http://www.sharelynx.com/gold/CoinPremiums.php" target="_blank">coin premiums surging</a>. As the industry geared up and put on extra shifts etc the producer/merchants were able to restock and hence we see their short position increase again.<br /><br />Continuing with this inventory based analysis, it suggests the interpretation for the 2013 reduction in short positions to 6,000 long is that the industry is running down its inventory. In 2008/09 the inventory run down was due to a demand surge, but was only temporary. In 2013 the run down has persisted. An explanation for that is that demand and business has dried up - if you aren't selling as much product then you don't need to hold, and can't justify holding, as much working inventory as you used to.<br /><br />Consider that during 2006/2007 the producer/merchant short position hovered between 50,000 and 100,000 contracts (see <a href="http://www.sharelynx.com/gold/cots/ddfcotgc.php" target="_blank">this chart</a>, which goes back a bit further than Gene's). The 160,000 average that Gene mentions is from 2009-2010-2011, which is the bull run in gold. An interpretation is that the extra demand during that bull run resulted in the industry needing to run higher inventories, so we see another 60,000+ shorts being added. With the $1900 bust, maybe the industry as a whole got stuck with higher than normal inventories so worked them down to their average of 75,000.<br /><br />What is interesting is that the rapid reduction from 75,000 short to 6,000 long started after the April 2013 price smash. That event certainly knocked sentiment from the market in the West. It resulted in cash for gold scrap business drying up (therefore less metal tied up in inventories by dealers and scrap merchants) and if you look at <a href="http://www.sharelynx.com/gold/USMintCoins.php" target="_blank">US Mint gold coin sales</a>, they drop right off from that point as well, so again coin dealers etc have reduced inventory needs.<br /><br />To further back up this analysis, consider that <a href="http://www.sharelynx.com/gold/USMintCoins.php" target="_blank">US Mint silver coin sales</a> have not reduced like gold and coincidentally the <a href="http://www.sharelynx.com/gold/cots/ddfcotsi.php" target="_blank">silver producer/merchant</a> short silver position shows no reduction like gold as the silver market is still strong.<br /><br />So I'd argue that the producer/merchant position is just reflecting the lack of Western interest in physical gold investment (as also demonstrated in gold ETF reductions) rather than them <em>"believe[ing] the path of least resistance is higher for gold."</em> Having said that, I wouldn't say it is necessarily bearish, as Gene is right in that it is a rare signal so could indicate a turning point. I just don't see it as a slam dunk bullish sign either, as this lack of interest in gold is likely to continue until people realise that, no, the economy isn't on the mend and the problems fixed. Until that mainstream narrative changes, we could see speculators testing the gold market to the downside.<br /><br />Note: I have linked to a number of Nick's Sharelynx charts in this post. Just sign up for the <a href="http://www.sharelynx.com/trial.php" target="_blank">free trial</a> to get access to them, they are invaluable to understanding what is going on in the market, as hopefully this post demonstrates.<br /><div align="justify"></div>

Gene Arensberg has a good post up on the rare occurrence of COMEX Producer/Merchants category going net long. He sees it as a bullish sign ...

