What we can learn about gold & silver from the report published by ...

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The South Carolina Treasurer?s Office, acting upon a directive from the?state legislature,?has recently published a report on the advisability of investing in gold and silver. Basically, the state legislature wanted to know if it?s wise to invest public funds under it?s custody in gold & silver.

?Here?s what the Treasurer?s Office has to say about itself:

Our mission is to serve the citizens of South Carolina by providing the most efficient banking, investment and financial management service for South Carolina State Government. Our commitment is to safeguard our State?s financial resources and to maximize return on our State?s investments.

This is a tall order, hence we can assume that the report must be well researched and credible. ?It concluded that it is not advisable to invest public funds in gold & silver because:-

1. There?s escalating market speculation
2. Current value (I think they mean price) is too high
3. Market possibly in a bubble
4. South Carolina Code of Laws?states that the Treasurer has ??full power to invest? in ?debt instruments of the US government and corporations, but makes no mention of investments in derivatives of gold & silver. Hence investing in gold & silver derivatives may ?create a legal conflict?

While the timestamp of the document was 27 Feb 2012, it can be assumed that the report was prepared soon after the end of September 23, 2011 due to this inclusion. From the perspective of a short term investment, that was a pretty good call, considering the fact that gold and silver have been taken down to $1624 and $31.40 respectively as I write.

However, this piece is not about how good the Treasurer?s Office was at making an investment call based on price. Neither is it about whether gold & silver is in a bubble. These conclusions (2) & (3) are opinions of the Treasurer?s Office, which are subjective. Of greater interest are the facts revealed in the body of the report.

Regular readers of this blog would have noticed that there are several key issues that are repeatedly discussed or highlighted here (through news feeds or third party contributions). They include:-

1. Gold & silver prices are being suppressed
2. Central Banks & major bullion banks are suppressing their prices
3. Naked?short selling is one of the price suppression mechanism
4. Bullion Banks and exchanges practice fractional reserve bullion banking
5. Stay out of gold or silver bank accounts, ETFs, Certificates,?and all forms of derivatives
6. The safest way to own gold & silver is to hold physical gold & silver

Items (1) to (4) are often disputed by the mainstream media and investors, sometimes referring to them as conspiracy theories. Hence, it is most interesting to see what this government published report has to say about these 6 issues.

Price Suppression is Real

In one short paragraph, this report confirms in no uncertain terms the truth behind the so called ?conspiracy theories?. Not only does it confirm the existence of price suppression, it discloses the WHOs and the HOWs!

Risks of holding gold through ETFs, Certificates, Bank Accounts & other Derivatives

It has been repeatedly emphasized here that the only secure means of owning gold & silver is by holding physical coins and bars in your own possession or stored in a private vault outside the banking system. Anything else is a derivative ? a paper or electronic representation of the real thing.

This report explains the nature of these derivatives and lists the risks associated with each, together with reasons why the Treasury?s Office advised against investing in them.

The full report in pdf?is available for download at the South Carolina Treasurer?s website. Text from relevant sections is reproduced below with comments related to the 6 items above highlighted. Most of the remarks are self explanatory. There are, however, two groups of comments that warrant some discussion.

1. Allocated & Unallocated Accounts

Ways to Invest: Certificates
Unallocated gold certi?cates are a form of fractional reserve banking and do not guarantee an equal exchange for metal in the event of a run on the bank?s gold on deposit. Allocated gold certificates should be correlated with speci?c numbered bars, however it is difficult to prove whether a bank is improperly allocating a single bar to more than one investor.

Ways to Invest: Accounts
One of the most important differences between accounts is whether the gold is held on an allocated or unallocated basis. Another major difference is the strength of the account holder?s claim on the gold, in the event that the account administrator faces gold-denominated liabilities, asset forfeiture, or bankruptcy.

The above describes two products offered by banks to clients who want to invest in gold (or silver) without having to deal with the physical metals. For example, when a bank accepts $2,000 from a customer and issues a gold certificate or credits the customer?s gold account under the unallocated system, the bank is not obliged to buy and store 1.2 oz (at current price) of gold on behalf of the customer. It holds only a tiny portion of that amount in gold. Hence when many of its the customers decide to redeem their certificates at the same time, the bank will not have sufficient gold to deliver. This is what?s referred to as a ?run on the bank?s gold on deposit?. The same applies when depositing cash in your bank. The practice of keeping only a tiny fraction of what?s rightfully belonging to the customers (gold or cash) is referred to as fractional reserve banking.

