Money printing by world central banks, it would seem, has propelled the
prices of all things rare. The list includes fine art, vintage wines
and antique sports cars. It is front page news that the flood of paper
money has enhanced the quotation of almost any tangible asset perceived
to be in scarce supply. In a 11/23/13 article, The Economist reports:
“Evermore wealth is being parked in fancy storage facilities….The goods
they stash in freeports range from paintings, fine wine and precious
metals to tapestries and even classic cars.” The article observes that a
key factor fuelling “this buying binge…is growing distrust of financial
assets.” It doesn’t hurt that the prices of most of these items have
trended steadily higher in price over the past decade.
Most intriguing in this array of ascendant alternative assets, however,
is the crypto currency known as Bitcoin, whose advocates offer a
rationale that is striking in its parallel to that for holding gold
bullion. Bitcoin, as almost everyone knows, is a liquid transactional
medium of strictly limited supply. The parallel breaks down, of course,
when it comes to price behavior of these two otherwise similar
alternative currencies. The price of a Bitcoin has increased to
$975/coin (Mt. Gox 12/10/13) from less than $25 in May 2011. At the end
of May 2011, bullion traded near $1500/oz, and is quoted today at a
price that is 17% lower.
The supply of gold has increased over the past two years by 180 million
ounces. As an increment to the existing stock of above ground gold, the
percentage works out to about 1.5%/year. In the meantime, the US
monetary base increased 14%, or an annual rate of 6.7%.
The supply of Bitcoins is fixed at 21 million. There are 11.5 million
in circulation. Mining new Bitcoins requires incrementally more massive
upgrades in computing power. According to Raoul Pal’s Global Macro
Newsletter of 1/11/13 as seen on Zero Hedge, Bitcoin’s success is due to
the fact that “the man in the street understands that central banks and
governments are going to take their money via confiscation or default
or devaluation and it (Bitcoin) is their way of voting against it and
them.”
The man in the street has apparently overlooked the similarities
between gold and Bitcoin. The future supply of newly mined gold would
seem to be in jeopardy if current pricing holds. The same cannot be said
for US dollars. While mine output may continue for a year or two at the
current pace, production post 2015 seems set to decline and perhaps
sharply. Discovery of new gold bearing ore bodies is down sharply.
Miners are challenged by declining grades, poor investment returns,
worsening access to capital, and increasing risks due to political
instability in gold producing countries, rising tax burdens and growing
permitting challenges. At current prices, most gold mining companies are
barely breaking even on an “all-in” cost accounting basis.
The Bitcoin-gold incongruity is explained by the fact that financial
engineers have not yet discovered a way to collateralize bitcoins for
leveraged trades. There is (as yet) no Bitcoin futures exchange, no
Bitcoin derivatives, no Bitcoin hypothecation or rehypothecation. In
2000, gold expert Jeff Christian of the CPM Group wrote:
Imagine, if you will, that the (bullion) bank can line up three or
more producers and others who want to borrow this gold. All of a sudden,
that one ounce of gold is now involved in half a dozen transactions.
The physical volume has not changed, but the turnover has multiplied.
This is the basic building block of bullion banking.” (Bullion Banking
Explained – February 2000). He went on to say that “many banks use
factor loadings of 5 to 10 for their bullion, meaning that they will
loan or sell 5 to 10 times as much metal as they have either purchased
or committed to buy. One dealer we know uses a leverage factor of 40.
The buying and selling of paper gold is the traditional business of
bullion banking. It is the core of how business is conducted in the
world of gold. Gold miners mine and concentrate gold ore. They send
concentrates from the mine site to refiners who purify the ore into bars
that are 99.99% gold. Refiners remit cash to the mining companies
crediting them for gold content in the ore minus impurities. Refiners
sell their gold bars, typically to bullion banks in London, where the
physical gold is received for deposit in allocated or unallocated pools
and held for distribution to users such as the jewelry trade, industry
or mints. The physical gold that remains in London as unallocated bars
is the foundation for leveraged paper gold trades. This chain of events
is perfectly ordinary and in keeping with time honored custom.
What is interesting, and perhaps not surprising, is the way in which a
solid business model has been perverted by extraordinary leverage into
an important, unregulated trading profit center for large banks and
hedge funds wholly unrelated to the needs of miners, jewelry
manufacturers, and other industrial users. In its 2013 study related to
gold, the Reserve Bank of India (RBI) commented: “In the Financial
Markets, the traded amount of “paper linked to gold” exceeds by far the
actual supply of physical gold: the volume on the London Bullion Market
Association (LBMA of which the RBI is a member) OTC market and the other
major Futures and Options Exchanges was over 92 times that of the
underlying Physical Market.”
