Gold Liquidity Is Plunging, Here’s What Comes Next

After getting crunched last week, precious metals are rising once more. Gold is doing especially well in that regard following Warren Buffett’s investment in Barrick Gold (NYSE: GOLD), a popular miner.

But the other major trend in the gold market this year – besides the recent rally – is the enormous investor inflow into gold-backed exchange-traded funds (ETFs). Moreover, that ETFs have dramatically increased their holdings of physical gold in response to those inflows.

The World Gold Council, which is the chief sponsor of the SPDR Gold Trust (NYSE: GLD), reported on this trend several weeks ago in a revealing Twitter post:

“In July, [gold ETFs] recorded their eighth consecutive month of positive flows, adding 166t, equivalent to US$9.7bn AUM. Once again, this brought global holdings to a new all-time high.”

Gold ETFs have seen their holdings grow by 21% in 2020. In July, they logged their eighth consecutive month of physical gold inflows, contributing to a streak of record highs.

The biggest gold-hoarder of them all, though, was the aforementioned SPDR Gold Trust, which added 348 tons of gold from January – July of this year. 333 of those tons were added since late March alone.

In total, the SPDR Gold Trust now has 1241 tons of gold, held with HSBC Bank in London.

That’s a lot of physical gold. And for the SPDR Gold Trust, it’s been getting harder to find. In April, HSBC tapped the Bank of England for a major gold bar transfer. In a Q1 2020 filing to the SEC, the SPDR Gold Trust revealed that it began holding gold bars at the Bank of England – roughly 46 tons, or 4.4% of the ETF’s total holdings.

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And though an ETF procuring more gold wouldn’t normally raise eyebrows, the SPDR Gold Trust’s April maneuver was somewhat of an anomaly.

Save for one occasion in 2016, the SPDR Gold Trust has never had to source and store gold outside of HSBC’s London vault.

Then, in Q2 2020, the SPDR Gold Trust published its most recent SEC filing, in which investors learned that the ETF increased its Bank of England gold holdings to 70 tons by the end of May, representing 6.3% of GLD’s gold supply.

And even at the end of June, SPDR Gold Trust reported that 40 tons of its gold were still being held in the Bank of England’s vault.

This might not seem like a big deal at first glance. After all, gold-backed ETFs need to hold large amounts of gold.

However, the SPDR Gold Trust’s reliance on the Bank of England implies something that could have a profound effect on the gold market, which is that there is a shortage of physical floating gold.

In other words, the amount of freely tradable gold is dwindling while liquidity plunges. The physical gold market is very small relative to the equity gold market (ETFs), making this a potentially critical trend that could have major implications for both physical gold and gold-backed ETF investors.

If this continues, gold-backed ETFs might not be able to buy enough gold as demand surges. Physical gold would explode higher as a result while the ETFs start to lag behind, or even worse, start to fall.

We’re not there yet – not even close – but it’s a possible outcome should the physical gold float drop to near-zero.

So, while buying shares of GLD to participate in the gold boom may be convenient, it might not be the safest long-term strategy. Physical gold, or even gold miners, could be the better buy.

Especially once other investors start to recognize the gold market’s drop in liquidity and begin to shift their precious metals portfolios.

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2 COMMENTS

  1. “In total, the SPDR Gold Trust now has 1241 tons of gold, held with HSBC Bank in London.”

    Bill Poulos, how reliable are GLD’s holding reports? GLD does not give retail investors the right to redeem for any of its mystery physical gold holdings. This fact alone ensures the GLD shares to be nothing more than paper at the end of the day. GLD also has a glaring audit loophole in their prospectus that states they have no right to audit subcustodial gold holdings. To this day, I have not heard of a single good reason for the existence of this backdoor to the fund. Some other red flags I’ve stumbled upon, verified and welcome everyone else to verify for themselves:

    “Did anyone try calling the GLD hotline at 866 320 4053 in search of numerical details on GLD’s insurance? The prospectus vaguely states “The Custodian maintains insurance with regard to its business on such terms and conditions as it considers appropriate which does not cover the full amount of gold held in custody.” When I asked about how much of the gold was insured, the representative proceeded to act as if he didn’t know and said they were just the “marketing agent” for GLD. What kind of marketing agent would not know such basic information about a product they are marketing? It seems like they are deliberately hiding information from investors.”

    “I remember there was a highly publicized visit by CNBC’s Bob Pisani to GLD’s gold vault. This visit was organized by GLD’s management to prove the existence of GLD’s gold but the gold bar held up by Mr. Pisani had the serial number ZJ6752 which did not appear on the most recent bar list at that time. It was later discovered that this “GLD” bar was actually owned by ETF Securities.”

    • Thanks for the insightful comment, Geo. For the time being, we have to assume that GLD’s holding reports are accurate (even if they’re not) simply because the market has priced GLD as if they are. To your point, gold-backed ETFs should only be viewed as a way to participate in trading gold’s price action, not as a way to actually own gold. Your interaction with the marketing agent doesn’t surprise me at all, as GLD is basically the “vault of secrets,” much like any other gold-backed ETF around. You certainly wouldn’t want to be holding receipts for GLD if the financial system collapses as a result. I view GLD as an easy way to short-term trade the gold market, not the answer to dealing with the headaches that often accompany owning physical gold.

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