Avoid Unallocated Gold Certificates

Theodore Butler explains how most silver certificates aren't backed by the metal.

(emphasis mine) [my comment]

[Everything Theodore says about silver applies to gold as well. (he seems slightly too obsessed with silver)]

One reason why we have much more silver promised on paper than exists is, as shown above, because silver needs to be stored, when dealing in large amounts.
The second reason is because bankers will be bankers. That is, it is a normal and acceptable practice for bankers of all stripes to promise to pay all depositors on demand, because we all know that all depositors won't demand to withdraw all their assets at once [except in runs on the bank]. Please understand that this is not an indictment on the banking system. I know full well how the fractional reserve system operates, and I am not condemning it. It is the way of the modern world, for better or worse. In the event of a bank run by depositors, at least in the US, safeguards have been built into the system, by the FDIC and Federal Reserve to contain and isolate such rare occurrences.

My point is different. It is this established and, generally, smooth-working system that we have all grown used to, including the bankers. But this system has been designed around paper currency (including checks and loans) and electronic money. The system has not been designed for physical silver metal.
The problem is that the bankers have behaved as if the system can apply to a metal, just as it applies to currency. It can't. There is no Federal Reserve, nor FDIC that can be called upon to deliver truckloads of silver metal, like can be called upon to deliver paper currency in a bank run. There is no silver guarantor of last resort, as silver is no one else's liability. Either the silver is there, or it's not there. Believe me, in most cases, it's not there. But the foreign bankers don't realize that. They think a silver certificate is the same as a currency-denominated certificate of deposit. They look at it through bankers' eyes. I look at it through a silver analyst's eyes. I see it differently than they do.

It's not just that the foreign bankers see it differently.
What they have been doing, issuing and letting their silver certificates remain unbacked by real silver, is an immensely profitable business. For twenty years, or more, by not having to go out and buy and store real silver whenever a customer buys a silver certificate, the foreign bankers have been printing profits for themselves. Their customers give them cash upfront, and not only do these banks have full use of that cash, they do not have to pay any interest on that cash, and get this - they charge storage fees, for silver that doesn't exist. It's better than stealing, because if you just stole the money from someone, you wouldn't get to charge additional storage fees. It's a racket.
[...]
There are two things that should come to every silver investor's mind. One, is there silver behind my certificate? There most likely is, if you
have a certificate that spells out the serial numbers on the bars, or a specific description of the silver held (bags of coins for instance). There probably is, if the storage function is separate and distinct from the dealer selling you the silver. There probably is, if it's registered in your name and not the name of your dealer. If you have all three, no sweat. But, if you hold a certificate where the silver is not described specifically, or is unallocated form, or is in a pool account, or there are no storage charges, you would be wise to assume the silver doesn't exist. That doesn't mean you will automatically lose, when silver takes off, but it becomes a question then of the credit quality of the entity you are doing business with, which is a very different analysis than the merits of silver. You would then be betting upon the financial viability of a dealer whose books you have not analyzed. Appearances can be deceptive. Remember, a few years ago, the then largest silver refiner in the world, Handy and Harman Refining, suddenly went bankrupt and all silver pool owners and depositors were left in the cold. Also, there may be small print wording in these unbacked silver certificates that may prevent you from getting your silver in physical form, or that deny you the true world price at the time you may wish to sell.

Theodore Butler reports that two kinds of silver.

[Everything Theodore says about silver applies to gold as well.]

there are maybe billions of ounces of silver represented in bank certificate form that have no real metal backing, and how
bad things may happen to the owners and issuers of those unbacked silver certificates when the price of silver explodes. I mentioned that banks all over the world, but particularly European banks, and especially large Swiss banks, had issued many of these silver certificates. My conclusion was that you should, if you owned silver in any questionable paper form, switch to an unquestioned form.

Last week,
I received a communication from an employee of a very large and well-known Swiss bank which confirmed my basic premise. Out of respect and concern for his privacy, I don't want to reveal his identity, and I will tell you what he said in my words, but it would be easy to verify his basic story. What he told me is that there are two different types of silver you can buy from any Swiss bank, each priced differently. If you want the cheapest form of silver, you would buy silver in a metal account. He explained that there were no charges (fees or storage) in a metal account, just cash payment for the agreed upon price at time of purchase. There was also no real metal backing whatsoever, just a private agreement between the bank and the client. The other form of silver certificate would be a deposit account, where by Swiss banking law, the metal had to be physically stored by the bank, on an ounce for ounce basis. Silver owned in a deposit account incurred a fee of 20% ( plus, I assume, storage fees, although he didn't spell that out. I also think a good portion of the fee is due to the VAT, although this was not spelled out). He indicated that the banks would, obviously, prefer that clients deal in the all-paper form of silver, and would steer clients to that form, the metal account. While it wasn't indicated in his message, another advantage to the all-paper metal account, was to ability to borrow on margin (for an interest charge, to be sure) and increase the leverage of the account. I can see why these all-paper accounts, ironically called metal accounts, would be so attractive to silver investors. That's too bad, as I think that apparent attractiveness could prove very costly in the long run.