The LBMA reported that average daily volume of gold cleared in June
2013 was 29 million ounces, a new record. The LBMA estimated in 2011
that trading was 10x clearing volume. Assuming this ratio has held over
the past two years, trading volume is the equivalent of 9000 metric tons
of gold on a
daily basis, compared to
annual mine production of 2800 metric tons.
Compliant and unwitting central banks leave much of their gold on
deposit in London, to be “managed” by the Bank of England, presumably to
produce earnings on an otherwise dormant asset. For example, the
central banks of Finland and Sweden announced last month that
approximately half of their gold was somewhere in London earning
something. Reassuring language from the Bank of Finland suggested that
“the risks associated with gold investments are controlled using limits,
investment diversification and limitations regarding run times.”
It would not be surprising if “run times” on leasing arrangements of
central bank gold span decades. 1970’s documents recently declassified
or otherwise unearthed contain extensive discussions among high level
policy makers including Volcker, Kissinger, Arthur Burns and others
expressing various concerns over the implications of a rising gold
price. The policy objective in those days was to establish the SDR and
the US dollar as the foundation of a “durable, stable (international
financial) system”, an objective which was deemed “incompatible with a
continued important role for gold as a reserve asset.” It was therefore
resolved to “encourage and facilitate the eventual demonetization of
gold …and (to) encourage the gradual disposition of monetary gold
through sales in the private market.” (from a 1974 memo written by
Sidney Weintraub, Deputy Assistant Secretary of State for International
Finance and Development to Paul Volcker, Under Secretary of the Treasury
for Monetary Affairs).
At the November, 2013 Metals and Mining Conference in San Francisco,
keynote speaker Ron Paul and former lawyer to Governor Ronald Reagan,
Art Costamagna, reminisced about their service together for the
1981-1982 Reagan Gold Commission. They noted that the Commission was not
allowed to initiate an audit of the Fort Knox gold depository. Paul
stated from the podium that no member of Congress has any real
information on the status of that gold. He believed that the gold was
still physically located at Fort Knox but most likely encumbered by
complex derivative transactions.
Several observers have noted the difficulty Germany has encountered in
requesting the repatriation of its gold held on deposit at the New York
Fed. A return of physical gold that could be easily accomplished in two
trans-Atlantic cargo flights must be stretched out over seven years,
Germany was informed by the custodian of their gold, the New York Fed.
However, the Germans were cordially invited to view their gold bars in
the meantime. The reasons for the stretched out delivery schedule are
not given by government officials, but we surmise that the difficulty
relates to the unwinding of a web of leasing arrangements in which
specific bars have been re-hypothecated, perhaps hundreds of times, over
many decades. Who knows what counter parties were involved, not to
mention their obligations or responsibilities?
One wonders whether the German request was the beginning of a run on
the institutional arrangements that govern global depositories of
unallocated physical gold. For those of us who have cheered the
withdrawl of physical collateral from the system because of its
potential tightening effect on derivative transactions, the short term
effect may have been to depress the price of paper gold because there is
less physical to support the frenetic trading of paper reported in the
financial media. The shrinkage of collateral availability may be
analogous to a contraction of credit which in a general sense drives
down asset prices. At the end of credit liquidation cycles, however,
collateral seems to wind up in the strongest hands. While most of the
trading in paper gold nominally takes place on Comex, there is a
parallel and much larger over the counter and derivatives market based
in London where physical trades are also settled. The LBMA vets
refiners, dealers, bar purity and other technical matters. It is a trade
organization consisting of 143 members ranging from bullion banks,
central banks, fabricators, refiners, and brokers who have some
participation in the settlement of physical and paper trades. LBMA
reports the results of the two daily London Gold Fixes but otherwise has
no substantive input, supervisory or regulatory. According to a
11/26/13 Bloomberg dispatch, the fix is controlled by London Gold Market
Fixing Ltd, an entity owned by five bullion banks. While the process is
unregulated, one of the member banks went on the record for Bloomberg
stating that the company has a “deeply rooted compliance culture and a
drive to continually look toward ways to improve our existing processes
and practices.”
