Tuesday, May 28, 2013

Gold is Different (by David Evans)

Just a brief post today to share a recent article on Gold by David Evans. Those who have been reading my blog long term may remember that I saw David present at the 2011 Gold Symposium and he also founded Gold Nerds, a research tool for picking stocks in the precious metals sector (a tool I've subscribed to in the past and can recommend).

You can view the article embedded in Scribd below or download the PDF from original source here (1Mb).

Without a doubt it is the best article I have seen on Gold this year (easily comprehended even by those not familiar with the Gold market). Starting with an explanation of debt money and how it is created, "bank money is created by the act of lending, bank money is also debt" and detailing why it needs to continually expand in order for the system to remain solvent, "last year’s debt basically has to be repaid with interest. It means that there has to be more money around each year or some people cannot pay back their loans" continuing that Central Banks and governments had to step in when the private sector had maxed out its borrowing and what would result if they didn't "if the money supply doesn't increase, there will be widespread business failures and then bank failures". Following this David goes on to say that Gold is money, in competition with the currency provided by governments and provides an excellent explanation of the 3 tiers to the Gold market (futures, paper & physical) and how they interact. He then ties the interaction in this structure to recent price activity and how it may have been the cause of the April price collapse...

[Update 29/05/2013] Post updated with a revised version of the paper.

Thursday, May 16, 2013

Andrew Maguire: Gold Propaganda Expert

Speaking of sensationalist Gold market commentary, there is surely no better contender for Gold propagandist of the year than Andrew Maguire who in February claimed that Central Banks had bought 225 tonnes over the 3-4 weeks prior during the Gold "smash" (little did he know that an even larger Gold smash was just around the corner):
Eric King:  “Andrew, I know you were talking about just this week alone on the smash and what kind of gold central banks were taking out of the gold market, but what about when we expand that into the last 3 or 4 weeks? What are we looking at there?”
Maguire:  “There’s at least 225 tons that have been drawn down. That is a huge amount of physical (gold).  That’s gold which has to be found (in order to be delivered), that’s probably got (existing) claims on it. But as I said to you before, there was a crisis situation, and I think they were damned if they did and damned if they didn’t. They were forced to take this price down simply because the price was about to break out.” King World News
I had been waiting on the statistics from World Gold Council to see if Andrew Maguire's figures aligned with official reporting, the below released today from their 'Gold Demand Trends Q1 2013' report:
Central banks added 109.2t of gold to their reserves in Q1 2013, the ninth consecutive quarter of net purchases. The sector accounted for 11% of demand in the first quarter,worth US$5.7bn in value terms. The level of purchasing was 5% lower than year-earlier levels, but remained within the broad parameters of quarterly demand – between 70 and 160t – from the sector over the last two years.
The steady level of buying confirmed that central banks and institutions continue to favour gold’s diversification benefits, as they reduce their portfolio allocations to US dollars and euro. This shift, and an analysis of the role that gold can play as a portfolio diversifier, is discussed in a recent World Gold Council research paper, Central bank diversification strategies: Rebalancing from the dollar and euro.
Again during the first quarter, the central banks adding to their gold reserves were distributed widely around the globe, with volumes concentrated in emerging markets.
Among the regular participants, Russia maintained as its welldocumented programme of buying domestically produced gold, increasing its reserves by around 24t. Elsewhere, Ukraine and Kazakhstan continued to make modest incremental additions to reserves.
Towards the end of the quarter, the Bank of Korea reported that it had added another 20t to its gold holdings during the month of February. The increase takes the bank’s total gold reserves to over 104t, placing it 34th in the world rankings table. Azerbaijan joined the ranks of countries whose central banks have increased their gold reserves. The central bank reported that it had purchased 3.0t during the quarter, via the stateowned Oil Fund, SOFAZ. SOFAZ, which is permitted to hold up to 5%4 of its portfolio in gold, has reported that it now owns around 18t.
Indonesia was another newcomer to the group of central banks expanding their gold reserves. Bank Indonesia reported an addition of almost 3t of gold, as a result of two small purchases in December and January. This is the first time the Indonesian central bank has altered its gold holdings since making two significant sales totalling 23t in the second half of 2006. Sales of gold by the signatories to the Central Bank Gold Agreement (CBGA) were non-existent during the first quarter of the year. Cumulative sales under the third  agreement are currently running at just under 200t, a fraction of the 1,600t that would have been permissible to date under the terms of the agreement. Disposals by non-CBGA signatories were also notable by their absence in the first quarter, with Mexico reporting a series of very marginal declines relating to trading activity.
And of those 109 tonnes purchased by Central Banks during the quarter, I highly doubt that all was purchased in the 3-4 weeks leading up to February 22nd (which accounts for only 1/3 of the reporting period).