More on bullion bank reserves, delta hedging and coat checking

<div style="text-align: justify;">Below is a response to FOFOA's seven part comment to me <a href="http://fofoa.blogspot.com/2013/10/gold-as-forex-currency.html?showComment=1383894602039#c441006473564506622" target="_blank">here</a> on his <a href="http://fofoa.blogspot.com.au/2013/10/gold-as-forex-currency.html" target="_blank">Gold as a FOREX currency post</a>.</div><div style="text-align: justify;"> </div><div style="text-align: justify;"><strong><em>FOFOA: “You can call <span style="font-family: inherit;">the</span> slack in the flow their "stock" if you want to, but if there's more flow coming in than going out, then the BBs will accumulate reserves. If there is more going out than coming in, then their reserves will decline.”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">This statement makes it sound like BBs are benevolent entities that manage the difference in flow for the market. If investors do not want to buy (sell) unallocated, then the BB will not accumulate (divest) reserves. There is also a separate borrow/lend market, and again, the impact on a BB’s reserves is driven by client action, not the BB.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">As you say, the unallocated account holders bear the burden of funding the BB’s reserves, from which it logically follows that BB accumulation/divestment of the “flow” is dependent on unallocated account holder willingness to hold unallocated (or futures etc).</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “unallocated credits are not necessarily lent into existence such that the offsetting asset is automatically a promissory note from a borrow, especially ever since the price of gold started rising in 2001 and it no longer made much sense to borrow in an appreciating unit.”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Interesting comment. Certainly the miner hedging has declined over that period, hence the drop in lease rates. I would note that this comment contradicts the goldbug theory that CBs and BBs lend paper gold into existence to supress the price of gold.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “So around 32 LBMA bullion banks which maintain ounce-denominated books (the very definition of a bullion bank) have their reserves stored in the vaults of the 6 bullion banks which are both LBMA-recognized custodians and also the clearing members of the LBMA. Talk about pooling reserves!”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">No, this does not follow at all. The non-clearing BBs only need to hold balances with clearing BBs sufficient to settle their net trading with other non-clearing BBs. No BB’s physical or paper (ie on-call liquid) reserves HAS to be held in London with a clearing BB.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">The point of the non-clearing BBs is that they have competitive advantages and specialisations with certain client bases in different geographical areas and so deal worldwide and hold physical gold outside of London (as do the clearing BBs). </div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><a href="http://www.perthmint.com.au/education-locoswaps.aspx">Loco swaps</a>, for example, are a common transaction and can be settled without needing any clearing in London. For example, Soc Gen could have metal in a Swiss bonded warehouse but have a client in HK who wants to buy. They could call ANZ, whose strategic focus is the Asian region, and do a loco swap of COMEX gold for gold that ANZ holds in HK. <a href="http://silveraxis.com/todayinsilver/2009/07/30/exchange-of-futures-for-physical-efp-explained-part-one/">EFPs</a> perform a similar function on futures markets.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">So non-clearing BBs could hold all their reserves in physical outside of London and only need run some unallocated balances with clearing BBs.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “Are Goldman Sachs' gold reserves, which are deposited at JP Morgan, physically allocated to GS or unallocated bookkeeping credits? The answer is that they are obviously unallocated credits. … Why would the reserves of 30+ non-custodial bullion banks be held in allocated storage in the 6 clearing members' vaults? They wouldn't, of course.”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">I don’t see “obviously” and “wouldn’t, of course” as arguments. I don’t see you explaining why it is obvious. Non-clearing BBs could easily hold allocated with a BB if they have exceeded their credit exposure to that bank. While the limits these banks grant each other are large, and they have netting or set-off arrangements, there are still limits and those limits can be used up by other divisions of the bank. In such situations the bullion division of a bank may therefore have to resort to allocated, as I noted <a href="http://fofoa.blogspot.com/2012/11/regular-forum-archives-1998-2001.html?showComment=1354597106574#c5114072417817404539">here</a>.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “I'm sure you'll dismiss or at least dispute this notion as well, but just think about it. It makes perfect sense, even if it doesn't fit into your limited view of the gold market from your little corner that happens to be mostly physical.”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Very condescending: “limited view” and “little corner”. As they say, if you can dish it out: I’m sure you’ll dismiss the notion that it is not obvious that non-clearing BBs’ reserves are unallocated credits with clearing BBs, but if you think about it, it makes perfect sense, even if it doesn’t fit into your limited view of the gold market with no practical experience of working in the industry and sitting in your little blogging corner making theories up from behind a keyboard.