From a regulatory point of view, the City of London is an entity unto
itself, with a peculiar and special status, incorporated separately from
greater London. It is the birthplace of the offshore banking industry
and, as described by Nicholas Shaxson, author of Treasure Islands, the
city “provides endless loopholes for U.S. financial corporations and
many U.S. banking catastrophes can be traced substantially to those
companies’ London Offices.” A July, 2010 Working Paper titled “The
(sizable) Role of Rehypothecation in the Shadow Banking System” asserts
that in the UK, an “unlimited amount of the customer’s assets can be
rehypothecated and there are no customer protection rules.”
(Rehypothecation occurs when the collateral posted by a prime brokerage
client (e.g., hedge fund) to its prime broker is used as collateral also
by the prime broker for its own purposes.) The London offices of AIG,
JP Morgan, MF Global and others took advantage of the local “regulation
lite” to fund off balance sheet ventures that would ultimately impair
corporate and customer credit. It would be hard to imagine that the
culture of the City did not extend to gold. In fact, the intersection of
the shadow banking system and the pool of unallocated bullion does much
to explain the proliferation of paper gold supply.
For the moment, the primary function of the paper gold market appears
to be to enable macro hedge fund traders to express bets on the
likelihood and timing of tapering the pace of quantitative easing. Made
possible by lax oversight, weak accounting systems and otherwise dubious
connections to underlying physical, the paper gold market offers
substantial capacity for money flows wishing to take a stance on the
expected shift in Fed policy. Unlike the physical gold market, which is
not amenable to absorbing large capital flows, the paper market through
nearly infinite rehypothecation is ideal for hyperactive trading
activity, especially in conjunction with related bets on FX, equity
indices, and interest rates.
Are high frequency and algorithmic traders that account for over 90% of
the futures volume currently having a field day with this worn out
trade paying any attention to the steady drain of physical gold on which
their speculations are based? As is usually the case in a temporarily
successful momentum trade where almost the entire universe is aboard,
the answer is probably not. The precipitous 2013 drop in Comex warehouse
stocks and ETP holdings has been widely reported. It is also well known
that physical gold is showing up in record amounts in China. The
manager of one of the largest Swiss refiners stated (12/10/13-In Gold We
Trust website) that after almost doubling capacity this year, “they put
on three shifts, they’re working 24 hours a day,….and every time (we)
think it’s going to slow down, (we) get more orders…..70% of their kilo
bar fabrication is going to China.” In his 37 years in the business, he
has never experienced this degree of difficulty in sourcing physical
metal. In some cases, they are recasting good delivery bars from the
1960’s. He added that there is no evidence of any return of these
massive import flows back into Western hands.
China appears to be bent on becoming a dominant force in the physical
gold market. There are eight refineries in mainland China converting 400
oz. London good delivery bars into Kilo bars, the preferred format in
Asia. An increasing flow of physical is bypassing London and going
straight to China. China has not shown its hand in the official sector.
At last report (five years ago), China holds only 1000 tonnes of gold in
official reserves. Current market weakness certainly benefits large
buyers of physical as well as their fiscal agents in Western financial
markets. China may be attempting to help their cause by understating
import levels and by overstating domestic production. The CEO of a major
Canadian mining company, whose research group has done due diligence on
every existing producing mine of significance in the world, including
China (over 2000 properties globally) believes that domestic Chinese
production is less than half of what is reported officially. We have
also heard credible stories from other mining executives to the effect
that short reserve lives will mean a significant decline in future
domestic production. Also uncaptured in Hong Kong import numbers are
direct shipments from Russian production, which are said to be conveyed
by the Chinese military. The Chinese government continues to encourage
its citizens to buy physical gold, but why? Our guess is that Chinese
policy makerss take a different view of the future price than Western
hedge funds, and we suspect they have a superior grasp of where the gold
price is headed.
Rising demand for physical is not simply an Asian phenomenon. The
December 3, 2013 U.S. Commodity Futures Trading Commission report shows
that commercials, the category which includes bullion banks, have
substantially reduced their massive short exposure over the past year
while the short exposure of large traders, mainly hedge funds have
approached record highs for 2013. The CFTC bank participation report
which includes 20 banks shows a swing from a net short position in
December 2012 of 106,400 contracts to a net long position of 57,400
contracts for December 2013. Long contracts held by bullion banks are
being used to claim physical gold stored at Comex warehouses. JP Morgan
accounted for more than 90% of December deliveries. The category of
registered bars which must be delivered upon notice stands at a two year
low and is not far from a ten year low.
