Warnings to Avoid “Paper Gold”

Two prominent investment advisors who are bullish on gold, a California asset manager and a Swiss bank, are calling for investors to avoid “paper gold”— financial assets that are backed by bullion holdings—and purchase physical gold bullion and coins instead. 

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Purchasing “paper gold could be a huge failure in (the) entire gold-delivery system” because there is not enough of the precious metal to cover all the paper demand , Jeffrey Gundlach, CEO of Doubleline Capital, argued in a recent webcast. He reiterated the point with a tweet: “What if the ‘paper gold’ vehicles wanted to take delivery of their futures and the counter party couldn’t deliver?”  

In a bullish report on gold, Swiss private bank Union Bancaire Privee (UBP) said genuine gold is preferable to investment products based upon gold. “There is a need for caution given the proliferation of financial instruments which appear to be backed by or which mimic physical gold,” the bank’s strategists wrote. “Such synthetic substitutes may ultimately represent, in some cases, unsecured claims on the yellow metal. As a result, investors should focus on underlying physical gold to ensure the store of value role is fulfilled,” UBP concluded.

The warnings come as investors have been piling into COMEX gold futures contracts, which are agreements for the future delivery of gold, and Exchange Traded Funds (ETFs) that represent investments in gold and are backed by bullion holdings. With financial markets and financial institutions under stress, the warnings point to the possibility, small though it may be, that a counterparty may not be able to deliver actual gold at the agreed-upon date for a futures contract, or that a financial institution may not have all the actual precious metals assets to stand behind an ETF. State Street Global Advisors, a division of State Street Bank, is the marketing agent for SPDR gold shares (GLD) and the gold custodian is HSBC Bank. Consequently, the stability of both banks is important to the market for GLD. 

Moreover, GLD’s prospectus includes a warning that gold held by the Trust could be lost in transit. “Because neither the Trustee nor the Custodian oversees or monitors the activities of subcustodians who may temporarily hold the Trust’s gold bars until transported to the Custodian’s London vault, failure by the subcustodians to exercise due care in the safekeeping of the Trust’s gold bars could result in a loss to the Trust,” states the prospectus.

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