When selling allocated gold products, the bank is legally required to hold 100% of the customers deposit in physical metal. For example, if a customer deposits sufficient cash to own a 400 oz gold bar and is assigned a bar bearing serial No:?AGR Matthey 156571, how can one be sure that the same bar or a portion thereof is not assigned to another customer at the same time? That?s the issue raised by the report ? and the risk is?real.

This brings us back to ?the only secure means of owning gold & silver is by holding physical coins and bars in your own possession or stored in a private vault?outside the banking system?. If you have to use a third party to store your metals, use specialized private vaults instead, because banks operate on a fractional reserve banking system.

There are many companies outside the banking system that offer secure vaulting services. Generally, they have very high transparency, including publishing audited client holdings on the web for public scrutiny (without any login required). Of course clients? ID are?anonymous, and known only to the operator and the client.

Try these links:
GoldMoney bar list?and?BullionVault client holdings. Their reviews can be found here.

Learn more about private vaulting services, including issues like ownership, custody, bailment, counter-party risks, and performance risks.?

2. Reason for not investing in physical gold & silver

The report listed 5 ways to invest in gold & silver ? ETPs, Certificates, Accounts, Derivatives and physical coins & bars. Notice how it highlights & explains all the risks associated with ETPs, Certificates, Accounts and Derivatives and the reasons why it is not advisable for the Treasury to invest in these.

Notice also that there are NO risk associated with physical metals. The only reason given for not investing in coins and bars is ?South Carolina does not have the capacity to store or funding to secure gold and silver bullion?.

What a lame excuse! Do they not know that in April last year, ?The University of Texas Investment Management Co., the second-largest U.S. academic endowment, took delivery of almost $1 billion in gold bullion??

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Proviso 89.145 GP:
Gold & Silver Investments
Office of State Treasurer

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GOLD AND SILVER AS AN INVESTMENT:
Historically, investors have purchased gold as a hedge against an economic, a political, or a currency crisis. A decline in investment markets, a growing national debt, a weak currency, increasing inflation, military conflicts and social unrest are the most common reasons for investment in gold. Currently, gold and silver are at historic highs leading many expert investors to conclude that a bubble has been created in the precious metals market. Since the US recession began, the value of gold and silver has increased as investment markets perform poorly, troublesome economic news is announced, and when uncertainty in international markets intensifies.

Similar to other commodities, the value of gold and silver is determined by supply and demand, as well as speculation. The Federal Reserve, The London Bullion Market Association, JP Morgan Chase, and HSBC Holdings have practiced fractional-reserve banking and engaged in naked short selling causing arti?cial price suppression.

There are several ways to invest in gold and silver: bars, coins, ETP?s, certificates, accounts, and derivatives. If a state were to choose to invest in gold (and silver), it would likely choose to invest by:

1. ETP?s-Exchange Traded Products. This allows the stakeholder to invest in bullion without having to store bars and coins. The ?rst gold ETF (Exchange Traded Fund) was created in 2003 and has been viewed largely as a success, but has also been compared to investing in mortgagebacked securities. The annual expenses of the fund (storage, insurance, and management fees) are charged by selling a small amount of gold represented by each certificate, so the amount of gold in each certificate will gradually decline over time. ETF?s are investment companies that are legally classified as open-end companies or Unit Investment Trusts (UIT), but differ from traditional open-end companies and U]T?s. The main differences are that ETF?s do not sell directly to investors and they issue their shares in what are called Creation Units. Also, the Creation Units may not be purchased with cash but a basket of securities that mirrors the ETF?s portfolio. The?Usually, the Creation Units are split up and re-sold on a secondary market.

2. Certificates- allow investors to avoid the risks and costs associated with the transfer and storage of bullion by taking on a set of risks and costs associated with the certificate itself. Banks may issue gold certificates for gold which is allocated (non-fungible) or unallocated (fungible). Unallocated gold certi?cates are a form of fractional reserve banking and do not guarantee an equal exchange for metal in the event of a run on the bank?s gold on deposit. Allocated gold certificates should be correlated with speci?c numbered bars, however it is difficult to prove whether a bank is improperly allocating a single bar to more than one investor. The US ?rst authorized the use of gold certificates in 1863. By the early l930?s the US placed restrictions on private gold ownership and therefore, the gold certificates stopped circulating as money, but certificates are still issued by gold pool programs for investment purposes.