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “They would be unallocated bank-to-bank credits much the same as domestic commercial bank reserves held at the Fed are unallocated dollar credits. … non-custodial bullion banks are essentially depositors or deposit holders at the 6 LBMA clearing banks just like commercial banks have a reserve account at the Fed.”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">So I assume that your proof that non-clearing BBs’ reserves are unallocated credits with clearing BBs is that this is how fiat money works. The problem with the analogy is that Fed reserves system works because the banks know that there can never be a shortage of reserves – the Fed can just digitally print them. That does not hold in bullion banking, as you can’t print physical gold. I would suggest that this one significant difference means that bullion banking dynamics and institutional structures will be different to those of fiat banking.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">My best guess is that bullion banking operates along free banking lines, which I have discussed with costata and Michael H on your blog <a href="http://goldchat.blogspot.com.au/2012/12/freebanking-and-bullion-banking.html">here</a>. I found it interesting that you never engaged in that discussion, or remember you ever considering the idea elsewhere. Maybe because free banking means the system self regulates the amount of paper gold and thus won’t blow up?</div><div style="text-align: justify;"> </div><div style="text-align: justify;"><strong><em>FOFOA: “the system as a whole could be much more thinly reserved since 84% of the banks' reserves are fractionally reserved on a different level, the LBMA interbank clearing tier, for which we have only very limited insight.”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">So we have a limited insight into the LBMA interbank clearing tier, but “obvious” insight that the non-clearing BB’s must all hold their reserves as unallocated? To the extent that a BB holds unallocated with other BB’s instead of physical as reserves, then yes it is tiered and the overall fractionalisation is higher. However we have no idea of how much physical reserves clearing or non-clearing BBs hold.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “I don't think I've ever seen you give your explanation for the astonishing volume. I have, in the post above, but I've never heard what you think explains an average of 170 trades per bank, per day, each averaging almost a tonne per trade.”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">I’m surprised you are surprised. Your post just said that paper gold traded in FOREX markets and had carry (and funny in a post about carry trades no mention of GOFO was made, which is the carry rate). What is the big deal, any online FX service lists XAU as a currency to trade, the fact that it has an ISO currency code, these two should tell you gold is part of the FX market. As to volume, I covered that in this <a href="http://goldchat.blogspot.com.au/2009/10/king-of-currencies.html">2009 post</a>:</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><em>“the very fact that gold is no one’s liability and cannot be printed means it attracts a disproportionate amount of trading and speculation. Why is it assumed that 12.7% is excessive and unreasonable? Could not the 12.7% figure be proof of the special monetary nature of gold, proof that it is the King of Currencies?”</em></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">That post and the 12.7% turnover figure was pre-survey, which reported daily turnover of 5,400t a day. Latest GFMS figures have CB stocks at 29,597t and investors holding 34,820t. 5,400t by 64,417 stock gives 8.4%. If you said that half of that stock was long-term holders and thus not traded and should be excluded, it gives a turnover of say 17%. When compared to similar figures for fiat money it is not “astonishing” at all and is a great indicator of gold’s <a href="http://goldchat.blogspot.com.au/2009/01/london-bullion-clearing.html">liquidity</a>.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">As to the number of trades per bank, well I do consider that astonishing - astonishingly low. Knowing how many trades we do with clearing BBs each day, there is no way that is actual number of trades given the number of counterparties the BB deal with at that top tier. There is some sort of aggregation going on in the LBMA survey to give such a low number. Just another reason I am no so quick to draw conclusions or extrapolations from that survey until I understand the methodology.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “such tremendous volume, especially if the BBs are, as Christian says, only leveraged 10:1?”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">I am not sure I understand the link between turnover and fractional reserve ratio (which is what the 10:1 is referring to). You can have a 100% reserve system and still have many multiples of turnover. Leverage, yes, will increase turnover, but leverage and fractional reserve ratio are different things.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “what could possibly be offsetting their net exposure given that the volume is ten times higher than the gold futures markets (and 100 times higher than GLD's daily volume)? Physical?”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Again, I don’t get the link between turnover and net exposure. Anyone could buy and sell back the same ounce multiple times during a day and be left with no net exposure at the end of the day. The BBs could intermediate (make markets) between FX desk traders all day and have no exposure.