Going Long: Finding Elusive Gold in This Market

Source: Casey Research††(1/23/09)

. . . gold is still 15% off its peak, at least in U.S. dollars. Yet at the same time, the metal is cruising at or near all-time highs against a host of other currencies, including the Swiss franc, British pound, Canadian dollar, Australian dollar, and Indian rupee. . . Demand for gold coins in particular is running so high that there were severe shortages in 2008. . . the metalís bull market is far from over. Yet taking advantage of the trend becomes problematic if you canít get what you want.


At this writing, gold is still 15% off its peak, at least in U.S. dollars. Yet at the same time, the metal is cruising at or near all-time highs against a host of other currencies, including the Swiss franc, British pound, Canadian dollar, Australian dollar, and Indian rupee.

That currency disparity means buyers around the world are prepared to pay much more for gold, relative to their own currencies, than is reflected in the New York spot market, which prices gold in dollars.

Demand for gold coins in particular is running so high that there were severe shortages in 2008. Dealersí shelves emptied, mints either rationed their output or stopped producing entirely, and premiums over the spot price rose dramatically. All of which implies that the metalís bull market is far from over. Yet taking advantage of the trend becomes problematic if you canít get what you want.

Sure, you can buy as much paper gold as you like, through the SPDR Gold Trust ETF (NYSE.GLD), which is bullion-backed and will be sensitive to an advancing price. But what if you simply want physical metal and want it in quantity Ė say, a hundred ounces?

Well, you could buy 100 coins. If you could find them. Or you could buy a single 100-ounce bar.

Take heed: if you are buying in 100-ounce, 400-ounce or 1-kilo sizes, you want a good delivery bar, one that carries a hallmark from a recognized refiner. And buy only from a source you have a good reason to trust. The gold trade has been replete with con artists since ancient metalworkers began hammering on the shiny stuff and found they could increase their profit margins by adding in a little silver, copper, or even lead. With 100 ounces going for upwards of US$85,000, caution is in order.

Once youíre ready to commit to a 100-ounce buy, the next logical question is: Is there any way to avoid the big premiums and acquire what you want at spot? The answer, fortunately, is yes. You can elect to play with the big boys and get your 100-ounce bar on the COMEX, where the bullion banks and giant funds do their trading.

Playiní the COMEX

The COMEX is primarily a paper market, with speculators going long or short on contracts for future delivery. 99.9% of those contracts get settled in cash and are closed out before the delivery date arrives, with participants pocketing profits or taking their lumps. Very little physical gold changes hands through COMEX trading.

But some does, because every participant who goes long has the right to pay in full and insist on actual delivery. And every participant who goes short has the right to deliver the goods and get paid. Those trades represent the other 0.1% of the contracts.

The Casey COMEX User's Manual

First, get a little more acquainted with the topic. Log on to the COMEX gold section at (http://www.nymex.com/gol_pre_agree.aspx) and have a look around.

Pay close attention to the Current Session Overview. It gives you a real-time picture of trading, with the various delivery months displayed, along with the price per ounce being bid. (With gold, the months further out nearly always have higher prices, a situation known in the commodities trade as contango. The opposite, when near-term prices exceed those down the road, is called backwardation, and for gold itís extremely rare.)

If you decide to proceed with the idea of buying on the COMEX, you have to open an account with a futures broker. To do that, youíll need to answer some questions about your financial status and then make a deposit. We spoke with an agent at Lind-Waldock in Chicago, one of the oldest and most active futures brokers, to learn about their requirements.

First, at Lind-Waldock, you must have a yearly income and net worth of at least $25,000 and $50,000, respectively; anyone who can afford a hundred ounces of gold will surely qualify. Then you must deposit a minimum of $5,000 with the broker. Finally, you choose from among several levels of service, which affects the amount of commission youíll pay.

Once the futures account is in place, youíre set to go.

