ByPatrick A. Heller
Commentary on Precious Metals Prepared for CoinWeek.com….
New York’s COMEX commodity gold market has been one of the two most important venues referenced for determining the price of gold for all other trading purposes. Yet this market, which largely reflects the trading of paper contracts rather than physical metal, is quickly heading toward the point where it may no longer be used in setting the price of gold in the physical cash markets. There are two significant developments which could make the COMEX gold market obsolete within the next 90 days.
The COMEX gold market exists as an easy way for investors to take a position in the price of gold without the necessity of having to bother with possession of the physical metal. The contracts traded on this exchange are for 100 ounce gold bars that are deliverable almost exclusively in some future month. Most traders, since they are only investing in the price, pursue one of two options as a contract nears maturity. They might purchase an offsetting contract to close out their position entirely or, if they wish to continue to invest in gold, they might close the contract by trading it for one with a maturity further into the future. Historically, only a tiny percentage of COMEX gold contracts are held to maturity to take delivery of the physical metal.
The COMEX bonded warehouses store gold for two different purposes. Gold bars can be “registered” on the COMEX, which means that the gold is specifically being held for physical delivery to a customer holding a maturing contract. Sometimes investors will use the convenience of COMEX storage but not commit their holdings for delivery against COMEX contracts. Such inventories are classified as “eligible,” which means they could be used to deliver on a maturing COMEX contract, but only if the owner decides to make it available for that purpose. While total COMEX inventories are important, the key figure is only the registered quantities, because only they can be called upon to fulfill maturing contracts.
Total COMEX gold inventories have declined by more than one-third since the beginning of 2013. Registered inventories are now below one million ounces and declining quickly. Many analysts, including me, believe that the significant decline in exchange traded fund gold holdings this year was caused by major gold dealers cashing in shares. The probable reason they have done this is to obtain physical gold to deliver to maturing COMEX contract holders who wanted to take physical possession.
If the COMEX inventories get too low, especially when you consider that there are open COMEX contracts representing a liability of well over 40 million ounces of physical gold, the COMEX allows contracts to be settled by cash payment instead of physical metal. At the rate the registered warehouse inventories are being depleted, there is the very real possibility that all gold contracts may have to be settled for cash before the end of 2013.
At the same time that the influence of the COMEX on the price of physical metals is on the brink of disappearing, activity on the Shanghai Gold Exchange is soaring. The Shanghai Gold Exchange does not deal in paper contracts. Instead, every contract is to be fulfilled by delivering physical gold. For the first six months of 2013, a total of 35 million ounces of physical gold was delivered on this exchange, which is close to 100% of worldwide newly mined gold over that time.
The Shanghai Gold Exchange, by far, delivers the largest amount of physical gold of any market in the world. The London and the New York COMEX markets may trade much larger amounts, but they are almost exclusively dealing in paper contracts.
It probably would not surprise you to know that the gold price on the Shanghai exchange trades at a premium to prices in the London and New York markets. If the Shanghai market was actively traded during the same hours as London and New York, I think it would be supplanting those markets as the reference point used for trading all physical gold. As the COMEX turns largely into a paper and cash market in the coming months, I would not be at all surprised to see the Shanghai Gold Exchange becoming THE market used for pricing physical gold around the world.
Patrick A. Heller was honored with the American Numismatic Association 2012 Harry J. Forman Numismatic Dealer of the Year Award. He owns Liberty Coin Service in Lansing, Michigan and writes Liberty’s Outlook, a monthly newsletter on rare coins and precious metals subjects. Past newsletter issues can be viewed at http://www.libertycoinservice.com. Other commentaries are available at Numismaster ( under “News & Articles) and at CoinInfo. His award-winning radio show “Things You ‘Know’ That Just Aren’t So, And Important News You Need To Know” can be heard at 8:45 AM Wednesday and Friday mornings on 1320-AM WILS in Lansing (which streams live and becomes part of the audio and text archives posted at http://www.1320wils.com. He is also the financier and executive producer of the forthcoming movie “Alongside Night” (trailer posted at http://www.youtube.com/watch?v=sTZ8vn45Cds).
Yes, the COMEX will soon be a paper and cash market. Ooops, it has never been anything else. COMEX has many many times more positions liquidated, rather than closed with physical delivery. BUT THAT IS 100% NORMAL. Same applies to most assets. Professional “traders” dabble in everything, especially lately. The worldwide mega-banks “control” not just gold and silver values, but nearly ALL commodities, including oil, natural gas, frozen orange juice concentrate, pork bellies, and aluminum, copper, and uranium. What’s more is these very same mega-banks, along with mutual funds, hedge funds and ETF’s, “control”, with artificial short and long positions, the price of nearly EVERYTHING traded on ANY exchange of any size.
COMEX and gold are NOT UNIQUE in the fact that paper volume swamps actual delivery-taking traders. Nothing is pure any more. If it trades on an exchange, it is being manipulated by traders with ultra-fast computers with high frequency trades executed in nanoseconds.
Remember the old Eddie Murphy movie, “Trading Places”? In it, the “heroes” broke the evil brothers with a few hours of trading on an exchange floor. That’s all old school and obsolete. These new bandits dominate financial markets for just about everything, not just gold and silver, with trades executed hundreds of times per minute, with algorithms that guarantee that they can’t possibly lose 99%+ of the time.
What a sad commentary on Capitalism and impotent Government regulation. Perhaps we should have let all the “too big to fail” banks and brokerage houses go under during the meltdown, but something tells me we may get a second chance, unfortunately.
The sad truth is that even the more vocally aggressive among our policy-makers get wobbly knees when it comes to REALLY smacking some knuckles. The maga-banks not only “own” the pricng structure mechanisms of nearly all financial asset markets, they apparently “own” virtually all of our elected officials in Washington, REGARDLESS of party affiliation. If anyone thinks the Tea Party crowd of quasi-libertarian (at least in economics speech) crowd are immune, think again. If they got enough money to have been nominated and elected, they’re “owned”. The exceptions are too rare to even mention, although a tiny number do exist.
Go onto iTunes and download a podcast of this week’s APM:Marketplace podcasts. We have large US banks literally getting into the business, DIRECTLY, of storage of industrial commodities like aluminum. Why do we allow this??? All they do is withhold supply, run up prices, and they sell. It’s like Enron on steroids.
Supply and demand set prices. You guys worry too much about manipulation. Big traders are always going to be able to move the price of a commodity some. Demand from India and China probably has a much bigger influence though.
Demand from India and China is cultural, and based on true demand for the real product by their populations. What happens in U.S. financial markets for futures contracts and options on those futures, with calls and puts, plus combinations of them known as strips, straps, and straddles, are virtually 100% paper pushng, without any desire to ever take delivery of the underlying goods. In foreign lands, they place orders on the market because they want metal. In New York, London, and Sydney, they couldn’t care less about the metal, they are seeking dollar profits – dollars that may not even EXIST in FRN’s, but rather bits and bytes in their trading accounts’ balances. It’s why we need a new Glass-Steagall Act, to separate community banking from the casinos of Wall Street or Fleet Street.
I agree with the fact that in India and China, the demand for gold is rooted in the traditions and customs of the society. The demand for gold in these two major economies is immense, and it always will be. May be that explains the emergence of Shanghai Gold Exchange vis-à-vis London and the New York COMEX. Today, it is common knowledge that COMEX has become a paper and cash market, and as observers have mentioned, the government has not been able to do much about the mega-banks that virtually control every aspect of economy today.