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">I would argue that the greater the leverage employed (and these FX platforms and contracts for difference market themselves on the leverage you can use) the less likely these speculators are to hold a position overnight. They add a lot of turnover and liquidity but at the end of the day do not add the sort of massive net positions you think they leave BBs with which require BBs to “delta hedge”.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “Do you even understand how the banks use these? Here's an email from FOREX Trader which I posted back in June of 2012 … The only answer I can think of is that they hedge it by going long correlated (but not identical) assets. What's correlated with paper gold? Silver, copper, euros, crude oil, interest rates, yield curve spreads, whatever.”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><em>“I can think of”</em> – sounds like he is guessing at what it is? If you read through FT Alphaville’s articles and associated links it is not clear that it is totally about using correlated assets. A lot of it is using derivatives of the underlying asset to synthesise the underlying asset’s performance.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">It is easy for your FX trader to say <em>“I made a quick delta-0.7 using some regression and eyeballing”</em> and another thing to actual implement it for the sort of volumes you are talking about and sustain that without slippage/loss.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Indeed, as this <a href="http://www.reuters.com/article/2011/09/21/us-banks-trading-idUSTRE78K4TK20110921">Reuters article</a> says: <em>“traders say that much of what happens at "Delta One" desks -- the focus of the UBS loss -- and in other parts of the business is driven by banks betting their capital to make a profit in what is known as proprietary, or "prop," trading.”</em> That is, Delta One desk are no more than speculative trading, gambling. No surprise that UBS’ and Soc Gen’s blew up.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “This is the age of complex derivatives, and to dismiss them being used in the "gold" market, especially given the incredible volume reported in the LBMA survey, simply because you don't see them being used in your little physical corner of the market, is simply silly.”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">There you go again with the condescension. The Perth Mint may not deal in this sort of risky stuff, but we have deep contacts into the BB market. I’ve asked a BB dealing desk managers about this delta hedging in another context and it was laughed at. He said he had enough trouble getting his middle office (risk) to approve an offset of gold in different locos, let alone something as unstable as complex mix of unrelated but partly correlated assets. You believe your source (by the way, has he/she ever worked on a bullion desk) and I’ll believe mine.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “this coat-check room view since January of 2011, but I didn't come up with it. … But it is obviously the correct view if you give it proper consideration.”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Who cares the source, you’ve endorsed it and appropriated it as part of your view of the market. And again with the “obvious”, I mean I think what I’m saying is obvious but that line of argument doesn’t seem to persuade you for some reason.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">As I said, I can see ETFs (any of them) being drawn upon via stock borrowing, but I dispute that a BB can park reserves in it.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “The coat-check room view only applies to GLD, and not to any other ETFs, gold or otherwise. It's not an ETF thing, it's only a GLD thing, because GLD is the LBMA's gold ETF. … because the LBMA is head and shoulders above all other gold selling organizations. And that's very simply why GLD is 10 times larger than other gold ETFs. Not because of marketing (PHYS arguably has better marketing), but because it's the LBMA's gold ETF, and the LBMA had that much gold to put into its ETF!”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">What do you mean by <em>“GLD is the LBMA’s gold ETF”</em>. The WGC is the one who sponsored (funded) GLD and created it. The reason it is the biggest is because it was the first and the WGC had been marketing to institutions well in advance of its launch (indeed, some US and UK money was funnelled into the Australian gold ETF because GLD was delayed). It is crazy to say PHYS has better marketing, you have no idea of the machine that the WGC deployed at the institutional level to sell GLD.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">And can we please not use “LBMA”. The LBMA does not have any gold, or run vaults or trade. Please be specific. Are you talking about all the BBs, or just the clearing BBs, or only a few of those?</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “If someone wants to capture a GLD discount-to-NAV arbitrage opportunity, it suffices to buy GLD and sell spot unallocated (XAUUSD). Then you wait until the selling pressure in GLD has abated, and you square your position. No redemption necessary. GLD is so large that, even if institutional investors dump it, someone else, including the bullion banks, will take it instead of allocated if it is cheap enough. But why redeem?”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">The BBs redeem because they have to pay 0.4% management fee on GLD when holding unallocated with a clearing BB cost them a lot less than that and if you have your own vault, the cost of storing the physical yourself is zero. In that case, why wouldn’t they redeem?