3. Accounts- Many banks offer gold accounts where gold can be instantly bought or sold just like?any foreign currency on a fractional reserve (non-allocated, fungible) basis. Pool accounts, facilitate highly liquid, but unallocated claims on gold owned by the company. Digital gold currency systems operate like pool accounts and additionally allow the direct transfer of fungible gold between members of the service. Different accounts impose varying types of intermediation between the client and their gold. One of the most important differences between accounts is whether the gold is held on an allocated or unallocated basis. Another major difference is the strength of the account holder?s claim on the gold, in the event that the account administrator faces gold-denominated liabilities, asset forfeiture, or bankruptcy.

4. Derivatives- The product symbol for gold futures is GC, and it is traded in a standard contract
size of 100 troy ounces. In the US, gold futures are primarily traded on the New York Commodities Exchange (COMEX). As of 2009 holders of COMEX gold futures have experienced problems taking delivery of their metal. Along with chronic delivery delays, some investors have received delivery of bars not matching their contract in serial number and weight. Because of these problems, there are concerns that COMEX may not have the gold inventory to back its existing warehouse receipts.

ADVISABILITY:
There is no statute preventing the State from investing in gold and silver. The various methods of investment in gold and silver each carry different and often significant risks, the foremost being speculation. As the US has experienced the recent bursts in the housing and tech bubbles, it is important to take caution when contemplating an unconventional investment. Taxpayer money (state funds and state pension) across the US has not typically been used to invest in gold or silver bullion.

Recently, with the uncertainty in global markets, the devaluation of the dollar, rising inflation, and a flat US economy, there has been a renewed interest in either moving back to a gold standard, investing in gold or both. The value of gold and silver has significantly increased in the last decade, meaning it would cost a great deal to invest at this time.

Risks:
1. Bars and coins- South Carolina does not have the capacity to store or funding to secure gold and silver bullion. For these reasons the State Treasurer?s Office does not advise investing in gold and silver bars and coins.

2. ETP?s- The armual expenses and costs associated with this type of investment are high. In recent years there have been issues surrounding gold ETP?s. The purchase price provides the investor with a fluctuating amount (in weight) of the metal. Over time, as value increases and more investors participate in the fund, the amount of metal owner by the investor decreases. ETP?s can also be split and sold on the secondary market. For these reasons the State Treasurer?s Of?ce does not advise investing in ETP?s for gold and silver.

3. Certificates- Certificates for allocated gold present an accountability problem. Allocated gold certificates are supposed to be correlated with speci?c numbered bars; however, it is difficult to verify whether a bank is improperly allocating a single bar to more than one investor. Also, unallocated gold certificates are a form of fractional reserve banking and do not guarantee an equal exchange for metal in the event of a run on the bank?s gold on deposit. This is in conflict with S.C. Code of Laws 1976 SECTION 11-9-660. For these reasons, the State Treasurer?s Office cannot advise investing in gold and silver certificates.

4. Accounts- Similar to the risks associated with gold and silver certificates, allocated and unallocated metals held in accounts produce similar accountability problems. The strength of the account holder?s claim on metals is subject to the account administrators liabilities, assets, and/or solvency. Per S.C. Code of Laws 1976 SECTION 11-9-660, the State Treasurer?s Office cannot advise investing in gold and silver accounts.

5. Derivatives- Over the last three years, gold futures traded on the New York Commodities Exchange (COMEX) have encountered significant accountability problems. Holders of COMEX gold ?ltures have frequently experienced delivery delays of their metals. Once delivered, there have been many reports of inaccurate weights and serial numbers on bars that do not match the holder?s contract. For these reasons the State Treasurer?s Office does not advise investing in gold and silver derivatives.

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Gold: April 2012

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Having read the above, it may now be easier to make sense of the sharp price decline for both gold & silver over the past 2 days. Lets now ask some questions. Was the price action due to:

• Market forces or Price Suppression in action?
• Falling Demand or Naked Short Selling?
• Human Traders or High Frequency Traders (HFTs)?

Historically, investors have purchased gold as a hedge against an economic, a political, or a currency crisis. A decline in investment markets, a growing national debt, a weak currency, increasing inflation, military conflicts and social unrest are the most common reasons for investment in gold

Have any of the issues above that formed the rationale for purchasing gold (and silver) been resolved?

Recently, with the?uncertainty in global markets, the devaluation of the dollar, rising inflation, and a flat US economy, there has been a renewed interest in either moving back to a gold standard, investing in gold or both.

The?mainstream?media attributed this week?s sharp price decline to ?improving economy, low inflation and no imminent QE announcements following the release of the latest FOMC meeting minutes. Given that the above statement was published just 5 weeks before the FOMC minutes, who is lying?

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Developing Stories

6 Apr:?

Further Reading:

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