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Q:  What is a bullion bank?  The term is used all the time, but not defined as to what and who they are.

David Schectman’s Answer:

The Blanchard Company offers this explanation:

Bullion Banks: Smarter than the Rest of Us or Just More Informed? – www.blanchardonline.com

Bullion banks are the conduits for central bank gold being loaned into the market. As the gold market has shrunk in the last decade in terms of daily volumes and market participant numbers (http://www.lbma.org.uk/clearing_table.htm), the reduction in the number of bullion banks involved in the market means central bank loans are handled by an increasingly smaller numbers of banks. There are currently only six clearing banks on the LBMA handling gold loan transactions.

The six clearing banks are:

Barclays Bank PLC, ScotiaMocatta, Deutsche Bank AG, HSBC Bank, JPMorgan Chase Bank & UBS AG

Hypothesize the following bullion market situation:

Bullion Bank A wants to borrow 100 tonnes of gold to sell into the market. Bullion Bank A then contacts Central Banks X, Y and Z to borrow that gold, and begins negotiating term lengths and lending rates. Bullion Bank A selects Central Bank X’s terms, securing 100 tonnes of gold through the loan and subsequently sells it into the market. By completing just one transaction with one central bank, Bullion Bank A now knows that 100 tonnes of gold listed in Central Bank X’s IMF gold reserves is actually out on loan, and being the conduit for that gold reaching the market, they know the time and date that gold was sold into the market and length of those loans. Bullion Bank A also knows what amount of gold, lease rates and loan lengths Central Banks Y and Z are willing to accommodate even if they did not complete a transaction with those banks.

Now extrapolate that one transaction over hundreds of transactions annually between Bullion Bank A and dozens of central banks. Bullion Bank A knows gold loan amounts in the market from their own transactions, when those loans were made, and also which central banks are willing to loan what amounts of gold and at what contract term lengths. But bullion banks do not publish their borrowing activity.

The information that one bullion bank now has from its own market activity far exceeds information publicly available to any other market participants outside of other bullion banks. This “inside” information puts the bullion banks at a significant advantage to any other market participant because they are the only beneficiaries of this proprietary market information regarding timing and loan (supply) levels.

Now hypothesize another situation:

Bullion Bank A has gold desk operations in every gold market in the world, Dubai, New York, Sydney, Hong Kong and London. If Bullion Bank A knows that when the London market opens, they will be selling 100 tonnes of loaned gold into the market that has the potential to impact prices, what’s stopping them from front running those trades in other markets beforehand? Nothing. Being the sole beneficiary of their own market activity, Bullion Bank A now has the ability to place their bets in each gold market around the globe with the knowledge that when the London market opens, a certain level of gold that they control will be sold into the market.

Continue reading on Blanchard Online.com.

Bill Murphy (LeMetropole Café) and Jim Sinclair often talk about the bullion banks in the following context.  A large central bank (U.S. Fed, for example) leases gold to one of the bullion banks at very low (1% or less) interest.  The Bullion Banks sell the gold into the physical market, helping to suppress the price of gold.  The Bullion Banks use the funds to buy bonds, paying a higher rate of interest than the low amount they paid for the gold.  The Bullion Banks pocket the difference.  It is a risk-free trade UNTIL they have to return the gold to the Central Bank.  Chances are it won’t ever happen and the Bullion Banks will simply settle in dollars with the Central Bank.  Once the Central Bank’s gold is leased into the market, it is melted down into coins, bars or jewelry, or tucked away never to be re-sold by Indian, Russian or Chinese investors (etc.).  The key point here is that according to Murphy and Sinclair (and Miles Franklin), the Central Banks not only want to capture some “interest” on their gold holdings, they also wish to suppress the price of gold – to kill the messenger.  A rapidly rising gold price warns of inflation and currency debasement and leads to higher interest rates – all of which the Central Banks wish to keep from happening.

Q:  Would you recommend owning individual gold mining shares?  If so, what percent of one’s portfolio would you recommend?

With many of the mining companies going out of business or going through very difficult times, and the continued gold price suppression, who do you think will be the top US gold mining companies to emerge from all this (e.g. which mining companies do you think will survive)?

Bill Holter’s Answer:

Very timely question Chris.  I have always said that investors new to precious metals should start with silver then move to gold with your serious capital.  I am a believer that mining shares are undated options and will ultimately perform the best with of course the most amount of risk.  This category should be filled with your speculative funds.

Any mix should be commensurate with your own risk tolerance, the shares having the most risk/volatility, followed by silver and then your “anchor” being gold.  If you have a large amount of capital it will be tough to have equal “dollar amounts” of gold and silver because what might take a pickup truck to haul in silver will neatly fit in a suitcase with wheels if it’s gold.  I personally believe that the mining shares offer the best risk versus reward of anything, especially starting from the lows of last year.  The shares have outperformed both silver and gold off of the bottoms of last year and also year to date.  Remember, if we do go through a confiscation, how will your best (maybe only) way to own silver and gold? …in the ground and not yet mined.  There is high risk involved which is why you only use capital that you can afford to lose but all you need is one real winner in this category to become your largest position of all.

If you are looking for hard percentages I can’t give them to you but I can personally sleep at night being 50% gold and 25% in both silver and the shares.  As for “which shares,” we cannot go there as we are not investment advisors.  I personally own and have bought more and more juniors because that is where the leverage will be in my opinion with much higher metals prices.

Q:  Most people involved in the business of selling precious metals claim the price of silver is manipulated down by the paper market. They also claim that possessing physical gold and silver is a good way to fight inflation.  The price of silver was $1.293 from 1792- 1861, except for seven of those seventy years it never varied more than a penny. That is without a paper market.  If I use the inflation calculator starting with that $1.293 from 1913, which is the earliest year you can use, that $1.293 should be $31.06.  By the way silver was exactly $1.293 from 1963-1966, that is 174 years from 1792. My question is who controlled the price and how was the price controlled back then?

Andy Hoffman’s Answer:

Silver and gold are the ONLY money to have survived through the periods you speak – and all periods, for that matter.  Any currency, you are measuring it against throughout history, is gone.  The fact that we happen to live in a time of epic suppression doesn’t change its track record of 5,000 years.