</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “It's one way a bullion bank could turn a dead asset (surplus reserves) into a live one. …”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">You didn’t need to go to all that trouble with the T accounts, as steps 1-2 are what DP said and you have answered my question “so you're saying collectively the BBs went naked short 2000t of ETF gold” with a yes, but they delta hedge themselves, which is what I guessed in my response to DP. So the whole coatchecking IN thesis rests on delta hedging. Given I don’t think delta hedging is reasonable for that amount of gold and for the time period involved, we’ll just have to disagree.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Can you just clarify one thing – how much of GLD are you claiming came from excess reserves, that is, how much of it was delta hedged (at its peak)?</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “Before GLD, there was a storage cost associated with sitting on excess reserves, but the banks had no choice but to eat that cost.”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">As I said to DP, <em>“the marginal cost to a bullion bank to hold physical reserves is zero (vaulting is primarily a fixed cost business), there was/is no pressing need to create ETF's to save costs by parking metal in an ETF structure.”</em></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “now there was also an opportunity cost in addition to the storage cost of sitting on "excess" reserves.”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Not sure what you mean by opportunity cost. I’m guessing the fact that you can invest the excess cash from selling GLD shares less the lesser amount needed for that perfect delta hedge. Have you considered as well that under your theory the BBs didn’t need GLD to manage any excess reserves as they could have just delta hedged any client long positions rather than accumulating physical (and it is just as easy to borrow physical gold as it is to borrow GLD). GLD coatcheck in theory requires delta hedging, but once you believe in delta hedging you don’t need GLD coatcheck in theory.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “the LBMA could be using GLD shares in its internal clearing process, only redeeming them when the underlying physical is needed to restock the subterranean stream, that is, for physical allocation or delivery. No need to redeem simply for interbank clearing, just transfer the shares.”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">No, the LPMCL Clearing software, AURUM, and the associated SWIFT metal instructions do not allow for equity transfers, it is a metal (ounce) system only. </div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “I realize that you're trying to be Bron-the-Debunker, superhero destroyer of precious metals charlatans and defender of rational analysis, but with this GLD drain issue, I sometimes wonder if you really can't see how irrational your physical arbitrage view appears, or if you're just sticking to your guns.”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">It seems pretty irrational to me for you to stick to your guns about a complex coatcheck/GLD/delta hedging when there exists another Occam’s razor explanation: after 2008 gold developed a <a href="http://goldchat.blogspot.com.au/2013/07/gold-is-pure-epsilonnarrative-asset.html">narrative</a> among institutional investors that it was an uncertainty hedge, lots of money piled in, pushed gold price and ETF holdings up, the narrative changed now that everyone thinks the economy is getting better and the money (and gold) flew out. </div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “And yes, I did see your latest post asserting that PHYS redemptions might be due to an arbitrage opportunity rather than a general shift in preference toward physical.”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">I said <em>“It is a bit hard to say if it is arbitrage or just a holder(s) from long ago getting out”</em> the latter being a shift in preference toward physical. So it could be either.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “PHYS lost what, a little over one tonne in the last 5 months? GLD has lost an average of 46 tonnes per month for the last 10 months. That's well over a third of its holdings in less than a year.”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">What interests me, is if BBs are desperate for physical and failure the fractional reserve system is imminent as some claim, why are we not seeing much physical redemption from PHYS, especially when a BB is paid to do so?</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “I must admit, I don't envy you gold sellers right now.”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Thankfully the Perth Mint doesn’t “sell” gold, so I don’t envy them either. Insurance/protect wealth reasons for buying gold are boring and don’t attract clicks but are evergreen. Those who went for clicks and dramatic headlines and tried to sell gold on other reasons now face a credibility problem.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “in general, what is your argument for buying physical gold right now?”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Because even <em>“if you don't expect a financial, economic or currency crisis”</em>, you can’t be 100% sure at this time. Nor can you know if Freegold is right. If either happen then you have some protection. If neither happen, then any loss was just your insurance premium.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><strong><em>FOFOA: “We can resume the survey discrepancy debate if you want.”</em></strong></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">I’m just going to have to find the time to write it up in an appropriate way and send questions to the LBMA, that is the only way to resolve it.</div>

Below is a response to FOFOA's seven part comment to me here on his Gold as a FOREX currency post . FOFOA: “You can call the slack ...

