{"id":63670,"date":"2014-11-13T13:52:28","date_gmt":"2014-11-13T18:52:28","guid":{"rendered":"http:\/\/countingpips.com\/?p=63670"},"modified":"2014-11-13T13:52:28","modified_gmt":"2014-11-13T18:52:28","slug":"paper-gold-and-its-effect-on-the-gold-price","status":"publish","type":"post","link":"https:\/\/www.investmacro.com\/forex\/2014\/11\/paper-gold-and-its-effect-on-the-gold-price\/","title":{"rendered":"\u201cPaper Gold\u201d and Its Effect on the Gold Price"},"content":{"rendered":"<div id=\"inves-3722888165\" class=\"inves-below-title-posts inves-entity-placement\"><div id =\"posts_date_custom\"><div align=\"left\">November 13, 2014<\/div><hr style=\"border: none; border-bottom: 3px solid black;\">\r\n<\/div><\/div><h4>By Bud Conrad, Chief Economist, Casey Research<\/h4>\n<p>Gold dropped to new lows of $1,130 per ounce last week. This is surprising because it doesn\u2019t square with the fundamentals. China and India continue to exert strong demand on gold, and interest in bullion coins remains high.<iframe loading=\"lazy\" src=\"http:\/\/trk.caseyresearch.com\/f\/?content_id=1075&amp;code=PIP&amp;editorial=paper-gold-and-its-effect-on-the-gold-price-1\" width=\"1\" height=\"1\" frameborder=\"0\"><\/iframe><\/p>\n<p>I explained in my <a href=\"http:\/\/www.caseyresearch.com\/go\/ugz7s-2\/PIP\" target=\"_blank\">October article in <em>The Casey Report<\/em><\/a> that the Comex futures market structure allows a few big banks to supply gold to keep its price contained. I call the gold futures market the \u201cpaper gold\u201d market because very little gold actually changes hands. $360 billion of paper gold is traded per month, but only $279 million of physical gold is delivered. That\u2019s a 1,000-to-1 ratio:<\/p>\n<div align=\"center\">\n<table style=\"border-top: 2px solid #DFB91E; border-bottom: 2px solid #DFB91E;\" border=\"0\" width=\"500\" cellspacing=\"1\" cellpadding=\"3\">\n<tbody>\n<tr bgcolor=\"#DFB91E\">\n<td colspan=\"2\" align=\"center\" nowrap=\"nowrap\"><strong>Market Statistics for the 100-oz Gold Futures Contract on Comex<\/strong><\/td>\n<\/tr>\n<tr bgcolor=\"#F2F2F2\">\n<td valign=\"bottom\" nowrap=\"nowrap\"><\/td>\n<td align=\"center\" valign=\"bottom\" nowrap=\"nowrap\">Value ($M)<\/td>\n<\/tr>\n<tr bgcolor=\"#E2E2E2\">\n<td nowrap=\"nowrap\">Monthly volume (Paper Trade)<\/td>\n<td align=\"center\" nowrap=\"nowrap\">$360,000<\/td>\n<\/tr>\n<tr bgcolor=\"#F2F2F2\">\n<td nowrap=\"nowrap\">Open Interest All Contracts<\/td>\n<td align=\"center\" nowrap=\"nowrap\">$45,600<\/td>\n<\/tr>\n<tr bgcolor=\"#E2E2E2\">\n<td nowrap=\"nowrap\">Warehouse-Registered Gold (oz)<\/td>\n<td align=\"center\" nowrap=\"nowrap\">$1,140<\/td>\n<\/tr>\n<tr bgcolor=\"#F2F2F2\">\n<td nowrap=\"nowrap\">Physical Delivery per Month<\/td>\n<td align=\"center\" nowrap=\"nowrap\">$279<\/td>\n<\/tr>\n<tr bgcolor=\"#E2E2E2\">\n<td nowrap=\"nowrap\">House Account Net Delivery, monthly<\/td>\n<td align=\"center\" nowrap=\"nowrap\">$41<\/td>\n<\/tr>\n<\/tbody>\n<\/table>\n<\/div>\n<p>&nbsp;<\/p>\n<p>We know that huge orders for paper gold can move the price by $20 in a second. These orders often exceed the CME stated limit of 6,000 contracts. Here\u2019s a close view from October 31, when the sale of 2,365 contracts caused the gold price to plummet and forced the exchange to close for 20 seconds:<\/p>\n<p>&nbsp;<\/p>\n<p style=\"text-align: center;\"><img decoding=\"async\" style=\"max-width: 600px; width: 100%; height: auto;\" src=\"http:\/\/d1w116sruyx1mf.cloudfront.net\/ee-assets\/channels\/article_default\/141112image1.jpg\" alt=\"\" width=\"600\" \/><\/p>\n<p>Many argue that the net long-term effect of such orders is neutral, because every position taken must be removed before expiration. But that\u2019s actually not true. The big players can hold hundreds of contracts into expiration and deliver the gold instead of unwinding the trade. Net, big banks can drive down the price by delivering relatively small amounts of gold.