LBMA, LPMCL and the use of fractional banking techniques and derivatives in the gold market.

Cheeky Bastard's picture

During last weeks jobless claims analysis; Joe Kernen decided to throw in couple of his "highly sophisticated" thoughts regarding gold, gold market, structure of GLD SPDR ETF, and the utilization properties of gold. With stupidity oozing out of him, this is what Kernen had to say about gold [make sure not to miss the comparison of buying gold with the practice of sacrificing animals]:

 

 

I do not want to spoil such "highly sophisticated" "thoughts" with truth, but I just cant restrain myself. It is well known that most of physical gold is being stored in the vaults of LBMA member banks. The institution which says so is the LPMCL (London Precious Metals Clearing Limited) which is, surprise surprise, owned by those same banks which are members of LBMA. It has been said numerous times in the past, and most recently by GATA board member Adrian Douglas, what is the true structure of gold market and that the contracts being traded are not contracts based on physical gold, but at best primary miner-LBMA forwards [rarely futures], and most often bars with multiple CUSIPs assigned to them. Basically most of the daily volume and value being traded on the gold market compromises of derivatives and second derivatives [second derivative being either put or call on a forward contract or futures contract on a forward]. It is also worth mentioning GOFO rates which are rates that LBMA charges on gold loans. Notice the surge in GOFO coinciding with gold market interest going from net long to net short:

 

What is even more believable when we are talking about the manipulation in the gold market is that the same treatment which is being applied to physical bullion [assigning multiple CUSIPs to same gold bars [by LPMCL]] is also applied towards primary miner-LBMA forward contracts. If we use a conservative estimate of minimal reserves and say it is 10% that would mean that one primary miner-LBMA forward for 1000 ounces, can create, out of thin air, 100 000 ounces of new gold, without any physical gold actually being mined or traded in the market.Think about what 100 000 ounces of new gold hitting the market would do to its price. Something like this maybe [actually i dont believe such a large quantity ever hit the market in just one infusion]:

 

 

Here is the BIS statistics on OTC Gold derivatives:

 

 

Adrian Douglas; GATA board member writes the following:

By Adrian Douglas
Monday, January 18, 2010

 

Here are some Trivial Pursuit questions for you:

 

1) What is the biggest market in the world for a physical commodity?

2) Is the gold market one of the smallest markets in the world for a physical commodity?

 

I would guess that you answered:

 

1) Crude oil.

2) Yes. Gold is one of the smallest commodity markets in the world.

 

If those were your answers, you are wrong. What everybody believes to be the "tiny gold market" is in fact the world's biggest physically traded commodity market.
Let's have a look at some facts.
The London Bullion Market Association (LBMA) "over-the-counter" (OTC) gold market trades approximately 90 percent of the world's physical gold trade. The amount of gold sold each day is given at the LBMA's Internet site here:
http://www.lbma.org.uk/stats/clearing
The LBMA reports the net gold traded, which is termed "ounces transferred." This is not the gross trading volume. For example, if an investor were to sell 1 million ounces in the day and then buy 1.1 million ounces, the trade would be counted as 0.1 million ounces, the net difference between the purchase and the sale and the amount of gold "transferred" to the investor's account.

 

Therefore the numbers are the amount of gold that changes ownership each day.
The value of the daily trading for November 2009 is given as $22 billion.
From looking at the data you might think that the trade amounts are for the entire month. But they are actually average daily figures for the month. This is clear from another page of the LBMA Internet site, which states:
"Gold ounces transferred rose from a daily average of 20.6 million in September to 20.8 million, an increase of 1.2%. There was a 4.7% increase in the average price to $1,043.16, resulting in a 6.0% rise in value to a daily average of $21.8 billion. The number of transfers dropped by 0.8% to a daily average of 1,908."
The world consumes 82 million barrels of crude oil each day.

 

At $77 per barrel the physical trade of crude oil is worth $6.3 billion each day. This means that the amount of gold that changes ownership each day is, in dollar terms, 3.5 times the dollar value of crude oil that is consumed each day.
In a GATA dispatch in October 2009 the market analyst Paul Mylchreest estimated that the gross volume of gold traded on the LBMA each day was about 2,100 metric tonnes:
http://www.gata.org/files/ThunderRoadReport-10-15-2009.pdf
That equates to $77 billion each day at 1,150 per ounce. The NYMEX WTI crude oil contract trades 400,000 contracts each day, which is 400 million barrels. At $77 per barrel, the gross value traded is $30.8 billion, which is only 40 percent of the value of the gross trade in gold.