More Deception About the COMEX

<div style="text-align: justify;">The title of this post is a play on <a href="http://www.tfmetalsreport.com/blog/5182/more-deception-comex">this</a> TF Metals Report post. In it TF claims that deposits into JPM's stocks as shown on recent CME Gold Stocks report <i>"are bullshit. Either completely fabricated and falsified OR simple paper claims. It's one or the other due to the simple statistical improbability of three consecutive round numbers totaling exactly 10 metric tonnes."</i></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">He then concludes that <i>"this eligible gold deception currently being employed by The Comex is just another indicator"</i> of <i>"the end of the fractional reserve bullion banking system is rapidly approaching. Keep stacking and prepare accordingly."</i></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">I find it interesting that even though TF thinks that <i>"this latest move is so brazen in its audacity"</i> and says that <i>"since no one else is talking about it, maybe I'm just crazy"</i>, he doesn't think to qualify his analysis. No TF, you are not crazy, you just didn't bother to do any research before jumping to a conclusion.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">On the first page of the CME's gold futures <a href="http://www.cmegroup.com/rulebook/NYMEX/1a/113.pdf">rulebook</a> it says:</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><i>"Gold meeting all of the following specifications shall be deliverable in satisfaction of futures contract delivery obligations under this rule:<br /><br />1. Either one (1) 100 troy ounce bar, or three (3) one (1) kilo bars. ...<br /><br />6. Upon receipt of the gold bar by the Licensed Depository who must also qualify and be designated a Licensed Weighmaster for gold, each gold bar shall be weighed in the lot measured to 1/100 of a troy ounce (two decimal points)."</i></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Since gold kilo bars are cast to exactly one kilo, they all weigh the same - 32.15075oz. Under point number 6 that is then rounded down to 32.15oz. So 32.15 x 6000 kilos (ie 6 tonnes) gives the "statistically improbable" 192,900.000oz that TF observes.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">I would note that in the wholesale markets kilo bars (as well as 400oz bars) are usually sold in 1 tonne lots, so it also makes sense that movements occur in the 1 tonne lots that TF considers a suspicious sign.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">So TF's conclusion in his post is wrong because he didn't bother to check that COMEX allows kilos bars and that every kilo bar is recorded as 32.15oz, which multiplies out to the exact ounce figures.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">I would also note that unlike kilo bars 400oz bars (and I believe 100oz silver COMEX ones) are odd weight, ie bars can be + or - of the target weight within approved tolerances - it is done this way because it is cheaper than casting bars to an exact weight. This is usually done by measuring out granules to the weight before then putting them into a mould and melting them. 400oz/100oz bars are casting by pouring from a crucible and relies on the skill of the pourer to fill the mould as close as possible to the target weight.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">I was surprised that TF would not know the rules of his own futures exchange and one that he analyses and comments on, but it seems that he is not alone, with others republishing TF's post approvingly - <a href="http://www.gata.org/node/13165">GATA</a>, <a href="http://jessescrossroadscafe.blogspot.ca/2013/10/claims-per-deliverable-ounce-rises-to.html">Jesse</a>, <a href="http://harveyorgan.blogspot.com.au/2013/10/oct-28gld-and-slv-remain-constantgold.html">Harvey Organ & Bill Holter</a>, <a href="http://www.silverdoctors.com/more-deception-at-the-comex/">Silver Doctors</a>, <a href="http://www.brotherjohnf.com/archives/236501">Brother John F</a> to name a few.