Theodore Butler reports that swiss bank stop trading silver-gold certificates.

The Sensible Swiss

This week I received an e-mail from a Swiss money manager, a friend and trusted source. He informed me that
a very large and conservative Swiss bank had informed a number of their clients that they would no longer be offered paper gold or silver certificates in the bank's name. It seems the bank had previously granted the accounts because it was able to protect itself against an upside move with a derivatives contract with another financial institution. Due to the financial turmoil, the bank was no longer comfortable with the counterparty risk from the other financial institution. Instead, the Swiss bank informed its clients, all paper transactions had to be converted to physical or physical ETF positions (There are Swiss ETFs for gold and silver). My friend informed me that other Swiss banks were likely to follow this bank's lead.

My reaction: Unallocated gold certificates aren't safe.

1) Today's monetary system has been designed around paper currency (including checks and loans) and electronic money. In this system, banks promise to pay depositors on demand, because we all know that all depositors won't demand to withdraw all their assets at once.

2) In the rare occurrences that all depositors demand to withdraw all their assets at once, safeguards have been built into this system, by the FDIC and Federal Reserve, to contain and isolate such rare occurrences.

3) Bankers have behaved as if the system can apply to a metal. That is to say they have sold gold/silver certificates without having gold/silver on hand.

4) If all gold/silver certificates holders demand their metals at once, there is no Federal Reserve or FDIC that can be called upon to deliver truckloads of gold/silver.

5) Most bankers don't realize this and think a gold/silver certificate is the same as a currency-denominated certificate of deposit, but it is. Their customers give them cash upfront, and not only do these banks have full use of that cash, they do not have to pay any interest on that cash, and get this - they charge storage fees, for silver that doesn't exist.

6) Issuing and letting their gold/silver certificates remain unbacked by real metal has been an immensely profitable business for banks.

7) There is probably gold/silver behind a certificate if:

A) It spells out the serial numbers on the bars, or a specific description of the silver held (bags of coins for instance).
B) The storage function is separate and distinct from the dealer selling you the silver.
C) It's registered in your name and not the name of your dealer.

8) if you hold a certificate where the gold/silver is not described specifically, or is unallocated form, or is in a pool account, or there are no storage charges, you would be wise to assume the gold/silver doesn't exist.

9) If you own certificates unbacked by physical metal, you are betting upon the financial viability of a dealer at a time when most of the world's financial system is insolvent.

10) Illustrating the dangers of unallocated metal certificates, in 2000, the then largest silver refiner in the world, Handy and Harman Refining, suddenly went bankrupt and all silver pool owners and depositors were left in the cold.

11) Bad things are going to happen to the owners and issuers of unbacked gold/silver certificates as the price of precious metals explodes.

12) There are two different types of silver you can buy from any Swiss bank, each priced differently:

A) The first form of silver/gold certificate would be a metal account, the cheapest form of silver. There were no charges (fees or storage) in a metal account, just cash payment for the agreed upon price at time of purchase.
There was also no real metal backing whatsoever, just a private agreement between the bank and the cl ient.
B) The other form of silver/gold certificate would be a deposit account, where by Swiss banking law, the metal has to be physically stored by the bank, on an ounce for ounce basis.

13) In September 2008, a very large and conservative Swiss bank informed a number of their clients that they would no longer be offering paper gold or silver certificates in the bank's name.

14) The bank had been buying derivatives contracts (ie: gold futures) to hedge itself against unallocated gold owed to clients. However, due to the financial turmoil, the bank was no longer comfortable with the counterparty risk of these derivatives contract.

15) the Swiss bank informed its clients, all paper transactions had to be converted to physical or physical ETF positions

16) Other Swiss banks have likely followed this bank's lead.

Conclusions:

1) If it was the practice of conservative Swiss banks to sell gold certificates offset by gold derivatives (futures), then it can be assumed to also be the practice for most the world's banks.
2) Although Swiss banks have stopped selling unallocated gold/silver, most other banks haven't.
3) To shift their clients out of paper gold/silver and into physical metals, Swiss banks have been selling COMEX gold/silver futures and buying the physical metal instead.
4) As other banks follow the Swiss's lead, the risks of default at the COMEX increases.

