SocGen: "Physical Gold Squeeze Returns"

Tyler Durden's picture

We already highlighted the return of gold lease rates to subzero yesterday, during the dramatic spike in gold following Gartman's latest sell recommendation. Now, it is time for the banks to also begin admitting that, as SocGen has just pointed out, the gold "physical squeeze returns."

Why is this relevant? First, we present SocGen's explanation of how in a world of ever greater quality asset scarcity, gold remains at the pinnacle (or bottom of Exter's pyramid), central banks have had to forge agreements among themselves to constant lease and re-lease the gold in circulation to each other, to have backstops for when demand is so high that the actual underlying physical is simply not enough:

Western central banks have more than a decade-long history of gold Agreements with each other and with the private sector. The Central Bank Gold Agreement (also known as the Washington Agreement on Gold) was announced on September 26, 1999. It followed a period of increasing concern that uncoordinated central bank gold sales were destabilising the market, driving the gold price sharply down. The third Central Bank Gold Agreement (CBGA3) currently in force covers the gold sales of the Eurosystem central banks, Sweden and Switzerland. Like the previous two Agreements, CBGA3  covers a five-year period, in this case from 27 September 2009 (immediately after the second Agreement expired) to 26 September 2014. The third Central Bank Gold Agreement reaffirmed that "gold remains an important element of global monetary reserves", as was stated in the two previous Agreements.


In both the previous Agreements, signatories undertook not to increase their activities in the derivatives and lending markets above the levels of September 1999, when the first CBGA was signed. The new Agreement includes no similar commitment, although central bank activity in these fields has been very limited in recent years.

In other wodrs, despite all the posturing, gold is not only money, but the most important money central banks have access to for one simple reason: they can't create it out of thin air. More importantly though, as part of a possible new Central Bank Gold Agreement, as SocGen notes, it appears gold derivative and lending activity is about to take off courtesy of the elimination of the Washington Agreement limitations.

So what may be included in the new agreement once the CBGA3 expires in September 2014? SocGen explains:

The CBGA is likely to be a topic of increasingly intense debate over the coming twelve months; we suspect that a renewal is on the cards, if only for the sake of best practice. The CBGA covers not only sales, but lending arrangements. With the gold hedge book now below 200 tonnes, there is clearly scope for the banks to start lending again should there be any requirements from the mining sector. There is increasing debate about the possible re-emergence of hedging in the next few years, but thus far there is little evidence of any great intent. As the gold price trends lower, gold producers become more likely to hedge in order to protect their declining margins.

But that's some time in the future. As for the present, well - listening to 5 minutes of financial TV is enough to convince anyone that everyone hates gold: after all it's lost its momentum. So what do to?

If anything is guaranteed to send the gold price higher it is likely to be the fact that the majority of delegates at the recent annual conference held by the London Bullion Market Association and the London Platinum & Palladium Market were bearish for gold in the short term. The general consensus was that the flurries of very strong private purchasing in April and again in June-September was now on the wane and that a degree of increasing confidence in the global economy pointed to reduced interest among professional investors.

As for central banks:

The official sector remains a buyer. The panel of central bankers that addressed the conference included The Banque de France, the Deutsche Bundesbank and the Central Bank of Argentina. What was particularly interesting was that, when questioned, the representatives of both the Banque de France and the Bundesbank were uncommunicative about the prospects for a further Central Bank Gold Agreement (the third – known as CBGA-3 - expires on 26th September next year; see blue box below for further details). The Deputy Head of the Market Operations Division at the Bundesbank refrained from any comment on “this very sensitive issue”, while the Director of the Market Operations department at the Banque de France said that there were “many many issues” to be considered. Delegates, on the whole, were of the view that the Agreement should be rolled over, otherwise the markets could easily become unsettled, given the heavy holdings in the hands of a number of European banks in particular, notably those with legacy holdings from the days of the Gold Standard.

And of course, there is always China.