204 (04.11.18)


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STOCKS & M&A

Fizz-Pop-Bang: Inside the World Gold Council

As fireworks go off across India this week to mark the beginning of gold-buying season, US stocks and the dollar are enjoying a record run. But if the good times stop, four gold companies (“B.A.N.G.”) are waiting

 

On the edge of a beaver park in the Nevada desert, dented trucks owned by mining giant Barrick wind their way around Goldstrike, one of the world’s largest gold operations. Each truck is carrying 400 tonnes of rock containing roughly 25 ounces of gold, and for every ounce mined, roughly 10 cents will be paid to the World Gold Council, an industry association that sits somewhere between the private sector and central banks.
Almost all the world's biggest gold producers are founding members and the fees add-up to a royalty on the industry’s most valuable gold assets, from Agnico Eagle's mines in the Arctic Circle to the Super Pit in Western Australia.
For investors, and with gold having flatlined at $1,200 per ounce for five years, there is “one elephant in the room”, says a London-based fund manager who holds 10 per cent of his portfolio in precious metals. The World Gold Council has an “envy of riches” and a royalty stream running into the tens of millions of dollars. “If their job is to build and sustain interest in the gold price, I am not convinced they should get a bonus this year. Recent weakness seems rather odd to us.”
So who is the World Gold Council? And whose interests is it ultimately serving? “They should be promoting gold, they should be creating new markets for gold,” says bullion broker Ross Norman, chief executive of London-based Sharps Pixley. “I've been in the market for 35 years and I haven't got a clue what they do to be honest with you.”

The gold price has been 'fixed' for as long as anyone can remember. In 1919, five gold dealers agreed to start meeting in the London office of Rothschilds Bank, which chair the meetings and would propose a price. Each bank responded by saying how many ounces they would buy or sell at that level, lowering a miniature flag when they were happy to trade. “We have a price and we're fixed.”
The system was opaque and open to spoofing (banks could pose as buyers, edging up the price, before flipping to the other side of the trade), but it brought the biggest players around one table, creating a centralised market. Gold companies sold into the fix via forward sales, whilst the Governor of the Bank of England, Sir Brien Cokayne, passed orders via the chairman to avoid “unnecessary movements”, according to internal papers. When central banks clubbed together fifty years later to form the so-called Gold Pool in the 1960s, they had a remarkably similar objective: to hold gold steady at $35 per ounce, selling when prices spiked to “avoid unnecessary and disturbing fluctuations.”
Despite bank fines and rigging scandals, the ‘gold fix’ continues to the present day. Telephones were introduced in the 1930s and it is now done online. But mining companies lost their seat at the table when the industry stopped hedging, so in 1987, they founded their own forum, the World Gold Council.
Its first major move was on India’s gold market. Having won independence from Britain, India had nationalised its biggest industries, from banking and coal to Air India. Its government was bureaucratic, trade tariffs were high and the economy was reliant on oil imports. When Iraq invaded Kuwait in 1990, oil prices doubled, India's debt hit $72bn, money flowed out of the country and it turned to the World Bank. In return for foreign currency, India's gold reserves were flown to London and as reforms were rolled-out in Delhi, the World Gold Council opened an office in the financial capital Mumbai.
India was going to buy back its gold reserves many times over. Between 1991 and 2010, successive governments set about loosening controls on the market, lowering import tariffs and more than doubling the number of banks authorised to deal in bullion. Even India's post office started advertising gold coins. “We did a lot of lobbying,” says John Reade, chief market strategist at the World Gold Council, sitting in its boardroom in London overlooking the dome of St Paul’s Cathedral.
India's gold imports boomed, going through 1,000 tonnes per annum. By 2010, the country was flying in more gold every month than it had lost during its bailout crisis. But as imports escalated, India’s trade was again tipped off-balance: currency reserves plummeted and between January 2012 and August 2013 the government ratcheted-up tariffs to 10 per cent to try and stop the flow of imports.
The situation had begun to “spiral out of control”, says the World Gold Council, though Reade rebuts the idea that it has been too effective in opening-up India and says his team is “constantly” working on new initiatives, from jewellery hallmarking to a new government-backed exchange. “Oil has always been a bigger component of

imports than gold. Under Prime Minister Modi, we actually are getting very good traction. They come to us for suggestions.”
But mining companies were also looking at other markets: in 1999, within weeks of China being allowed to join the World Trade Organization, the World Gold Council began bashing-out white papers for the government in Beijing. A ban on citizens owning gold was lifted and the People's Bank of China launched a gold exchange in Shanghai.
“We were pushing on an open door,” Reade says. The government followed the World Gold Council's proposals “pretty much to the letter.” Based on physical volumes traded, Shanghai is already the world's largest precious metals exchange, whilst China is the biggest market. “Long may it continue to be so.”
China’s emergence has “transformed” demand, agrees Ross Norman. “Now they are the key player.”

One agreement the World Gold Council is less comfortable discussing is the Central Bank Gold Agreement (or “C.B.G.A.”). Negotiated behind closed doors and announced on the sidelines of an IMF conference in Washington, it was a pledge by central banks to limit gold sales at the bottom of the market in the late 1990s.
The ECB put out a short statement saying signatories including Britain and France would not sell more than 400 tonnes per annum over the next five years, putting a floor under prices. Gold jumped on the day of the news and has rocketed in the years since, rising from $252 to $1,900 per ounce in little over a decade.
In any other market, co-ordinated trading by the largest players is seen as collusion. The agreement “stretches the borders of antitrust legislation”, critics argue, and is of “doubtful legality.” It was “a highly unusual” move, even according to insiders at the World Gold Council involved in negotiations at the time.
But when it comes to stage-managing prices, stability trumps the niceties of a free-market: the agreement has been tweaked and extended every five years since and is coming up for renewal in 2019. Reade refuses to be drawn on the details. “Put it this way, it's under consideration. I don't think central banks would appreciate being described as a cartel.”