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">I can see why that may be, as kilo bars are primarily a size in demand in the India/Asian region rather than the US, and most of the bars in COMEX I guess would be 100oz. I note that the rulebook specifies a minimum of 99.5% purity whereas kilo bars for the Asian market are generally demanded to 99.99% purity. As it costs more to make 99.99 than 99.5, a bullion bank isn't going to put 99.99 kilo bars into COMEX and may not be able to use 99.5 COMEX bars to meet Asian demand without re-refining. So we sort of have two separate kilobar markets.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">The end result of the above facts is that kilo bars in COMEX I guess would rare. Therefore, TF was on to something when he saw kilo bar movements into COMEX, the problem is he got the analysis completely backwards.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">If Asian demand is high and a bullion bank can get good premiums on 99.99 kilobars, they are going to ask refiners to turn all mine dore into 99.99 kilo bars. So if we see 99.5 bars going into COMEX then it may be an indicator that Asian demand has eased. Maybe JPM had commitments with refiners to buy their output for a period of time, and if Asian demand had eased then they may have just asked their refineries to make 99.5 (for all we know maybe those deliveries were 99.99 kilo bars) and they are just parking them in their COMEX warehouse, waiting for Asian demand to return.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">This Tuesday report from Reuters confirms the theory: <a href="http://in.reuters.com/article/2013/10/29/asiagold-china-idINL3N0IJ37X20131029">Asia Gold-Chinese prices at a discount on credit crunch fears</a>:</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;"><i>"'The rise in borrowing costs in onshore China plays a crucial role. People don't want to keep the metal and they try to dump it to raise cash,' said one precious metals trader in Hong Kong. Another trader said there had not been a significant drop in demand but liquidation of stocks was taking its toll on prices."</i></div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">So if you were a trader, TF's advice to "keep stacking" on the basis of the unusual CME delivery figures was actually backwards - it was possibly a sell signal.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">TF should keep an eye on the CME reports - if there are movements of round ounce tonne lots, indicative of kilo bars, out of the warehouses then it may be an advance bullish signal of Asian demand returning.</div><div style="text-align: justify;"><br /></div><div style="text-align: justify;">Unfortunately, I don't think TF is listening as six days ago I left comments to his post explaining the above kilo bar issue and he has not made any correction to his clearly incorrect post. Maybe he thinks I'm just an <em>"ardent Cartel apologist and disinfo agent".</em> A pity, as round ounce tonne lot movements looks like a good trading signal - if only you know how to read it.<br /><br />Correction Nov 5th: After a discussion about this post with TF (see <a href="http://www.tfmetalsreport.com/comment/362307#comment-362307" target="_blank">here</a>, <a href="http://www.tfmetalsreport.com/comment/362710#comment-362710" target="_blank">here</a> and keep scrolling) I would like to clarify that I didn't intend to mean that TF's "keep stacking" was trading advice. My intent was to say IF you were a trader then you may have read his post as bullish. TF also noted that he was not following the comments on the original post, hence he missed by comments, so it was not a case of not listening.<br /><br />I will also give props to TF for publishing my comments, which is more than I can say for some bloggers who remove comments that are critical of them.</div>

The title of this post is a play on this TF Metals Report post. In it TF claims that deposits into JPM's stocks as shown on recent CME ...