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August 28, 2014 at 09:20 PM
With the launch in mid-August of a new system to arrive at the price for silver, precious metals investors are dealing with the first in a series of changes in how the market prices of silver, gold, platinum and palladium are reached.
More change is coming, since the other three metals have yet to go through the process, but what’s happened so far is this: Concerns about price fixing after everything from LIBOR to currency were found to have been manipulated led to accusations about the gold and silver markets, and in January of this year Germany’s financial regulator Bafin said that the manipulation of precious metals prices was worse than that occurring with LIBOR.
Deutsche Bank was interviewed by Bafin on the matter before the end of 2013, and in January the bank announced that it would exit the commodities business and abandon its positions in the processes of fixing gold and silver prices. Since Deutsche Bank was one of only three involved in the 117-year-old process of setting the price of silver—the other two were HSBC and Bank of Nova Scotia—that meant a new method had to be found before Deutsche Bank departed the scene.
In August, that new method launched. An electronic, auction-based mechanism has taken the place of the traditional conference call among the three banks that had determined how silver would be priced since the time of Queen Victoria. Run by CME Group Inc. and Thomson Reuters Corp., the new system uses electronically entered orders proposing a starting price; if buy and sell orders don’t match up, an algorithm will determine the price to be used for the next bidding round. CME had said in a report when the system went live that each round should take 30 seconds or less, and that participants will be able to view bid and offer volumes, as well as total volumes traded once the price is set.
The London Bullion Market Association (LBMA) said on its website that some of the participants in the live trials of the new system would have to wait for accreditation before participating once the system went live. Compliance, credit, legal and IT requirements had to be satisfied first, but the LBMA said it expected the list of refiners and producers, trading houses and banks to grow in weeks to come as requirements are met.
“In the old days, you didn’t have a market that traded all day, 24/7. [Bullion] was thinly traded. It doesn’t take a genius to figure out that if they’re all banks, they’ll bid it down; they buy at a low price and sell at a high price. You can see in the charts that the bid is fixed below actual trading in futures contracts,” said John Blank, chief equity strategist for Zacks.
“It’s wholesale vs. retail. Only in the last few years have gold and silver become hot with the advent of ETFs having brought the retail player into this market,” he said. “ETFs brought in the retail investor, and also smoked out how bidding works… and now they’re getting rid of the old way. Information is not free, and markets pay for information. The bid/ask spread widens for those who have a lot of information; it’s wide if you have a lot, and narrow if you don’t.”
Thomas H. Yorke, a portfolio manager on Covestor, an online investment management company, also focused on the importance of information. “The precious metals fixing process is more archaic and subject to gaming, like leaking of the direction of the fix or simply slamming the close, than the LIBOR market. LIBOR settings were problematic for years during the Japanese banking crisis of the mid-90s as well the questionable settings during the global meltdown of 2008,” he said.
Yorke added, “Any time traders can buy, sell, or leak the direction of the gold fix during the process, they clearly possess inside information and lure of easy profits exists. This information is not available to the general public and clearly doesn’t help the integrity of the markets.”