<\/p>\n<p>A few large banks dominate the delivery process. I grouped the seven biggest players below to show that all the other sources are very small. Those seven banks have the opportunity to manage the gold price:<\/p>\n<p style=\"text-align: center;\"><img decoding=\"async\" style=\"max-width: 600px; width: 100%; height: auto;\" src=\"http:\/\/d1w116sruyx1mf.cloudfront.net\/ee-assets\/channels\/article_default\/SevenBigBanksAccountForMostDeliveries.png\" alt=\"\" width=\"600\" \/><\/p>\n<p>After gold\u2019s big drop in October, I analyzed the October delivery numbers. The concentration was even more severe than I expected:<\/p><div id=\"inves-477893287\" class=\"inves-in-content inves-entity-placement\"><hr style=\"border: 1px solid #ddd;\">\r\n<div id=\"inpost_ads_header\">\r\n<p style=\"font-size:10px; float:left; color:#666;\">Free Reports:<\/p><\/div>\r\n<div id=\"inpost_ads\"> \r\n<p style=\"font-size:15px; float:left;\"><a href=\"https:\/\/goo.gl\/1ApBOV\"><img loading=\"lazy\" decoding=\"async\" src=\"https:\/\/investmacro.com\/wp-content\/uploads\/2018\/06\/graph_techs_PD.png\" align=\"left\" width=\"80\"  height=\"55\"\/><\/a>\r\n\t     <a href=\"https:\/\/goo.gl\/1ApBOV\"><b><u>Get Our Free Metatrader 4 Indicators<\/u><\/b><\/a> - Put Our Free MetaTrader 4 Custom Indicators on your charts when you join our Weekly Newsletter<\/p><br><br>\r\n<br>\r\n<br>\r\n<p style=\"font-size:15px; float:left;\"><a href=\"https:\/\/goo.gl\/f3RrHX\"><img loading=\"lazy\" decoding=\"async\" src=\"https:\/\/investmacro.com\/wp-content\/uploads\/2019\/01\/cot_pie_80.png\" align=\"left\" width=\"80\"  height=\"55\"\/><\/a>\r\n\t    <a href=\"https:\/\/goo.gl\/f3RrHX\"><b><u>Get our Weekly Commitment of Traders Reports<\/u><\/b><\/a> - See where the biggest traders (Hedge Funds and Commercial Hedgers) are positioned in the futures markets on a weekly basis.<\/p><br><br>\r\n<\/div>\r\n<hr style=\"border: 1px solid #ddd;\">\r\n<br><\/div>\n<p style=\"text-align: center;\"><img decoding=\"async\" style=\"max-width: 600px; width: 100%; height: auto;\" src=\"http:\/\/d1w116sruyx1mf.cloudfront.net\/ee-assets\/channels\/article_default\/GoldComexOctoberDeliveriesWereConcentrated.png\" alt=\"\" width=\"600\" \/><\/p>\n<p>This chart shows that an amazing <strong><em>98.5%<\/em><\/strong> of the gold delivered to the Comex in October came from just three banks: Barclays; Bank of Nova Scotia; and HSBC. They delivered this gold from their in-house trading accounts.<\/p>\n<p>The concentration was even worse on the other side of the trade\u2014the side taking delivery. Barclays took 98% of all deliveries for customers. It could be all one customer, but it\u2019s more likely that several customers used Barclays to clear their trades. Either way, notice that Barclays delivered 455 of those contracts from its house account to its own customers.<\/p>\n<p>The opportunity for distorting the price of gold in an environment with so few players is obvious. Barclays knows 98% of the buyers and is supplying 35% of the gold. That\u2019s highly concentrated, to say the least. And the amounts of gold we\u2019re talking about are small\u2014a bank could tip the supply by 10% by adding just 100 contracts. That amounts to only 10,000 ounces, which is worth a little over $11 million\u2014a rounding error to any of these banks. These numbers are trivial.