In March 2003, with gold imports into India and China rising and with prices at $302 per ounce, the World Gold Council teamed-up with a former mining director who launched the world's first gold ETF on the Australian stock exchange. Any money invested was used to buy bullion, giving investors “a new, easy, and cost effective” way to invest in precious metals.
A follow-up product was launched in the US under the ticker “GLD”, sucking in $1bn in three trading days. The World Gold Council had helped kickstart a new asset class: there are now more than 80 gold ETFs, holding more precious metals than many central banks.
Instead of collecting coins, investors could bulk-up on gold via their securities account, promoting the idea (once championed by Swiss private banks) that bullion should account for 10 per cent of every investment portfolio. That compares to around 1 per cent currently. Edging the figure up to 2 per cent would suck an extra $1.5 trillion into the global gold market.

What next for the World Gold Council? And where next for gold?
Reade has his eyes on Russia. Under pressure from US sanctions, Moscow bought 26 tonnes in July, lifting its gold reserves to a new record. If the government also dropped its 18 per cent tax on precious metals, Reade argues, wealthy Russian investors looking to protect their money could buy bullion instead of shifting assets to London. “We think we can stimulate a domestic investment market in Russia.”
Fireworks are meanwhile due to go off across India this week to mark the Diwali festival and the beginning of India's gold-buying season. Its gold-loving citizens now hold an estimated 25,000 tonnes, or three times more than the US Federal Reserve, though imports are expected to fall flat this year, due to the strength of the US dollar.
Two years into Donald Trump's volatile presidency and the greenback has fizzed to a record high against emerging market currencies, including India’s rupee and the Russian rouble. Tax cuts and tech stocks have pushed Wall Street to record levels, whilst US consumer confidence is frothier than at any point since the top of the dotcom bubble.
Gold mining shares have been left behind, halving over the last decade, but when bubbles “pop”, and when investors have been buying into a “fantasy”, says Toronto-based fund manager Warren Irwin, they often turn to oil, mining and

hard assets because they want to own something “tangible” and “real.”
According to gold investor Pierre Lassonde, who founded royalty group Franco-Nevada and chaired the World Gold Council until 2009, the best way to measure the future value of gold mining companies is by multiplying their gold reserves by their profit margin per ounce. On that basis and the four largest mine operators in the World Gold Council (Barrick, Agnico, Newmont and Goldcorp) should be worth over $80bn, versus their current combined market cap of $48bn.
Of the so-called “B.A.N.G.” stocks, Newmont and Agnico are trading almost exactly where Lassonde's indicator says they should be. But Barrick and Goldcorp, which have gold reserves of over 50 million ounces apiece and profit margins of over $400 per ounce, would be worth more than double their current levels. Gold mining stocks are so bombed-out, and their underlying cash flow so attractive, they may as well go private, one Denver-based chief executive recently quipped. “We would not be surprised.”
“With perfect hindsight, you probably shouldn't have had gold in your portfolio in the last few years,” says John Reade. “You should have just had four large tech stocks in the US.” But with perfect foresight, it could well be the other way round. “Gold's a portfolio diversifier, and diversification works when you need it.”
One group of investors who have never lost sight of gold are the institutions who zealously print the world's fiat money. Central banks in Europe and the US hold $800bn of gold, whilst India and China have tripled their reserves in the last decade. When the World Gold Council invited investors to an investment summit in New York earlier this year, attendees included officials from the World Bank, the U.N. and the People's Bank of China. “I ask myself,” said former Fed chairman Dr. Alan Greenspan, “if it's a relic of some long history, why is there a trillion dollars held in gold by the world's central banks?”

Q&A


60 Seconds with: John Reade, Chief Market Strategist, World Gold Council

In the last decade we've had a financial crisis, ballooning central bank balance sheets, negative real interest rates, nuclear threats with North Korea and now a full-blown trade war; hasn’t gold been disappointing?

The biggest two factors that drive gold are the dollar and real interest rates. As we've come out of the crisis real interest rates have increased from very negative to modestly positive, and similarly we've been through a period of US dollar strength. Under those circumstances, to be frank, gold’s done pretty well.

Is the gold in Fort Knox really there, or is it all gold-plated tungsten?

I don't understand this, why would they lie? It's not actually an awful lot of money in the context of the United States. What about the strategic petroleum reserve? Is all that oil there? No-one ever questions that. As someone who spends his time looking at government balance sheet I've always taken the decision that for sensible countries, you kind of believe the auditing.

Does the World Gold Council generally aim to stay out of the spotlight?

I think by the nature of the sensitivities of central banks and sovereign wealth funds, that part of the organisation is a little less publicity-hungry than say the investment side. Anyone who's ever had any dealings with central banks or sovereign wealth funds will understand that they don't like to be quoted, they don't like to be spoken about, and it's entirely sensible that we do play a lower-key role in that area.

You seem to promote gold to large institutional investors. What about the man on the street?

It comes down to capacity. I am one of 65 full-time employees of the World Gold Council. We cannot go out to the 8 billion people in the world and spend time with them, so what we're focusing on is the top few hundred investors in the world, which are institutional by nature, have billions of dollars under management and tend to hold positions for longer. That's where we think we can get the most return on our limited available time.

Image: Norman Wilkinson || Contact: letters@globalminingobserver.com