Someone trying to defend Andrew Maguire's numbers might argue that China (or another Central Bank not regularly reporting their Gold reserve additions) could have purchased the difference, but that's a stretch! Those who have been taking Andrew Maguire's Gold commentary seriously might like to question him on the reasoning for discrepancy between his claims and official sector reporting.

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Friday, May 10, 2013

"Rumors Of My Death Have Been Greatly Exaggerated" - Paper Gold

Zero Hedge is currently headlining an article on their site (original source: The Economic Collapse blog) called: "Are We On The Verge Of Witnessing The Death Of The Paper Gold Scam?". I'm sick of propaganda like this which floods the precious metals blogosphere. The number of inaccuracies, conspiracies and information from unreliable and unverified sources in precious metals articles boggles the mind. Will there ever be a collapse in the "paper" Gold market? It's possible those holding COMEX short positions could default if all longs were able to stand for delivery (not likely for reasons expanded on below), but the "factual" liberties that many writers take to get to the conclusion that we are on the eve of such an event is ridiculous.

Let's take a look at 3 separate "facts" that are used in the article to draw the conclusion we are on the verge of a paper Gold collapse today:
FACT #1: COMEX gold vaults were recently drained of 2 million ounces of physical gold in one quarter, the largest withdrawal of physical gold bullion from COMEX vaults in one quarter during this entire 12-year gold and silver bull. There has been speculation about the reasons that spurred these massive withdrawals of gold from COMEX vaults, but the most reasonable speculation is that no one trusts the bankers to hold on to their physical gold anymore, especially in light of Fact #2. Note below, that both registered AND eligible stocks of gold had heavily declined in recent months. Such an event signals a general distrust of the banking system from everyone holding gold in registered COMEX vaults.
This fact starts out as much, but then flows into purely speculative claims that the flow of Gold out of the COMEX vaults is due to distrust in the banking system. While there has been a massive decline in COMEX vaulted Gold, the ratio to open interest is still not at exceptional levels. See this blog post over at Bron's Gold Chat (conclusion below):

"So even after that COMEX stock drop in gold, we still have a coverage ratio that is way above that which applied in the 1980 bull and which is not down much on 2012. The current coverage of around 20% also needs to be kept in context of the percentage of open interest which stands for delivery, which for gold and silver over the past five years averages between 2% to 4%. So it looks like COMEX has plenty of stock on a historical basis. It is when that percentage coverage gets a lot closer to the average standing for delivery rate that we can consider COMEX under stress and at risk of cash settlement. We aren't close, no matter how the much the pumper sites like to hype the recent stock declines.

And for those who will say what about if everyone stands for delivery, well consider that while most of the shorts don't have the metal, most of the longs don't have the cash. We know this because of all the talk about margin calls causing people to have to sell. Think about that - if they couldn't meet the margin calls, then it means they didn't have the money to stand for delivery."

As this chart on Zero Hedge shows, while we have a large drop in available metal, it has only returned to levels that we saw in early 2009 when open interest on the COMEX was at a similar level. So what's the problem? Wake me up when the drain continues significantly and open interest remains elevated.
FACT #2: One of the largest European banks, ABN Amro, defaulted on their gold contracts and informed their clients that they would only settle their gold bullion contracts in cash and not in physical. So much for the supposed legality of financial contracts as a "binding" contract. So whether Fact #1 caused Fact #2 or vice versa is irrelevant. What IS apparent is that the level of trust in bankers to safekeep physical gold and physical silver is disappearing, as it should be, and as it should have already been for years now. But truth always takes some time to catch up to banker spread lies and that is what is happening now. I have been warning people never to trust bankers in deals involving gold and silver for years now, as in this article I wrote nearly four years ago informing the public that the SLV and GLD are likely a banker invented scam as well.
Again taking liberty with "facts". The ABN Amro "default" was also well publicised on Zero Hedge and other Gold related sites, but many of the conclusions drawn were not within the context of the letter which was sent to a small number of their clients. ABN responded to the claims of default (not that you will see this published on Gold conspiracy loving sites):

“Until 2009 ABN AMRO had a small bank that traded in physical gold called Hollandse Bank Unie (HBU) located in Rotterdam. Following our integration with Fortis Bank Netherlands, ABN AMRO was required by the European Commission to sell a part of its commercial banking portfolio in the Netherlands to Deutsche Bank. This was publicly announced at the time and included the sale of HBU, along with the transfer of HBU clients to Deutsche Bank. These HBU clients were able to use ABN AMRO facilities during the transition phase, and Deutsche Bank also offered its HBU services to ABN AMRO. Deutsche Bank subsequently announced last year that they would cease HBU activities in the Netherlands from 1 April 2013 – including this facility for ABN AMRO. We recently sent a letter to small number of affected clients, advising them that we can no longer make use of the HBU facilities provided by Deutsche Bank from this date. ABN AMRO has not provided these services directly since the sale of HBU, so there is no change to our offering – only to the facilities provided by Deutsche Bank. We have also found a new provider for these services, that is UBS.”

