Sprott Discusses GLD Redemptions

64
Tue, Jun 4, 2013 - 12:38pm

In their latest newsletter, the good folks at Sprott Asset Management tackle the ongoing redemptions of the GLD.

Again, you can receive these newsletters directly if you click this link and sign up: https://www.industrymailout.com/Industry/View.aspx?id=454626&q=598417271&qz=7aa03e

Redemptions in the GLD are, oddly enough, Bullish for Gold

By Eric Sprott & Etienne Bordeleau


Recent outflows from physical gold exchange traded products (we use the SPDR Gold Shares, GLD) have been interpreted by the financial press as a sign of weakness in the demand for gold as an investment vehicle.1

However, a closer look at the evidence suggests otherwise: the largest outflows in the history of the GLD (see Figure 1) started well before the large drop in the price of gold we observed on April 15th, 2013 (-9%, which represents a 1 in 11 years event)2. In fact, the net redemption of shares of GLD started as early as the second week of January 2013 (on a 3-month cumulative rolling basis). In this note, we will explore the theory that it was the shortage of physical gold and the ensuing arbitrage opportunity that drove market participants to redeem shares of GLD.

So why are the bullion banks3 that act as Authorized Participants for GLD, a group that includes JP Morgan and HSBC and others (who by-the-way were mostly bearish on gold leading to the April Crash), redeeming so many shares of GLD?

One explanation could be that they are trying to match supply and demand so that the net asset value (NAV) of the ETF is in line with its price. Historically, we have observed that large movements in and out of the GLD are associated with large discounts/premiums to NAV (Figure 2). This is due to the constant creation/redemption of the shares to minimize the discrepancies between the ETF share price and the NAV. However, the recent wave of redemptions has occurred even while the premium to NAV has been very stable, hovering around 0% for most of the year.

FIGURE 1: FLOWS IN THE GLD (TONNES) - 3 MONTH ROLLING BASIS

Source: SPDRgoldshares.com and Sprott Calculations.
Last Observation: May 28, 2013 (Week 22).



FIGURE 2: GLD PREMIUM TO NAV AND GOLD FLOWS

Source: SPDR Gold Trust, Sprott Calculations.
Note: Large flows are defined as weeks where the average % change in tonnes lies in the top or bottom 10% of its distribution (i.e. tail events).

We believe that the answer lies in the discrepancy between the paper and physical markets for gold. Over the past few months, there have been rumours of bullion bank customers unable to redeem their gold.4,5 While, at the same time, physical demand in Asia has been extremely strong this year.6,7 According to the World Gold Council (WGC), Indian imports should reach 230-400 tonnes in Q2 2013 (an increase of more than 200% year-over-year) and imports from China keep breaking records (the WGC now forecasts total Chinese imports of 880 tonnes for 2013).8 This is reflected in the large premium customers in these markets pay over the “London Fix”, the price one should be able to get for physical gold. One way to measure the extent of the demand imbalance for physical gold in Asia is to look at what has been termed the “Shanghai Premium”, which is the difference between the quoted physical gold price on the Shanghai Gold Exchange and the London Fix gold price. Figure 3 above shows a weekly time series of the Shanghai premium in USD/oz. of gold. Since the beginning of the year, the Shanghai premium has been consistently above zero and historically large, reaching more than $50 per oz.

FIGURE 3: SHANGHAI PREMIUM (GOLD, $/OZ)

Source: Bloomberg. Last Observation: May 28, 2013 (Week 22).
Definition: Shanghai Gold Exchange Au9999 Gold (USD) minus London Gold Market Fixing Ltd - LBMA AM Fixing Price/USD.
“The Shanghai Premium is calculated on a weekly basis. Formula: (SHGF9999 Index * CNYUSD Curncy * 31.1g/oz) - GOLDLNAM Index”.

PUTTING THE PIECES TOGETHER

It is clear that demand for physical gold in Asia is strong and that the price of gold in these markets is well above the “Western” price. This creates arbitrage opportunities for market participants that have access to large and cheap quantities of physical gold in the West. The bullion banks happen to be the only ones able to redeem GLD shares for gold, and the GLD, with its 1,000 tonnes of inventory, acts like a large physical gold bank.

FIGURE 4: SHANGHAI PREMIUM ($/OZ) AND GLD FLOWS

Source: Bloomberg, SPDR Gold Trust, Sprott Calculations.
Note: Shanghai Premium shown as a 3-month Moving Average GLD flows are rolling cummulative flows over 3 months

According to the GLD prospectus, the bullion banks can create or redeem units for as little as 10bps (0.10%). Even with transport and insurance costs (which are arguably lower for large transactions and large international banks), there is a clear arbitrage opportunity for the bullion banks when the Shanghai premium (or any other physical gold price premium in emerging markets) is as large as it has been recently.