 

There is a myth among even knowledgeable gold investors and analysts that the gold market is tiny, but in reality it is the biggest physically traded commodity market in the world. The perception of gold being a tiny market comes from the tiny annual production of gold. Global gold production is only 2,200 metric tonnes per year, which is equivalent to the gross trade in gold on the LBMA in just one day.
In a previous article I analyzed the LBMA market numbers and deduced that it was impossible for the LBMA to have enough gold in its vaults to trade such large daily volumes.

 

The inescapable inference is that the LBMA is operating a fractional reserve system and has sold much more gold than it has or could ever have. The amount of gold that has been sold is estimated to be around 65,000 metric tonnes, while the maximum amount of London Good Delivery bars that exist in the world is around 15,000 metric tonnes. So even if the LBMA possesses the world's entire stock of LGD bars there are 50,000 metric tonnes of obligations that cannot be met if the owners ask for delivery.
To put that quantity of gold into perspective, it is equal to all the gold reserves that remain to be mined in the earth.
Gold is unique among all commodities because its very nature and function enable such a fraud to be perpetrated. Gold has very few uses that consume gold. Its main function is to store wealth, and gold can perform that function while in your house, in your vault, or even on the other side of the world in someone else's vault. When it is acting as a store of wealth in someone else's vault, you have to trust that someone else that there is any gold at all in his vault.
Many wealthy individuals, institutions, and sovereign states buy gold through the LBMA in unallocated accounts and leave the gold they supposedly own in the custody of the LBMA.

 

That people are buying and selling gold without ever taking delivery means that there is the opportunity for the bullion houses to sell gold that doesn't exist. The bullion houses probably don't view this as illegal or dishonest, because they will operate a fractional reserve type of system just as the banks do with fiat currency and will make sure that they have enough gold on hand for what would be the maximum estimated volume of gold that could be called for delivery at any one time.
For this fraud to continue without being exposed, no requested delivery of gold by an LBMA customer must ever be defaulted upon or else a massive "run on the bank" would be triggered.

 

When the bullion banks get into trouble and don't have enough gold on hand to meet delivery demands, central banks lease or sell them gold to cover the shortfall. The central banks are willing to aid and abet the crime because the selling of "paper gold" has the same suppressive effect on the gold price as selling real gold. Suppressing the gold price accommodates the central banks in masking their promiscuous fiat currency creation. In this way the traditional inflation "canary in the coal mine" is muted.
This is the basis of the "strong dollar policy" that allows interest rates to be lower than they should be, and in turn it lowers the price of commodities and imports as it artificially enhances the dollar's buying power. Further, the central banks are able to earn a lease rate on their gold hoards.

 

If commission fees are 3 percent, then the annual commission earned by the LBMA is approximately $585 billion on only $500 billion of assets. A 100 percent return on investment is certainly a handsome profit.
The much-heralded public auction by the Bank of England of half of its gold stock was open only to members of the LBMA.
From the thesis presented here it can be seen that the suppression of the gold price suits the central banks and that running a fractional reserve gold inventory is extremely lucrative for the LBMA, especially when it is backstopped by the central banks.

Mobilizing central bank gold to maintain liquidity in the market is essential. Maintaining secrecy of such gold activities is equally essential. Over the last 10 years GATA has amassed a large amount of evidence that more than half of central bank gold has been sold, leased, or swapped into the market. This is what lies at the core of the federal Freedom of Information Act lawsuit GATA has filed against the Federal Reserve. The Fed is denying access to hundreds of pages of documents pertaining to the U.S. gold reserves because they are deemed to be exempt from disclosure as "trade secrets." GATA believes that the Fed is trying to cover up its involvement in the suppression of the gold price as part of the implementation of the "strong dollar policy," which necessarily involved mobilizing or encumbering the U.S. gold reserve in some way. GATA intends to find the truth.
Investors in precious metals should take delivery of their bullion.

 

No matter what the outcome of GATA's lawsuit, the fraud will be exposed by customers of the LBMA asking for their gold. When it becomes clear that there isn't enough gold to meet demanded delivery, the gold price must rise in accordance with the new market reality of a much smaller supply than previously was apparent. If you don't take delivery of your bullion, you might discover that investments you thought you had in gold are just promissory notes.

 

 

There you go ladies and gentleman; the undeniable truth about the suppression of gold price using the same methods and instruments that are being used when it comes to banking, currency and OTC derivatives market. I will follow this with a more detailed expose on LBMA, LPMCL, GLD SPDR ETF, derivatives and structure of the market. Since this topic abounds with vast pool of information; each of the aforementioned structures will be introduced separately in the upcoming posts about the world of Gold. Trade safely and always demand delivery.