Not the story it was made out to be...
FACT #3: Silver fraud whistleblower and London trader Andrew Maguire stated that the LBMA was having trouble settling gold contracts in bullion as well and stated that institutions that asked for physical settlement “were told they would be cash settled instead by a bullion bank.” In plain English, this is a default. So Andrew Maguire reported that the LBMA had already gone into default. In light of Fact #1 and Fact #2, the dominoes were starting to tumble and the house of cards that the bankers had built in gold and silver paper derivatives to deceive and hide the true fundamentals of the physical gold and physical markets from the entire world was rapidly starting to crumble. A financial earthquake of magnitude 2.5 was quickly threatening to evolve into one of the biggest financial earthquakes of all time in which the world’s confidence in all global fiat currencies would effectively have a well-deserved funeral.
It is a fact that Andrew Maguire said that, but by the very description provided it sounds like 3rd or 4th hand information at best. It's hardly a fact that the LBMA has defaulted on physical Gold with cash settlement. Such claims have been circulating for as long as I've been reading precious metal related news (5 years) and probably much longer. And who is Andrew Maguire anyway? These facts were posted on Paper Money Shield (satirical site, but questions surrounding Andrew Maguire remain relevant and unanswered):

1.       Mr Maguire came out of nowhere only a few years ago, with no previous involvement in the internet gold community. Google searches reveal nothing.

2.       Mr Maguire is said to be a former Goldman Sachs trader. We all know GS has planted many former employees in government positions seeking to influence them to suit itself.

3.       Jeff Christian, who also worked at GS, could not find anyone in the precious metals industry who had heard of Mr Maguire and Mr Maguire has failed to provide a CV listing his employment in rebuttal.

4.       Searches on London newspapers such as the London Times, The Guardian, The Sun, and The Telegraph, for confirmation of the supposed hit-and-run that sent Andrew Maguire and his wife to the hospital give no results, which is strange for such a dramatic event which involved hospitalization, a head-on at full speed (with the driver hitting 2 other cars as he sped off), and police helicopters.

5.       Mr Maguire supposedly has deep contacts in the precious metals market, yet did not inform his readers that a price smash was coming, causing them to lose a lot of money.

Does this sound like a man who we can just take at his word about the LBMA defaulting and settling physical Gold with paper?

While there are reasons to own Gold and one day there may be a dismantling of the paper Gold market, the hyperbolic claims in articles such as this are not warranted and not supported by evidence. The paper Gold market lives on.

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Sunday, May 5, 2013

Central Bank Activity A Contrarian Indicator For Gold?

There is a popular meme used by both Gold bulls and bears that Central Bank activity in the Gold market is a contrarian indicator for the price (similar to public sentiment recently discussed in this post). That is when Central Banks are selling it's time to get long Gold, when they are buying it's time to get out (or short).

A couple of recent references to this meme have prompted this post, first from an article on Bloomberg:
Central banks are the biggest losers, with about $560 billion of value erased since gold reached a record $1,921.15 an ounce in September 2011. The metal was already in the eighth year of its longest bull market since the end of World War I when reserves started expanding again in 2008. They were also buying in 1980 when bullion peaked at the equivalent of $2,400 in today’s money, and selling in 1999 as prices slumped to a 20- year low.
And a couple of days later I noticed this comment from Dan of The Fundamental View:
But if you are going to go on your central bank thesis then brush up on your history because it has shown central banks always buy near tops and sell near bottoms.
Neither of the above examples provided a reference for their claims/stance. Tweeting 2 of the 3 contributors to the Bloomberg article didn't result in any answers (yet, in their defence neither appears very active on Twitter):

The Gold bulls or bears like to point out Central Bank activity in the Gold market, being selective about the data they use to ensure it supports their view of higher or lower prices.