It seems to us that the physical flows we have outlined cannot be
supported by new mine supply or scrap only. In our view, these flows
could only be accommodated by a significant amount of destocking, the
prime source of which would appear to be vaults of unallocated gold in
London. While it appears that Western traders don’t seem to mind if
their paper claims have a credible backing by physical, we can think of
three reasons why this may change and lead to an epic short squeeze:
regulatory scrutiny, suspect bookkeeping, and the realization that cash
(in the bank) may no longer be king.
1. The limits to leverage are unknown as are the potential
flashpoints to collapse the pyramid. The disappearance of collateral may
have depressed gold prices in the short term, assuming there is any
integrity to the requirements for collateral backing. It is only our
speculation, but we believe that increased regulatory scrutiny could
provide a major splash of cold water. Such scrutiny could lead, among
others things, tighter standards for collateral, rules on
rehypothecation, etc. This could well lead to a scramble for physical.
On 11/19/13, the UK Financial Conduct Authority announced that it is
reviewing gold benchmarks as part of their wider probe on how global
rates are set. Why should the gold market be excluded from review when
many of the bullion banks have already been found guilty and paid fines
for the manipulation of Libor, energy, biofuels, and aluminum prices or
benchmarks? On November 27th, the German financial watchdog, BaFin,
announced it was looking into allegations of possible manipulation by
banks in gold and silver price-fixing. A WSJ 11/29/13 article began with
the innocuous headline: “UBS to Restructure Foreign-Exchange Unit.” The
bank is rolling its foreign-exchange and precious metals business into
another unit, with the co-head of the unit stepping down to explore
“other opportunities in the bank.” In addition to other actions, the
bank has also “clamped down on the use of electronic chat rooms by its
staff. Chat rooms face scrutiny from regulators as venues for potential
collusion and market manipulation.”
On December 5th, Deutsche Bank announced that it would cease trading
energy, agriculture, base metals, coal, and iron ore, while retaining precious metals and a limited number of financial derivatives traders.
It cited mounting regulatory pressure.” It is more than curious that a
similar announcement from JP Morgan in July of 2013 noted that the
bank’s exit from commodities trading did not include an exit from
precious metals. The exclusion of gold from the newly enacted Volcker
rule is the reason these banks are able to retain their precious metals
proprietary trading activities. It appears that in the eyes of
Washington policy makers, all commodities are not created equal.
In the US, regulators including the US Federal Energy Regulatory
Commission are “aggressively targeting uneconomic trading in a crackdown
on potential market manipulation” according to Shaun Ledgerwood, senior
consultant at the Brattle Group. From his June 2013 white paper,
Uneconomic trading, market manipulation and baseball: “A key common
feature …is that trades used to trigger the alleged schemes were
designed to lose money on a stand-alone basis, while benefiting related
physical or financial positions.”
The CFTC is examining position limits on spot trades for gold and other
precious metals. CFTC Commissioner Gensler’s deadline for a resolution
of the issue is Q1 2014. Among the issues to be settled is how to
account for entry of orders by affiliated entities, an area of suspected
potential abuse. In question also is whether new Comex position limits,
should they be imposed, apply to trades settled in London. The CFTC
board is in transition due to the departure of Gensler and two other
vacancies on the five member body. Therefore, it remains to be seen when
the Commission will act on this issue. Nevertheless, we think that the
discussion surrounding the surfacing of this issue is constructive and
that the potential enactment of more restrictive rules on limits could
be positive development in the direction of more orderly trading. It
should come as no surprise that bullion banks are lobbying hard against
position limits.
The cumulative discrepancy since 1970 between paper markets in the West
and physical markets in the East is displayed in the chart below. It is
difficult to fathom how such a discrepancy can exist in the same asset.
It is a mystery that we expect might be of interest to the appropriate
regulators.
Where scrutiny and possible new regulation leads and what it means for
the gold market is only a speculation at this stage. However, we
speculate that it will result in a big win for those of us who remain
bullish on the future price. In the words of former Supreme Court
Justice Louis Brandeis, “sunlight is the best disinfectant.”
