Basel III May Indeed Be Profoundly Bullish for Gold & Silver

When you buy an ETF like SPDR Gold Shares (NYSE-GLD) you may believe you own gold. But that is patently false. What you own are claims to fantasy gold. GLD makes no promises that its coffers contain any gold that backs your shares and in fact only very large shareholders are permitted to request delivery of physical gold. That’s why, regarding ETFs, I prefer those offered by Sprott or the VanEck Merk Gold Trust (NYSE-OUNZ). Those ETFs actually do back your paper claims with physical and OUNZ permits taking delivery of very small amounts of gold. But a monstrous lion’s share of the gold trade is comprised of “fake” gold in unallocated accounts like GLD or in futures and options paper accounts that can only be settled not in bullion but in fiat. And after the 2008 banking crisis, the Bank for International Settlement (BIS) recognized that massive gold derivative accounts pose an enormous threat to the stability of the international banking system. Out of that concern came the Basel III regulations that will, if implemented on January 2, 2022, put a stop to massive bullion bank futures and options trade for not only gold but silver and other precious metals as well. 

Just how profoundly large are these derivative accounts that dupe investors into thinking they actually own gold when in fact there is virtually no physical gold available to them should they wish to take delivery of physical metal rather than fiat currency? The illustration above right taken from an excellent article written by Bullion Star demonstrates the dominance of “Paper gold” as opposed to physical gold that comes from the mines. The article was written on March 29, 2017, titled “What Sets the Gold Price—Is It the Paper Market or Physical Market?” and revealed that the volume of unallocated gold traded on the LBMA (which controls 78% of global trade) is 15,000 times more than the volume of physical gold traded there. Go to https://tinyurl.com/yjwu2awv, or Google this very extensive and well documented article. The conclusion of the article was that it is the fake paper gold market rather than actual physical gold that is responsible for price discovery.  

As Alasdair explained on my radio show on July 13, Basel III rules will actually go into effect only January 2, 2022. Except for a recent insertion into the rules that will allow the LBMA’s centralized settlement system to continue to function to clear the markets at the end of each day either through buy/sell trades or sell/delivery. But in line with Basel III’s apparent determination to get banking’s exposure to uneven derivative positions substantially reduced, net positions in precious metal derivatives in the form of forwards and swaps will be penalized through their inefficient use of balance sheet resources and will likely be replaced by transactions fully backed by physical gold.

And so, the BIS set up rules aimed at curtailing banks from holding these “fake” gold and silver accounts on their balance sheets. To give time for the banks to make these business and legal adjustments, the BIS allowed approximately six months to ease into a new, more honest way of trading gold and other meals. 

What this will mean for the price of gold and other metals is impossible to know but Alasdair sites BIS evidence of 8,675 tonnes of unallocated gold sitting in investment accounts. He provides an educated guess those holders of at least half of that “paper gold” are likely to demand that physical gold be held in their accounts. Add ~4,300 tonnes of demand for a product for which supply grows at a snail’s pace, and it’s hard to see how the price of gold doesn’t rise significantly even before considering the supply of dollars are now growing at an exponential pace.  Few have looked at this issue as closely as Alasdair. We better be ready for this January 2022 event!

About Jay Taylor

Jay Taylor is editor of J Taylor's Gold, Energy & Tech Stocks newsletter. His interest in the role gold has played in U.S. monetary history led him to research gold and into analyzing and investing in junior gold shares. Currently he also hosts his own one-hour weekly radio show Turning Hard Times Into Good Times,” which features high profile guests who discuss leading economic issues of our day. The show also discusses investment opportunities primarily in the precious metals mining sector. He has been a guest on CNBC, Fox, Bloomberg and BNN and many mining conferences.