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Are gold paper markets at risk of failure?

The June 2017 Over-The-Counter options contracts expire in London at the end of next week. But, the COMEX June 2017 Gold Options contracts expire on Thursday, May 25. By the COMEX close on May 25, we should have a strong sign of just how dire are the developing shortages of physical gold.

Rising gold and silver prices over the past week or so reinforce my recent observations of tight supplies of physical precious metals. True, some of the increase can be attributed to the further decline of the U.S. Dollar Index over the past week. However, the U.S. government has been mostly able to cap rising gold and silver prices through the surreptitious actions of the U.S. Exchange Stabilization Fund, the federal government’s primary trading partners and allied central banks.

The fact of gold and silver prices rising more than 2 percent and 5 percent over the past two weeks is a sign that perhaps physical supply problems may deteriorate even worse in the near future – meaning prices could quickly jump.

To prevent that, the U.S. government has an incentive for the COMEX gold price to close on May 25 as low as possible, ideally well below $1,200. The higher the close is on that day, the greater number of call options contracts will be “in the money.” What that means is that owners of call options at contract prices below the COMEX close will be able to exercise those options, pay for their gold and take delivery at prices below the prevailing price to realize an instant profit if they choose.

If the price of gold does not retreat close to $1,200 by May 25, and especially if it then does not do so by the end of next week when the OTC options expire, there is some possibility that there will not be sufficient physical gold available to fulfill delivery obligations. If delivery defaults start occurring, they could compound and potentially lead to the crash of the COMEX and London gold markets (and maybe even silver).

The last time there were widespread delivery defaults happened with the collapse of the London Gold Pool in March 1968. Back then, a cartel of central banks tried to maintain a gold spot price of $35 per ounce under the Bretton Woods international monetary agreement. However, long before then it had become clear that the issuers of the U.S. dollar and other major currencies had so inflated their money supplies that gold was really worth more than $35.

The central bankers knew that their gold vaults would be emptied if they continued to deliver gold at $35 per ounce. So, in March 1968, with no advance warning, the central banks defaulted on the promise to deliver gold.

This time around, central banks are almost certainly in more dire straits than they were in 1968. The quantity of physical gold in their reserves is much less than they have been reporting, which I will discuss in further detail next week.

By the time you read this column on May 25 or later, it may already be too late to purchase physical gold at prices in the low $1,200s. We shall see.

Patrick A. Heller was the American Numismatic Association 2012 Harry Forman Numismatic Dealer of the Year Award winner. He was also honored by the Numismatic Literary Guild in 2016 for the Best Dealer-Published Magazine/Newspaper and for Best Radio Report. He is the communications officer of Liberty Coin Service in Lansing, Mich., and writes Liberty’s Outlook, a monthly newsletter on rare coins and precious metals subjects. Past newsletter issues can be viewed at www.libertycoinservice.com. Some of his radio commentaries titled “Things You ‘Know’ That Just Aren’t So, And Important News You Need To Know” can be heard at 8:45 a.m. Wednesday and Friday mornings on 1320-AM WILS in Lansing (which streams live and becomes part of the audio and text archives posted at www.1320wils.com).

 

This article was originally printed in Numismatic News. >> Subscribe today.

 

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