Is the New York Stock Exchange Running Out of Gold?

On 24 March 2020, the price of the physically deliverable April gold contract on the New York commodity exchange — part of the world's largest futures exchange group — suddenly surged 4% above the spot price. It appears there is not enough gold in the Comex warehouses.

A DRYING UP PHYSICAL GOLD MARKET

Gold refineries are operating at reduced capacity or closing temporarily due to the coronavirus pandemic. The supply of physical gold bars is starting to disappear from the market, as stocks previously delivered to dealers have all been purchased by investors seeking a safe haven for their money. This coincides with disruptions to air freight for valuables, meaning that even though there is sufficient gold in London, it cannot easily be transported to New York. It appears that delivery problems even more severe than those seen in autumn 2009 may soon emerge regarding the New York commodity exchange's capacity to supply physical gold. This is, after all, one of the most important bases for physically-backed, exchange-traded gold ETFs.

Although according to the exchange's official statistics only 100,000 ounces of gold were drawn down from the Delaware warehouse contracted with the exchange yesterday, the April futures price nevertheless surged unusually far above the spot price. Presumably, extremely large drawdowns were announced that the exchange was unable to confirm. This may have caused the sudden shock. According to Reuters sources, beyond the dwindling stocks, another factor may be that in such situations it is customary to source London 400-ounce bars by air and recast them into 100-ounce bars meeting exchange specifications — but neither smelting capacity nor air freight is currently available for this purpose.

Traders have approached the Comex, part of the CME Group, requesting an immediate change to exchange specifications so that gold bars held in London vaults could also be accepted as physical delivery. The LBMA, which represents London gold traders, has offered its assistance in addressing the problem, as London (for now) still has sufficient gold. However, this would require overriding the New York exchange specifications, which is not a routine procedure that can be done overnight. In any case, by today the situation has calmed somewhat, as the April futures price was only 1-2% above the spot price.

For those speculating on gold via various FX platforms, there is also bad news: the financing cost (cost of carry) of positions held in the XAUUSD product has suddenly become extremely expensive, rising from the previous 2% to as much as 6-7%. In addition, due to increased volatility, many have raised margin requirements by approximately 50%. The cost of longer-term physical gold storage, at just under 1% per annum, now looks genuinely cheap compared to the cost of carrying positions embedded in exchange futures prices.

Meanwhile, the Austrian and German physical gold markets have also dried up completely, with Austrian wholesalers and banks having entirely exhausted their gold stocks. Germany's largest online gold dealers have raised their physical gold prices by more than 10%, yet stocks are barely available, and further premium increases are expected.

WHAT TO EXPECT?

The global peak of the coronavirus pandemic is still ahead of us, meaning it could take weeks or even months before refineries and trade resume. If the flight to safety into gold — the only reliable haven — continues, the London market may soon face the same fate: gold owners will only be willing to part with their holdings at prices significantly higher than today, meaning a price jump cannot be ruled out.