The Gold bulls like to point out the stupidity of the the Central Banks who sold out near the lows around 15 years ago (and I have been guilty of this on more than one occasion). The below sales which took place near the bottom of a 20 year bear market:

Over the past six months, the Reserve Bank has sold 167 tonnes of gold, reducing its holdings from 247 tonnes to 80 tonnes. The sales were made gradually, taking care not to disrupt market conditions. The new level is consistent with Australia's longer-term requirements, and the Bank has no plans for further sales.
In May 1999, the Government announced a restructuring of the reserves involving a programme of gold sales by auction to achieve a better balance in the portfolio by increasing the proportion held in currency. Auctions of gold were held approximately bi-monthly between July 1999 and March 2002. Around 395 tonnes were sold by this means; the EEA's holdings of gold at the start of the programme had been approximately 715 tonnes.
Other notable Gold reserve sales occurred in Austria, Belgium, Canada, the Netherlands, Portugal and South Africa. Primarily Western Central Banks have been selling Gold over the past 20 years:
The official sector was a net seller of gold in every year from 1989 to 2009 inclusive, disposing of a total of 8,049 tonnes.
The first Central Bank Gold Agreement (CBGA) came into being on Sept. 27, 1999, when the signatories agreed that they would not sell more than an average of 400 tonnes per annum over five years and would not add to the amount of lent gold that was already in the market.

Although there was an immediate spike in the price following the announcement of the agreement, the CBGA and its successors have taken a lot of longer-term uncertainty out of the market.

Because the agreements have been in place now for over 13 years, many market players have forgotten or will not have even experienced the nervousness about potential central bank moves that blew through the markets regularly in the late 1980s and the 1990s.

More than once, the markets were shaken by announcements of official sector sales that had already been executed, including five from Belgium between March 1989 and March 1998. All five amounted to large tranches of 127 to 300 tonnes, and in January 1993 the Netherlands announced a completed sale of 400 tonnes. More followed, and by mid-1996 the market was seriously nervous of any further sales.

Sales were not restricted to members of the European bloc. Australia sold 167 tonnes in 1997, and that same year a Swiss expert group proposed a gradual sale of 1,400 tonnes of reserves as part of a portfolio rebalancing. The Swiss disposals started in 2000 and were part of the CBGA. A number of political comments in early 1999 favoured a sale by the International Monetary Fund, and arguably the final straw was the announcement by HM Treasury in the UK of the planned disposal of up to 415 tonnes (58 percent) of its gold reserves. Economic Times
The reasons for the sale of Gold reserves include diversification and a general consensus that Gold was no longer needed (at least not as such a large % of foreign currency reserves).
RBA (Australia): "Following the review, the Bank's Board concluded that, while there was a case to hold some gold as a contingency against unforeseen events, the previous holdings (which amounted to about 20 per cent of international reserves) were no longer justified. The principal reason for this conclusion was that a country in Australia's position, with large gold reserves in the ground and high annual production, derives negligible diversification benefits from holding a significant proportion of its international reserves in the form of gold."
HM Treasury (UK): "The motivation for the restructuring was one of risk reduction. With nearly 50 per cent of the net foreign currency reserves invested in gold, the exposure to a single asset was too great. Historically the volatility of returns on gold has tended to be high relative to the volatility of returns on the fixed income assets held in the reserves portfolio. However, the returns on gold have also tended to be uncorrelated with those on fixed income assets, and even negatively correlated for some time periods. Thus, gold can play an important role in a minimum risk portfolio. However, it is not unique in this role and other assets, such as inflation index-linked bonds, can be usefully employed to diversify portfolios. Optimal portfolio analysis showed that total risk on the net reserves portfolio could be reduced if the proportion of gold in the portfolio was reduced to around 20%.
The Gold bears like to point out that over the past several years we've seen Central Banks turn into net buyers of Gold (and if they are the contrarian indicator that we all think they are then surely lower prices are ahead):

Some of the most notable Central Bank Gold buying over the last few years has included that of China, India & Russia.

China - 2009
China has boosted its gold reserves to 1,054 metric tons, according to a Friday report by Xinhua News Agency, which cited Hu Xiaolian, head of the State Administration of Foreign Exchange.

The increase makes China the world's fifth-largest holder of gold, just ahead of Switzerland, and among the six nations plus the International Monetary Fund that have reserves of more than 1,000 metric tons.

Hu said that China's gold reserves had risen by 454 metric tons since 2003 and that the total was being reported to the IMF per the organization's rules.
India - 2009
India's central bank bought 200 metric tons of gold from the International Monetary Fund last month, in the first major move by a major central bank to diversify its foreign-exchange reserves.