<\/p>\n<p>Note that the big banks were delivering gold from their house accounts, meaning they were selling their own gold outright. In other words, they were not acting neutrally. These banks accounted for all but 19 of the contracts sold. That\u2019s a position of complete dominance. Actually, it\u2019s beyond dominance. These banks <strong>are<\/strong> the market.<\/p>\n<p>My point is that this market is much too easily rigged , and that the warnings about manipulation are valid. At some point, too many customers will demand physical delivery and there will be a big crash. Long contracts will be liquidated with cash payouts because there won\u2019t be enough gold to deliver. I saw a few squeezes in my 20 years trading futures, including gold. In my opinion, the futures market is not safe.<\/p>\n<p>The tougher question is: for how long will big banks\u2019 dominance continue to pressure gold down? Unfortunately, I don\u2019t know the answer. Vigilant regulators would help, but \u201cfutures market regulators\u201d is almost an oxymoron. The actions of the CFTC and the Comex, not to mention how MF Global was handled, suggest that there has been little pressure on regulators to fix this obvious problem.<\/p>\n<p>This quote from a recent <em>Financial Times<\/em> article does give some reason for optimism, however:<\/p>\n<p style=\"margin-left: .5in;\">UBS is expected to strike a settlement over alleged trader misbehaviour at its precious metals desks with at least one authority as part of a group deal over forex with multiple regulators this week, two people close to the situation said. \u2026 The head of UBS\u2019s gold desk in Zurich, Andr\u00e9 Flotron, has been on leave since January for reasons unspecified by the lender\u2026.<\/p>\n<p style=\"margin-left: .5in;\">The FCA fined Barclays \u00a326m in May after an options trader was found to have manipulated the London gold fix.<\/p>\n<p style=\"margin-left: .5in;\">Germany\u2019s financial regulator BaFin has launched a formal investigation into the gold market and is probing Deutsche Bank, one of the former members of a tarnished gold fix panel that will soon be replaced by an electronic fixing.<\/p>\n<p>The latter two banks are involved with the Comex.<\/p>\n<p>Eventually, the physical gold market could overwhelm the smaller but more closely watched US futures delivery market. Traders are already moving to other markets like Shanghai, which could accelerate that process. You might recall that I wrote about JP Morgan (JPM) exiting the commodities business, which I thought might help bring some normalcy back to the gold futures markets. Unfortunately, other banks moved right in to pick up JPM\u2019s slack.<\/p>\n<p>Banks can\u2019t suppress gold forever. They need physical gold bullion to continue the scheme, and there\u2019s just not as much gold around as there used to be. Some big sources, like the Fed\u2019s stash and the London Bullion Market, are not available. The GLD inventory is declining.<\/p>\n<p style=\"text-align: center;\"><img decoding=\"async\" style=\"max-width: 600px; width: 100%; height: auto;\" src=\"http:\/\/d1w116sruyx1mf.cloudfront.net\/ee-assets\/channels\/article_default\/141112image2.jpg\" alt=\"\" width=\"600\" \/><\/p>\n<p>If a big player like a central bank started to use the Comex to expand its gold holdings, it could overwhelm the Comex\u2019s relatively small inventories. Warehouse stocks registered for delivery on the Comex exchange have declined to only 870,000 ounces (8,700 contracts). Almost that much can be demanded in one month: 6,281 contracts were delivered in August.