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When Rock begins to beat Paper

Jul 21, 2022, 5:35 pm BST
This article is more than 2 years old.
Gold: When Rock begins to beat paper

When you choose to invest in gold it can be confusing to know the best way to add it to your portfolio. Should you buy gold bullion? Should you buy a gold ETF? Or maybe gold mining shares?

It’s a minefield!

Here at GoldCore, we see it very simply: if you want to get all of the benefits of holding gold then you should own physical gold. Because if you can’t hold it then you don’t own it.

Never before has this philosophy been more pertinent than in the last few quarters. As more and more has come to light about how the paper gold market is managed. We summarise some recent changes below and highlight some significant imbalances.

The End of the Beginning: Paper Gold V/S Physical Gold

Has the ‘end of the beginning’ arrived for paper gold’s dominance over physical gold?
An overdue accounting change sheds a small beam of light on the holders of the Paper precious metal market. This shows once again that the paper market is not the same as the Physical metals market!

Even regulators are starting to realize that the counterparty risk involved in the paper gold market is not similar to holding physical gold. This was very apparent in the latest filing of bank activities in the US.

A short background is important here: Each U.S. commercial bank and savings association (with assets of more than US$5 billion). These are required to file a report with the Office of the Comptroller of the Currency (OCC) each quarter.

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This report shows its trading and derivatives (financial contracts that value is based on the underlying security used to manage risk, speculation or leverage a position, examples are futures, option, and swap contracts) activities.

The OCC states its requirement of banks to report this data is to make many markets. This includes the paper gold market, more transparency, addressing infrastructure, clearing, and margining issues in the over-the-counter (OTC) derivatives market.

The first item we note in the report is that – in the first quarter of 2022 the report showed that there are more than 1,291 banks that reported in Q1.

However, the four largest commercial banks represent 89% of the total banking industry notional amounts and 69% of the industry net current credit exposure.

Yes – that is correct, the four banks do 89% of all trading and derivative activity by banks in the U.S. And almost 70% of the total market exposure is those same 4 banks!

The second item of note, and most important to gold and silver investors is the change in the way that gold and silver contracts have to be reported.

This change in reporting is in line with the change that was laid out in the Basel III accord of separating the way physical gold (they call it allocated gold) compared to Paper gold (they call it unallocated) is held on a bank’s balance sheet. For a refresher see our post from last July How will Basel III Impact the Gold Market?

The bottom line of the change is that the counterparty risk of the paper market is now being considered. Said another way – How much money is really on the line if it all goes south?

Precious Metals Contracts as an Exchange Rate Derivative

In other words, as we have stated many times, if you or Goldcore don’t hold the physical gold then you don’t own it and there is too much counterparty risk!

Previous to January 1, 2022 banks could state their precious metals contracts as an exchange rate derivative. However, starting January 1, 2022 banks are now required to calculate their precious metal contacts using the “Standardized Approach for Counterparty Credit Risk”.

Below is the chart from the very back of the OCC report showing the resulting difference in exposure reported. The amount went from US$79 billion in Q4-2021 to US$492 billion in Q1-2022!

National Amounts of precious metal contracts by Maturity

This change also moved contracts hiding in other places to the precious metal contracts bucket. Moreover, the chart below shows the seven U.S. banks’ with the largest derivative contract holdings. 

And guess which bank controls the most precious metal contracts …. None other than JPMorgan Chase, second is Citibank.

The change in accounting moved JP Morgan’s precious metal contracts from US$28 billion in Q4 of last year to US$330 billion in Q1-2022 and Citibank’s precious metal contracts from US$6 billion to US$89 billion. These two banks control 90% of the U.S. bank precious metals derivative market!

Notional Amounts of over-the-counter and centrally cleared derivative contracts

Moreover, it’s no coincidence that it is JP Morgan Chase traders on trial for manipulation of the gold market. See Gold Traders on Trial: Only Buy Physical.

Long Term Gold Price Prediction- Kevin Wadsworth

Changes in Basel III prompted this change. This is to keep European banks and US banks from arbitraging across the Atlantic. Also, the case is strengthened by the sanctions against Russia that increases counterparty risk.

However, it only offers a glimpse into the behind-the-scenes positions of large banks.  This is only a glimpse – the main act and true extent of both the manipulation and control by a small few is yet to be fully revealed.

And we leave the final thought as a question: Is it any coincidence that the largest U.S. bank derivative holders are also primary dealers of the Federal Reserve?  

Whilst we’ve got your attention do you fancy dragging out this coffee break some more and watching some top chat about gold, silver and markets?

Our new show The M3 Report is now on its second episode and well worth checking out, if you haven’t already. Featuring Marc Faber and a new feature, Trading Places where we asked six experts what they would do if they were in Jerome Powell’s shoes. (No one said they liked the look of his shoes!).

Gareth Soloway and Marc Faber on Metals, Markets and Money

From The Trading Desk

Market Update

The ECB today finally raised rates by more than an expected 50bp, its first rate hike in over 10 years and its highest in 20 years. 

The market was pricing in a 25bp rise based on indications the ECB had given in June. Inflation within the Eurozone inflation remains ‘undesirably high’.

Lagarde also hinted to further rate rises in September but did not give any guidance on what those increases would be, saying the decision will be on a meeting-by-meeting basis. 

Lagarde went on to say, the ECB sees slower growth in the end half of 2022 and beyond but no recession in the Eurozone this year.

The Euro rallied initially on the back of the rate announcement but gave back most of those gains were given back as the market is less convinced the ECB can tackle the widening gap between bond yields across the eurozone. 

A lot of attention has been given to the Gold price in USD of late. Gold is down in USD terms YTD and was close to key technical support earlier today at $1,680.

However, both in EURO and GBP terms, gold is up on the year. In Euro terms, gold is up 5% YTD and in GBP up over 6%.

As these currencies continue to devalue, gold is doing what it should be doing here for the Euro and GBP investor. 

Stock Update 

Silver Britannia offer UK – We have just taken delivery of 10,000 Silver Britannia’s at our London depository.

Available for storage in London or immediate delivery within the UK. These are available at the lowest premium in the market  (which includes VAT at 20%).

You can purchase these online or contact our trading desk for more information. 

Excellent stock and availability on all Gold Coins and bars. Please contact our trading desk with any questions you may have. 

Silver coins are now available for delivery or storage in Ireland and the EU with the lowest premium in the market. Starting as low as Spot plus 37% for Silver Britannia’s

Silver 100oz and 1000oz bars are also available VAT free in Zurich starting at 8% for the 1000oz bars and 12.5% for the 100oz bars.

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20-07-2022 1712.65 1709.30 1423.90 1426.41 1671.89 1672.89
19-07-2022 1712.95 1713.05 1426.37 1425.77 1674.58 1673.14
18-07-2022 1723.65 1719.05 1442.01 1432.48 1699.00 1692.40
15-07-2022 1702.55 1706.15 1439.85 1438.63 1696.08 1693.87
14-07-2022 1716.15 1700.70 1447.06 1441.51 1710.66 1705.46
13-07-2022 1728.90 1724.60 1454.70 1452.63 1723.02 1718.56
12-07-2022 1734.35 1730.70 1466.39 1457.60 1733.66 1722.05
11-07-2022 1737.40 1740.00 1452.99 1462.82 1717.25 1728.34
08-07-2022 1737.05 1738.20 1454.08 1451.57 1717.42 1714.56
07-07-2022 1743.45 1747.95 1455.96 1456.04 1711.20 1716.84

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