2. The intermediation arrangements between the physical and paper
gold markets may come under scrutiny for reasons other than regulatory
oversight. The LBMA, Comex, and even gold backed ETFs depend on market
trust in the ability of owners of paper claims to exchange those claims
for physical gold. For unallocated bars vaulted in London, the
complexity of cross ownership claims and entitlements to the underlying
physical must be bewildering in light of the amount of re-hypothecation
necessary to support the kind of frantic trading activity reported by
the LBMA. It would not seem out of order to ask whether there are
parties asleep at the switch on both sides of the trade – the central
banks who lease gold into the pool, and the bullion bank back offices in
charge of record keeping. Cutting corners in procedures to protect the
chain of ownership of physical to speed transactions to support a
pyramid of leverage is not an unreasonable nightmare to awaken central
bank custodians whose principal charge is asset protection. Does anyone
in bullion banking recall robo mortgage signing?
The pool of unallocated gold bullion in London is the center of the
bullion banking system. The gold is vaulted at multiple locations in the
hands of separate institutions. Disclosure is minimal and to our
knowledge there has never been a comprehensive audit of the bullion and,
more important, the systems on which the clearing process is dependent.
We have heard instances of where private requests for delivery of
allocated gold have been refused. While it is a simple matter for an
owner of allocated gold bars to view the metal and check bar numbers
against a statement of ownership, it is an entirely different matter to
prove solitary unencumbered ownership. It is a matter of trust.
We believe that the very real possibility of an indecipherable web of
multiple claims on the same bar of gold should concern both central bank
owners, grass roots constituents of politicians in Europe and elsewhere
pushing for repatriation, and private investors who hold paper claims
against the metal. The potential for slipshod book keeping is a
legitimate issue that could lead to a significant decrease in the amount
of central bank gold available for lease.
3. The risk of holding a significant portion of personal wealth
within the framework of conventional banking and securities arrangements
is on the increase. Simon Mikhailovich of Eidesis Capital LLC states in
the November 15 issue of Grant’s: “In the old framework, cash was a
risk-free asset. In the new paradigm of systemic risks, no asset (even
cash) is risk-free so long as it is in custody of a financial
institution. Investors and depositors no longer have clear title to
their own assets if they are held in financial accounts. There is now a
body of law (including Dodd-Frank) that allows custodial assets to be
swept into the bankruptcy estate and be subordinated to senior claims.”
Hand in hand with the evolution of the banking laws is the subtle but
pernicious evolution of the practice of banking: “Various rules and
practices have made it almost impossible to use cash and securities. Go
try to make large cash withdrawal or cash deposit and see what paperwork
you would be forced to complete.”
Should we worry about cash in the bank? Never mind that policy makers
and respected private economists are openly campaigning to debase paper
currency. “In Fed and Out, Many Now Think Inflation Helps” was the
headline for a New York Times article on 10/26/13. “(Fed) critics,
including Professor Rogoff, say the Fed is being much too meek. He says
that inflation should be pushed as high as 6% a year for a few years.”
In addition, there are calls for outright taxes on wealth and movement
towards a cashless society in which all money would be electronic. In
his recent speech before the IMF, Lawrence Summers stated that
electronic money would “make it impossible to hoard money outside the
bank, allowing the Fed to cut interest rates to below zero, spurring
people to spend more.” Cash and securities within banking and securities
institutions are visible forms of wealth. Liquid private wealth
captured in electronic form offers endless possibilities for wealth
redistribution and other social engineering schemes. Tangible assets
that are not securitized or digitized are less visible and therefore
less vulnerable to broad edicts targeting private wealth.
The same Mr. Mikhailovich notes that during the financial crisis of
2008, public policy was mostly an ad hoc reaction to a cascade of
emergencies. Since then, policy makers have had plenty of time to plan
orchestrated responses to circumstances similar or worse. In a series of
steps, many small and some large, almost always cloaked in complexity
and obscurity, and always in the name of public interest or national
security, policy makers have constructed mechanisms that are
substantially and substantively unfriendly to private wealth:
Source: TBR
Western investors seem to view gold only as a directional bet based on
considerations ranging from micro economic (supply and demand) to
macroeconomic (money debasement, fiscal disorder etc.) In our opinion,
this view only partially explains what drives long term gold demand. We
have always thought that the larger and more encompassing driver was
wealth preservation. Gold is insurance against unforeseen events. It is
the one tangible asset that is both truly liquid and that can most
reliably provide buying power during times of crisis. In this context,
the idea of selling it for a “profit” seems absurd. Physical gold is a
reserve of liquidity, and it seems inappropriate to think of it as a way
to buy a container of milk or a gallon of gas under emergency
conditions. For notional apocalyptic purposes, a carton of Marlboros or
case of Glenfiddich is better suited than ingots or coins to pacify the
hordes of barbarians at one’s doorstep. However, for preservation of
large scale wealth over generations there is no substitute. Gold does
what expensive homes, crates of Picassos, safe deposit boxes packed with
Rolexes, or a garage full of Aston Martin DB 7’s cannot…..morph quickly
and easily into liquid buying power, with no haircut, when it matters
the most.