Unallocated gold/certificates are basically uninsured gold deposits, and owning uninsured gold deposits at a time where the global financial system is insolvent is not a good bet.

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11 Responses to Avoid Unallocated Gold Certificates

  1. andy says:

    Just direct me to the website where i can enjoy the safest gold ownership.

  2. Anonymous says:

    Andy, How about please and thank you - a donation to the blog? - Eric has done a huge amount of free reseach for us all. I for one am very appreciative of all his work.

  3. andy says:

    Have you donated to the blog? I feel like I have contributed to this site by submitting articles and commentary on other articles. I'm not sure there's even a link to donate... Plus there are plenty of adds on the website which I am sure compensate the writer. I have been researching the best ways to own gold myself and the only conclusion I have come to is to buy it, store it in your own house, and insure it. I have been looking for a safer ways. And an anonymous post is for cowards.

  4. SteveR says:

    To make a donation, click on the "Support Market Skepticism" button at the top of the screen.

  5. Shane says:

    Can you comment on Investment Rarities? They offer a silver storage program which sounds good?

  6. Troy says:

    I think Eric is spot on (as usual.) It isn't a stretch to beleive that the leverage exploited in bank lending has been exploited for unallocated certificates as well. Don't know the quantity but it is scary to think that there could be 10% more certs than actual gold. What if it is much more?

  7. Numonic says:

    Eric I have 2 important questions I'd like you to please answer:

    1. being that paper gold is in backwardation, doesn't that mean that this rally in paper gold will be short lived?

    2.What will be the difference with paper gold/silver crashing now VS the crash paper gold /silver had last fall? What I mean is what effect will paper gold/silver crashing now have on physical silver/gold.

    I know last fall when the price of paper gold/silver dropped, the physical metals held high premiums. Although the physical metals price dropped some, it maintained record premiums for the metals. So is that what will happen now when the paper price of gold/silver crashes?

    Is the paper price of gold/silver even important since it's the paper price and will crash, not reflecting the price of physical gold/silver which will be rising.

    In summary it would be nice if you compared this rally in gold to the rally we had last March and explain the difference also taking in to consideration the backwardation and what it means for the physical gold.

    Like for 1. why wasn't there backwardation before the gold price collapsed last fall? Why is this the first (or one of the few times in history I'm reading) that gold is in backwardation. I know what backwardation means but gold has taken dips before with out backwardation preceding it. Maybe those dips were because of govt. supression and backwardation doesn't take in to account govt. suppression since most investing in paper gold don't know of the govt. supression of it otherwise they wouldn't be investing in it. So maybe this backwardation is measured by the investores as this will be the first (or one of the few times) invesotrs tried to stay away from gold. Is this backwardation saying that the next dip in prices won't be because of govt. suppression but because investors/people will be staying away from paper gold? Maybe that's it, what do you think, Eric.

    Now that I think about it I don't know much about gold backwardation, all I know is that it means the price of paper gold will drop and it will be due to people getting out and staying away from paper gold.

  8. coward says:

    just figured ou how to put in name. guess iam just lazy
    9dont like to use caps button either0.

    i think when default risks rise you should get as close to your gold as possible.

    hierarchy should be
    a. hell in a hand basket=on your person 100 percent.
    b.deposit box
    d.gold money online account
    e.allocated bullion from perth
    mint OR others.
    F. gld or others

    now a fair conversation is a risk of default versus a safety from theft,fire,government confiscation and cost of storage argument. also many own 401ks restricted to mutual funds only. how do u get exposure to pm from those?

    i think investing in allocations of various types of holdings in particular percentages provokes an interesting conversation. for instance. should i hold physical gold? how many months worth? should i have an allocation of silver for small daily purchases?
    should i have coins versus bullion? will i incure tax liabilities if i hold paper?

    i think all these are interesting questions, relevant questions and i invite debate.

  9. Anonymous says:

    can you tell me about tracking gold. I was told you could cash it in for ant currancy.Since they don't deliver gold to you door

    Thank You

  10. Anonymous says:

    Ifound a web-site. Go to goldbroker.com enter blanchard. You can buy gold or rare coins there. Usually rare coins increase more than just gold coins & bars. Only invest 5 or 10 % of your portfolio. Also you should buy some other currancy such as the euro or swiss franks etc.They say gold should go to 2000 an ounce.

  11. Anonymous says:

    They do deliver gold to your door via the us mail. Go to swiss americia.com. Great company. The ceo has been on cnn msnbc & others
    Tracking gold ets. You can cash them in for any currency. However gold coins you can hold in your hands. You should have both for a hedge.

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