Moreover, because of the intense demand for physical gold we have seen so far this year, it is very probable that the bullion banks themselves are in a shortage of physical gold, hence the need to use the GLD reserves.

Indeed, since 2005, there has been a strong negative correlation between GLD flows and the Shanghai Premium (-53%) (Figure 4 above). This means that large outflows (redemptions) from the GLD are typically associated with high premiums in the Shanghai gold market. This association has been particularly marked since the beginning of the year, with historically large outflows corresponding to an all-time high in the Shanghai premium.

To conclude, the evidence presented here suggests that, contrary to what has been stated in the financial press, the flows out of the SPDR Gold Trust may have been generated by the bullion banks to take advantage of an arbitrage opportunity in the physical market. This arbitrage opportunity occurred because of the intense demand for gold stemming from Asia and the inability of traditional suppliers to provide this gold (hence the large Shanghai premium). We believe that this activity further supports our hypothesis that there is a lack of availability of physical gold and an obvious dislocation between the physical and paper gold markets.

In these conditions, it is not hard to imagine that prior to April 15, the bullion dealers, with their large resources, were tempted to sell large amounts of gold futures in order to lower the spot price and make the arbitrage even more profitable by increasing the spread and sparking a tsunami of buying in Asia.

To us, this is clearly a bullish signal for gold.





1 https://www.bloomberg.com/news/2013-05-22/gold-etp-outflows-in-2013-topa... over-past-two-years-1-.html
2 We say approximately 1 in 11 years because a -9% move is about a 7 standard deviations change and, given that gold price returns follow a Student distribution with about 5 degrees of freedom, this should happen every 10 years (or 2800 trading days). Some have proclaimed that it is a much rarer event, but this would assume that gold prices follow a normal distribution, which is simply false.
3 The bullion banks are: the Bank of Nova Scotia – ScotiaMocatta, Barclays Bank PLC, Credit Suisse, Deutsche Bank AG, Goldman Sachs International, HSBC Bank USA, N.A., JPMorgan Chase Bank, N.A., Mitsui & Co Precious Metals Inc., Merrill Lynch International Bank Limited, Société Générale and UBS AG.
4 https://poorrichards-blog.blogspot.com.au/2013/05/clients-denied-gold-at... banks-as.html
5 https://truthingold.blogspot.co.uk/2013/04/the-global-fractional-paperbu... 6103.html
6 https://sprottgroup.com/thoughts/articles/where-is-the-gold-coming-from/
7 https://sprottgroup.com/thoughts/articles/the-golden-answer-to-chineseim... data/
8 https://www.reuters.com/article/2013/05/29/gold-demand-wgcidUSL5N0E93U92...

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  64 Comments

SRSrocco
Jun 4, 2013 - 1:04pm

SHANGHAI SILVER STOCKS DECLINE SUBSTANTIALLY

I think Sprott is correct in his assumption. Furthermore, it looks like Physical Silver Demand has picked up significantly in China as well since the April 12th take-down.

Shanghai Silver Stocks Decline Substantially after Price Take-down

I am really sick and tired of the worn out BEARISH SILVER SUPPLY & DEMAND forces regurgitated by the MSM analysts. The world is awash in hundreds of trillions of dollars of worthless Paper Derivatives, and they still believe superficial industrial supply and demand forces are meaningful?

tyberious
Jun 4, 2013 - 1:07pm

The Silver Interview the

The Silver Interview the "Good Guys" Don't Want You To Hear Tuesday, June 4, 2013 9:07 One of the ongoing dilemmas on the Road to Roota is the exposure of the original "Good Guys". The original people that set up the plan to secretly take down the banking cabal and return us to a true Gold Standard. The people that secretly started the computer price manipulation practices of the precious metal markets back in the early 1970's that continue in full force today. At times I do feel bad that I have pulled back the curtain but this has to be done. The TRUTH has to be told and the problems FIXED. Their grand plan from over 40 years ago has ultimately turned into a GRAND DISASTER with no smooth transition back to sound money. The rigging programs are in the hands of the banksters now and they use the cover of the original plan to help the world distort and defraud every market on Earth. Should the "Good Guys" have waged a preemptive open war against the "Bad Guys" back in the 1960's after they took out Kennedy and took over our country? Maybe. But now they have let the global monetary destruction fall on the laps of our generation and its time to PULL THE PLUG on the entire operation. The only way to do that is to EXPOSE THE TRUTH and that's what this interview begins to do. Bix Weir: Story Behind the Road to Roota Silver Medallion https://www.opencurrency.com/bix-weir-story-behind-road-to-roota-silver-medallion/ You can close your eyes to the information presented on the Road to Roota but you can't erase the facts. The Fed Boston comics are REAL and they do talk about overthrowing the "Big People" who run our system. They talk about the need for a Gold Standard. They reference 911 conspiracies and talk about the secret "Oil Standard" that Kissinger set up to artificially support the US Dollar. They allude to the hidden caves of gold in the United States. They talk about the redistribution of money after the system falls apart. Even the new $100 Bill that comes out in October 2013 references the new Gold Standard and the need for "We The People" to finally stand up and remove our current leaders. Alan Greenspan, John Kemeny, Stephen Devaux, Harold Sullivan, George Goodwin Jr. all were involved in the implementation of the Greenspan plan to rig the markets via computer programs. Ronald Reagan, Ron Paul, Paul Volcker, Dianne Feinstein and Barney Frank carried it forward through the years. Ben Bernanke is in charge of the final monetary IMPLOSION as he prints money faster and deeper than any previous Fed Chairman. The end cometh fast...keep an eye out for the actions of Warren Buffett as he will be involved in the final blow. If none of the above makes sense to you you can start your awakening process here: The Road to Roota Theory https://www.roadtoroota.com/public/190.cfm It is time to spread the truth so please send the interview all around the internet. People need to wake up and smell "Roota's Flowers" if we ever want to get out of this mess! May the Road you choose be the Right Road Bix Weir www.RoadtoRoota.com