<\/p>\n<p>The big banks aren\u2019t stupid. They will see these problems coming and can probably induce some holders to add to the supplies, so I\u2019m not predicting a crisis from too many speculators taking delivery. But a short squeeze could definitely lead to huge price spikes. It could even lead to a collapse in the confidence in the futures system, which would drive gold much higher.<\/p>\n<p>Signs of high physical demand from China, India, and small investors buying coins from the mint indicate that gold prices should be rising. The GOFO rate (London Gold Forward Offered rate) went negative, indicating tightness in the gold market. Concerns about China\u2019s central bank wanting to de-dollarize its holdings should be adding to the interest in gold.<\/p>\n<p>In other words, it doesn\u2019t add up. I fully expect currency debasement to drive gold higher, and I continue to own gold. I\u2019m very confident that the fundamentals will drive gold much higher in the long term. But for now, I don\u2019t know when big banks will lose their ability to manage the futures market.<\/p>\n<p>Oddities in the gold market have been alleged by many for quite some time, but few know where to start looking, and even fewer have the patience to dig out the meaningful bits from the mountain of market data available. Casey Research Chief Economist Bud Conrad is one of those few\u2014and he turns his keen eye to every sector in order to find the smart way to play it. This is the kind of analysis that\u2019s especially important in this period of uncertainty and volatility\u2026 and you can put Bud\u2019s expertise\u2014along with the other skilled analysts\u2019 talents\u2014to work for you by <a href=\"http:\/\/www.caseyresearch.com\/go\/ugzst-2\/PIP\" target=\"_blank\">taking a risk-free test-drive of <em>The Casey Report<\/em> right now<\/a>.<\/p>\n<p>&nbsp;<\/p>\n<div id=\"xvMdV95u77zU\" style=\"clear: both;\">The article <a href=\"http:\/\/www.caseyresearch.com\/go\/ugzvu-2\/PIP\" rel=\"permalink\">\u201cPaper Gold\u201d and Its Effect on the Gold Price<\/a> was originally published at <a href=\"http:\/\/www.caseyresearch.com\/go\/ugzyv-2\/PIP\">caseyresearch.com<\/a>.<\/div>\n<div style=\"clear: both;\"><\/div>\n<div style=\"clear: both;\"><\/div>\n<div style=\"clear: both;\"><\/div>\n","protected":false},"excerpt":{"rendered":"<p>By Bud Conrad, Chief Economist, Casey Research Gold dropped to new lows of $1,130 per ounce last week. This is surprising because it doesn\u2019t square with the fundamentals. China and India continue to exert strong demand on gold, and interest in bullion coins remains high. I explained in my October article in The Casey Report [&hellip;]<\/p>\n","protected":false},"author":1,"featured_media":0,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[],"tags":[],"class_list":["post-63670","post","type-post","status-publish","format-standard","hentry","no-post-thumbnail"],"_links":{"self":[{"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/posts\/63670","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/users\/1"}],"replies":[{"embeddable":true,"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/comments?post=63670"}],"version-history":[{"count":0,"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/posts\/63670\/revisions"}],"wp:attachment":[{"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/media?parent=63670"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/categories?post=63670"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/www.investmacro.com\/forex\/wp-json\/wp\/v2\/tags?post=63670"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}