Letís say the bid price three months out is $850/oz., and you like gold at that price. You call your broker and place an order at $850, for one gold contract (which represents a single 100-oz. bar of good delivery metal). As with bidding on a stock, you may not get what you want if the market is heading up and runs away from your price. The alternative is to place a market order, trusting that it gets filled at close to your target price, but that can be risky in a fast-moving market.

Let's assume you get your contract and lock up what youíll pay for the gold, most of which will be due at expiration. What next? There are two possibilities. You can just deposit the full cost of the gold, sit back, and enjoy the wait for your prize. Or you can deposit the minimum amount required (the minimum ďmarginĒ), which varies and is set at the exchangeís discretion. For a single gold contract at the moment, itís $5,800, or about 7% of the contractís value.

Thatís how the speculators play the market, putting up as little front money as possible. For you, that wonít be a problem if the price of gold rises, since the broker will be crediting a matching amount of cash to your account on a daily basis. But you have to be careful if the price of gold falls, because the broker will then charge your account for a matching amount of money day by day Ė and to keep the balance from going below the minimum margin requirement, heíll send you a margin call, insisting that you deposit more cash. If you fail to do so, the broker will enter a sale order for you, and youíll be out of the market.

Changes in the value of a futures contract, with their attendant shifting cash requirements, are of critical importance to traders who are simply playing with paper. Since youíre only interested in acquiring a physical gold bar, the fluctuations shouldnít affect you. Just make sure you have enough money in your account that youíre not inadvertently sold out.

Then, on the settlement date, your account will be charged for an amount equal to the settlement price multiplied by the exact weight of the particular bar thatís been assigned to you (a ď100-oz.Ē COMEX good delivery bar can actually vary in weight between 95 and 105 ounces). This is when everything gets squared up.

Taking Delivery

If you keep your position open until delivery, the COMEX will hand your broker a warehouse receipt with the details of your specific bar (hallmark, serial number, and weight to one-thousandth of an ounce). The broker can either hold the receipt in your account or mail it to you. (If you take possession of a warehouse receipt, be aware that itís an irreplaceable bearer instrument. Donít lose it!)

Your bar will be sitting in the vault of one of the four designated COMEX depositories, all of which are in or near New York City. If you want to bring the bar home, youíll have to pick it up at the depository or arrange for third-party delivery. If you intend to hold it until gold reaches a certain price and then sell, your best bet is probably to leave the bar in the COMEX depository and leave the receipt with your broker.

We called Scotia Mocatta, which operates one of the COMEX-designated vaults, and were quoted a storage fee of $15/month per bar. If, however, you want the bar in your hands, youíll have to pay a $150 delivery fee to get the bar released by the depository. Then youíre responsible for retrieving it, which could be a problem.

Unless you want to put the bar in your suitcase and fly home with it, youíll have to have it delivered. You canít ship a gold bar via the U.S. mail, FedEx or UPS; you have to hire an armored car service, such as Brinks.

Shipping costs depend, of course, on how far your gold will travel from the City. VIA MAT International (USA) gave us a ballpark figure of $150 to transport one gold bar from New York to California Ė a heckuva lot cheaper than airfare, and you get to keep your shoes on.

One final note: armored carriers wonít deliver to a house address. You would have to arrange to receive the shipment at a business, which could be an additional worry if neither you nor a trusted friend owns one. Or you could have it delivered to your bank and slide it into a safe deposit box, provided you donít mind the bankís employees knowing what youíre doing.

Will You Need an Assay?

If you leave your gold bar in the COMEX depository, it will be easier to sell. You just go through the above procedure in reverse, going short a contract instead of buying one.

However, if you take physical delivery and later wish to sell through the COMEX (or through a private dealer), you will need to have the bar reassayed. A prospective buyer of such a costly item must be certain that it was genuine to begin with and hasnít been tampered with while in your possession.

The COMEX provides a list of approved assayers on its website. The one we contacted, Ledoux and Co., quoted us $300 per bar for the service.

And thatís all you need to know to get gold wholesale.

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