jaw777
Jun 4, 2013 - 1:08pm

PHYS

I wish he would have addressed why we have not seen similar withdrawals from PHYS. It may be due to the cost of redemption and/or shipping costs making the arbitrage less profitable, but it seems like an obvious question for him to answer.

TomMack
Jun 4, 2013 - 1:09pm

7th? thanks

thanks .... for the Sprott info, also from last night too. I have a little in my ira and did get alarmed when i see how GLD can cash in paper for physical and sell the physical at a premium.. I thought why not do the same in sprott. And since the fund is valued versus some paper index i thought i would be forced out with a big loss before the Revaluation Moment. like ABN-Amro. but after hearing the reasons i feel a little more at ease.

1) trust.... i doubt it

2) too small .... i doubt that too

3) closed end fund ... i guess that is what i can hang my hat on.

i am from the "IF YOU DON'T HOLD IT YOU DON'T OWN IT"

so being trapped in this until i feel a 40% hit is better than the risk will have to do for now.

zman
Jun 4, 2013 - 1:17pm

Why hasn't Sprott done more

Why hasn't Sprott done more offerings for PSLV and PHYS? It's been a long since the last one. If he could get a few big investors, and take $400 million worth of physical silver off the market, that's close to 20 million ozs!! Why won't investors take a small percentage of their money and invest with Sprott? I don't get it.

Cry Me A River
Jun 4, 2013 - 1:25pm

APMEX JUNK SILVER BUY BACK PREMIUMS JUST DROPPED TO $1.85

The Premium Chart Pattern Looks Very Similar To The Silver Pattern After It Peaked At $49.80. Something Must Be Up. APMEX Junk Silver Inventory Is Flush In All Categories. $17338.75/715 oz = $24.25 = $1.85 over spot. AMPEX IS PROBABLY GEARING UP FOR HIGHER PRICES. HERE'S THE CHART:

Howard Roark
Jun 4, 2013 - 1:25pm

@ I read by ScottJ

Regarding the MSM and some other sources I see the point.

But when you say: "To see the potential of human wisdom in a collective manner re-shape the way...", well there I see the danger. Is there a way of collectively shape any way? Rather than impose some majority rule?

By the opposite, isn´t the effort of individually seeking to develop more knowledge (and that for sure involves cooperation/trade with others) and acting on the values that our mind produces, the way for all the parts in "the bargain" to profit from it?

That´s the way I see this community. Each according to his capabilities (not his needs) to cooperate and profit from the deal. And this deal regards the truth on such important matters as liberty, peace and happiness.

Sprott´s investigation on gold (and) silver flows should pay dividends as we move along. And maybe the effort of his team (Rule rules, definitely! Kudos achmachat!) and GATA´s may clear the market of the "paper shadow".

Salut,

HR

Willy
Jun 4, 2013 - 1:29pm

Market Anthropology

Can't seem to load the chart cause I'm technologically challenged, but has anyone seen the chart just posted at Market Anthropology showing the silver:gold ratio 50 Month SMA over the past 23 years? If someone can post it I think it would be good for us Turdites to see. It appears to be a massive bearish wedge. Looking at it, when the ratio has hit resistance, the ratio falls. We are almost at an endpoint here and if it plays out we should get another move up in PMs. The ratio hit resistance in early 2002, the end of 2008, and today. All 3 periods were right before a big move up in PMs. If we breakdown out of this bearish wedge(the ratio) the move up in PMs could be strong!

I haven't seen this chart posted/discussed before this showing such a big bearish wedge!

Interested if you guys have seen it and if that's how it appears to you?

Cheers

NonoverlappingMagicCereal
Jun 4, 2013 - 1:36pm

@Jake

Where do you get those historical charts for the APMEX premiums?

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