/ 6 March 2014

Banks bear brunt of gold-fix blame

Inside information favours those setting the gold price.
Inside information favours those setting the gold price.

Evidence emerging in the United Kingdom about the possible manipulation of the gold price for a decade could have major implications for South African investors and mining companies who might be able to sue for damages in terms of South African law.

The London gold fix benchmark, set by five banks twice a day, is used worldwide by mining companies, central banks and jewellers to value gold. A similar process, involving three banks, is used to value silver.

This week, a New York resident Kevin Maher lodged a case in the Southern District Court of New York seeking unspecified damages against Barclays, HSBC Holdings, Bank of Nova Scotia, Société Générale SA and Deutsche Bank, on the grounds that they worked together and manipulated the benchmark.

He has based his case on a draft study by a renowned researcher, Rosa Abrantes-Metz, that was published by Bloomberg last week and said “it as likely that co-operation between participants had been occurring”.

Her work is supported by research by Dimitri Speck, a commodity analyst.

Abrantes-Metz, a professor at the New York Stern School of Business, is credited with helping to expose the London interbank offered rate (Libor) scandal. Her 2008 paper uncovered the rigging of the rate, which led to Barclays and UBS being fined about $6-billion.

Stanlib's Kobus Nell said there had been rumours for many years about the possible manipulation of the gold price but this is the first time that a study has been conducted by someone of her calibre.

Collusion
In terms of the Competition Act, criminal or civil action can be taken against any company found guilty of collusion or price fixing, provided the activity took place in South Africa. That means any buying or selling in South Africa based on the gold fix price and undertaken with or by one of the five banks is covered by the Act.

ENS attorney Theuns Steyn, who specialises in the mining sector, said this could have "huge" implications. "If trade is here and the branches of the banks are here, it could be possible to prove jurisdiction," he said. "The difficult part would be proving and quantifying damages."

The fix is calculated twice a day via a phone conference at 10.30am and 3pm London time. The banks declare how many bars of gold they want to buy or sell at the current spot price, based on orders from their clients and themselves. The price is increased or reduced until the buy and sell amounts are within 50 bars of each other, at which point the fix is set.

An issue for many is that the bank traders can communicate with their clients and each other during the process. Traders can tell clients about shifts in supply and demand and take fresh orders during their conference call, and can buy or sell as the price changes, according to the website of London Gold Market Fixing. And the process is unregulated.

The Libor is seen as the most important benchmark for setting short-term interest rates and, since 2000, has been calculated in 10 currencies. It was revealed in 2012, after an investigation, that some banks were falsely inflating or deflating their rates in order to profit from trades.

The Libor is a central cog in global financial markets against which financial products worth about $450-trillion are pegged.

Allegations about the rigging of the gold price, like those about the Libor, have been circulating for some time, although some analysts believe rigging would not have a big influence on the market because of the wide varieties of gold trading, from spot trading to gold exchange funds.

'Controlled'
Abrantes-Metz said in an 2013 Bloomberg article that, like the Libor manipulation, the gold fix is "controlled by a handful of firms with a direct financial interest in where it is set and there is virtually no oversight – it's based on information exchanged among them[selves]".

Nell said: "Gold is not a small market and there are tonnes being bought and sold every day, but it is possible that, over time, manipulation by the banks would have an impact.

"Of course, the problem is, with all the other information emerging about the banks, it does raise the question, if they could get involved in currency rigging was it possible that other collusion was going on that we do not know about?"

Abrantes-Metz and some traders noticed "trading surges" after the 3pm meeting and began writing about it about two years ago.

Abrantes-Metz, when approached by the Mail & Guardian, said: "The structure of the benchmark is certainly conducive to collusion and manipulation and the empirical data are consistent with price artificiality."

Her research, conducted with Albert Metz, the managing director of Moody’s Investor Service, found there were frequent spikes in the gold price from 2004 after the 3pm. The study has been looking at the market from 2001.

But the large price moves were overwhelmingly down. For example, in 2010, large moves during the fix were negative 92% of the time.

She said, in the end, it would be up to the regulators to establish why these movements began in 2004 and why prices tended to be downwards.

In January this year, Deutsche Bank announced that it was pulling out of the process for setting gold and silver benchmarks because of a decision to scale back its commodities business. But it emerged this week that it might have hired a consultancy to review the bank's role in the gold fix benchmark.

There has been market speculation that Standard Bank would be a good candidate to replace Deutsche Bank, particularly since it is selling its United Kingdom-based markets division to the Industrial and Commercial Bank of China and China last year became the biggest consumer of gold.

In reply to questions posed by the M&G, Deutsche Bank said: "Deutsche Bank is withdrawing its participation in the gold and silver benchmark setting process following the significant scaling back of our commodities business. We remain fully committed to our precious metals business."

Researchers identify suspect trading patterns
Researcher Rosa Abrantes-Metz says that when it comes to the gold fix, "one needn't look to far for a motive. The participating banks all stand to gain both from using the privileged knowledge they glean during the fixing process and from influencing the fixing itself," she told Bloomberg last year.

Research by commodity analyst Dimitri Speck found that gold prices tend to drop sharply in the London afternoon fixing, with a less pronounced drop in London morning fixes. It also drops during the trading session of the Commodity Exchange (Comex) in New York.

Research by economist Paul Craig Roberts and analyst Dave Kranzler found that, in times of financial crisis, the price of gold is manipulated by central banks to calm or manipulate markets.

They said that the United States Federal Reserve has a vested interest in influencing the gold price, actively keeping it low. "When gold hit $1 900 per ounce in 2011, the Federal Reserve realised that $2 000 an ounce would have a psychological impact that would spread into the dollar's exchange rate with other currencies, resulting in a run on the dollar as both foreign and domestic holders sold dollars to avoid the fall in value."

They said the Fed began using "bullion banks as its agents to sell naked gold shorts in the New York Commodity Exchange [Comex] future market".

"Short selling drives down the price, triggers stop-loss orders and margin calls, and scares participants out of gold trusts. The bullion banks purchase the deserted shares and present them to the trusts for redemption in bullion."

He said the bullion could then be sold in the London physical gold market.

But Ross Norman, the owner of bullion brokers Sharps Pixley, believes that the large moves in price at the time of the fixings is because large selling and buying orders collide, and that there is more activity at 3pm because that is when the US market opens.