Analysts said the move is potentially bullish for gold, but it is by no means the start of a significant shift away from U.S. dollar holdings. The Reserve Bank of India said in a statement that the move was part of its effort to manage its foreign-exchange reserves.
Russia - 2007 to 2013
Russia has bought up 570 tonnes of gold in the last decade as a bet against any “cataclysm” in the dollar, euro or pound. In 2012 alone it amassed around 75 tonnes, makings its reserves the eighth-largest in the world; so far in 2013, it has added nearly 20 tonnes.
Not limited to the above countries we've seen Mexico, South Korea, Thailand, Mexico, Azerbaijan, Kazakhstan, Turkey, Sri Lanka and Mauritius all adding to official Gold reserves in the last 5 years, to name only some. The below table shows which Central Banks were buying in 2012 (courtesy Casey Research):

The trends resulting in Central Banks turning into net buyers of Gold has been a combination of Western Central Banks stopping sales (after decades of selling) while Eastern Central Banks continue to accumulate Gold. Some interesting charts which highlight the trends (KWN via ShareLynx):

Click Chart To Enlarge

Click Chart To Enlarge
The Gold flows in favour of those countries creating wealth, rather than consuming it.

The turnaround in Central Bank Gold activity (Western Central Banks stopped selling, Eastern increased their rate of buying) at the time of the GFC is no coincidence with many of the countries buying Gold showing disapproval at the US and other western countries efforts to prop up a failing financial, banking and monetary system.

Western Central Banks might have added to their Gold reserves recently except they have been forced to buy mortgage backed securities, government bonds and in some cases even stocks to prop up a failing financial and monetary system. Eastern Central Banks have been buying Gold in order to diversify out of Western financial securities (e.g. China out of US Treasuries), to protect against currency debasement & further financial turmoil and possibly even in preparation for Gold playing a more significant role in any future monetary system.

The below chart shows the turnaround in Central Bank activity in the Gold market, turning from net sellers into net buyers (from Casey Research):

Going back further, global Central Bank Gold reserves were remarkably stable in level from 1960 through to 1990 when Western Central Banks started to accelerate the reduction in their holdings (as this document from the World Gold Council shows).

Click Table To Enlarge

Click Table To Enlarge
The data does not suggest the Central Banks were buying the 1980 peak as suggested by the Bloomberg article I quoted earlier (and have seen suggested elsewhere). Central Bank Gold reserves fell steadily over a decade before the price finally bottomed, which was marked by some of the most memorable Central Bank Gold sales, those we like to point to when when trying to score points against the Central Banks or political parties who were running said countries at the time.

Perhaps it will be the case that Central Bank Gold buying will also mark the top, but similarly to the way the bottom was formed, we could see a decade of Central Bank net Gold buying before that top comes around. Those who think Central Banks could be nearing an end to the buying should consider some earlier comments we've seen out of China:
Back in September, when we provided the monthly observation on what has become a record year to date surge in Chinese imports of gold from Hong Kong, we reminded readers that "in December 2009, the China Youth Daily quoted State Council advisor Ji as saying that a team of experts from Beijing and Shanghai have set up a "task force" last year to consider growing China's gold reserves. "We suggested that China's gold reserves should reach 6,000 tons in the next 3-5 years and perhaps 10,000 tons in 8-10 years," the paper quoted him. Zero Hedge
Current estimates on China's Gold reserves range from a conservative estimate of 1,560 tonnes from Bron Suchecki of Perth Mint to a speculative estimate of 4,000 tonnes from  Jeff Nielson. Either way they've got a lot of buying to go before suggested reserves are met.

One might say the Central Banks don't need the same level of Gold holdings as they had when the world was forced off the Gold standard when Nixon closed the Gold Window in 1971. Since 1971 we've seen the world population grow by around 85% and total above ground Gold increase by roughly double. That means as a percentage of above ground Gold, Central Banks hold 20% today where in 1970 they had almost 50%. While I can't see Central Banks ever getting back to that level of control (50% of above ground Gold), I wouldn't be surprised to see them increase back to around the 36,000 tonne level (probably even higher), which would require an additional 4,000 tonnes to be purchased. Given the price of Gold doubled over the last few years as Central Banks only added an additional 1,000 tonnes, you can be sure there will be further upside pressure on price should they wish to build further reserves in a short time frame. Newly mined Gold in 2012 only added 2,700 tonnes to above ground supply.

The bottom line here is that Central Banks buy and sell Gold based on their expected need for the metal (to diversify, protect or as insurance) rather than to scalp a profit like a trader. There aren't clear examples in the data where you could draw a conclusion that Central Banks are a contrarian indicator for price.

Central Banks turning into net buyers of Gold is a warning signal, but not of the topping variety. The Eastern Central Banks can see that trouble for the global monetary system lies ahead and are preparing accordingly by increasing the rate at which they are buying Gold, it may be a good idea to follow suit.

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