Paper claims on gold will always serve well for trading/ gambling
purposes. For those who wish to make directional bets on the future gold
price, bullish or otherwise, futures contracts, ETP’s, or other paper
derivatives, there is no need to hold physical gold. In fact, one could
categorically state that physical gold is not for traders. However, time
and again throughout history, usually over a weekend, paper claims have
been rendered non-functional, useless or worthless. Banks may shut
down, securities exchanges may stop trading, wire transfers may be
blocked, arrangements may be suspended, or laws may change. The rhyming
of history is not limited to far away places such as Cyprus, Poland, or
Ireland. Recall the words of President Nixon (Sunday, August 15, 1971):
In recent weeks, the speculators have been waging an all-out war
on the American dollar….I have directed Secretary Connally to suspend temporarily the convertibility of the dollar into gold….Let me lay to rest the bugaboo of what is called devaluation.
An article in The Wall Street Journal Op Ed piece on 11/29/13, Romain
Hatchuel wrote: “From New York to London, Paris and beyond, powerful
economic players are deciding that with an ever-deteriorating global
fiscal outlook, conventional levels and methods of taxation will no
longer suffice. That makes weapons of mass wealth destruction—such as
the IMF’s one-off capital levy, Cyprus’s bank deposit confiscation, or
outright sovereign defaults—likelier by the day.” The two year long
decline in the gold price has been largely explained in terms of the
likelihood of Fed tapering and by inference the return to normal
economic conditions for the global economy. Nothing could be further off
the mark, in our opinion. It seems to us that the decline, initially a
reaction to an overbought spike hyped by headlines of a government
shutdown in August of 2011, gained momentum as macro traders saw selling
and shorting gold as a vehicle to express views on tapering, Fed
policy, jobs reports, and the health of the US economy. It makes perfect
sense that confidence in the restoration of normalcy in monetary policy
would be bad for gold. It appears to us that the pressure on gold is
part of a vast macro trade involving the dollar, interest rates and
stocks, with a script that seems to rely in part on encouragement from
the official sector and in part on pure fantasy. As the short game
gathered momentum, vested interests in lower gold prices have become
powerful and entrenched.
The money printing thesis has been supportive of almost every tangible
asset deemed to be of limited supply except for gold, a glaring
exception. The explanation for the incongruity, in our opinion, is warp
speed rehypothecation via the shadow banking system of the murky pool of
London’s unallocated gold to create artificial supply of this scarce
asset. The murky pool which is the foundation for this trade is
draining, perhaps quickly, while the party goes on for the gold bears.
The set up for a short squeeze of this overcrowded trade and market
reversal seems compelling. Catalysts are awaited and as yet unknown, but
in our opinion, it will not take much of a spark to inflict serious
damage. A reversal will lift not only the gold price but that of the
beleaguered gold mining sector where substantive and positive change has
been occurring unnoticed by most investors.
In the financial markets, a person that is one step ahead of the crowd
is considered a genius, but two steps ahead, a crackpot. Call us the
latter, or just resolute, but we hereby go on record as downgrading the
sovereign debt of all democracies to junk status. It seems to us that
restoration of sustainable fiscal order remains a long shot and that
money printing, thought by most to be only an emergency measure, will
become the norm. Our negative view on the prospects for fiat currency
has not been invalidated by the steep two year decline in gold price.
When the market reverses, the diminished physical anchor to paper
claims, concerns over title and encumbrances on central bank bullion,
and worries over the drift of public policy will drive liquid capital
into gold. However, this time around, it seems to us that the major
recipient of flows will be the physical metal itself. Holders of paper
claims to gold will receive polite and apologetic letters from
intermediaries offering to settle in cash at prices well below the
physical market. To those who wish to hold their wealth exclusively in
paper assets, implicitly trusting the policy elites to resurrect
normally functioning capital markets and economic conditions, we say
good luck. For those who harbor doubts on such an outcome, we say get
physical.
