Gold (22 page)

“It's odd, but it could be bad,” said a senior metals strategist in London, succinctly capturing the bullion market's mix of bafflement and fear.

As the speculation crackled on, it attracted the Gold Anti-Trust Action Committee (GATA), a group that believes there is a broad conspiracy to manipulate the gold price. “As always, news
of anything to do with the gold market is cloaked in secrecy, misinformation, and innuendo,” an article on GATA's website said. It called the swap a “tripartite transaction” in which a “commercial bank or banks made a swap with a central bank or banks and then the commercial bank or banks made a swap with the BIS.” I diagrammed this with little boxes and arrows, and stared at it until my head hurt. I still don't get it, but GATA and the BIS have history.

In 2000 a GATA-funded litigator sued the bank, the U.S. treasury secretary, the chairman of the Federal Reserve, and others in the U.S. District Court for Massachusetts. He accused them of “price fixing, securities fraud, and breach of fiduciary duty,” and with exceeding their lawful authority. The plaintiff was Reginald Howe, a lawyer and investor who had shares in BIS. BIS had decided to liquidate all such private holdings, and Howe alleged that the price they were offering undervalued the bank's bullion holdings as part of a deliberate plan to suppress the gold price. The government's motive in suppressing price was to conceal an indicator of the American inflation rate. Since gold was denominated in dollars, a rising gold price would reveal the true state of the dollar. Although Howe failed in his larger purposes, a European tribunal ruled that he and others had been underpaid by BIS for their shares, and ordered the bank to pay them more.

But back to the swap.
Chilled by the steady drizzle of apprehension, the gold price had fallen $80 when, at the end of the month, the
Financial Times
announced that the mystery had been solved. The swap, the paper said, had been a BIS idea all along. BIS had been looking for a way to make money out of its large dollar holdings, and suggested the gold swap to some European commercial banks that happened to want dollars. More than ten European banks
agreed to swap their gold for cash. “From time to time,” a banker said, “the BIS want[s] to optimise the return on their currency holdings.” The swaps, such sources told the
FT
, had been mutually beneficial.

Let's look at that. If the swaps had been a purely benign activity, why did it take so long to get an explanation from the BIS? When bullion goes tiptoeing through Europe to a secretive Swiss bank controlled by foreign treasury officials, it's fair to ask if there's an explanation other than business as usual. There is.

After the 2008 banking crisis, the prospect of mass bank failures prompted European regulations. The regulators set new capital requirements for commercial banks. Many of these banks were holding too many bonds of countries whose credit ratings had gone bad. To see if the commercial banks were complying with the new standards, the European Central Bank planned to conduct audits called “stress tests.”
A reasonable suspicion about the gold-for-dollars swaps, then, was that it was a subterfuge for packing cash into the European banking system to improve the balance sheets of private banks in advance of the stress tests. The commercial banks were so shaky that their own central bankers had become reluctant to deposit money with them, placing their extra funds in BIS instead, hence all the extra cash. The swap gave the international treasury establishment a way to avoid the crisis that would certainly have followed stress test failures. The only dupes would be the public . . .
and the people who actually owned the gold.
The swapped gold did not belong to the commercial banks.
The banks had borrowed it, mostly from their own customers. If their customers had asked for it, the gold would not have been there.

T
HE COMMERCIAL BANKS HAD OBTAINED
the gold from two sources. Some of it they'd borrowed from central banks. The other source, their own customers' gold, would have come from “unallocated” accounts. The gold in an unallocated account, unlike that in an allocated one, is not held separately for the owner. The bank can trade it until you ask for it back.

In the swap with BIS, the commercial banks were getting cash for other people's gold, and using the cash to look healthier than they were. This maneuvering was not illegal, but perhaps more creative than we like a bank to be. The bank had used the gold the way it used cash deposits. They “owed” the gold to the owner in the same way that all deposits are obligations. But if a bank was in such straits that the BIS seized the pledged gold, you wouldn't like the bullion owner's chances of recovering his metal. And his title might be tangled anyway.

The depositor himself might already have borrowed against the gold while keeping ownership. In such a case the gold is said to be “hypothecated”—ownership not transferred, but the asset hypothetically controlled by someone else with the right to seize it: the bank. If the bank then borrowed against this hypothecated gold by swapping it for dollars, the gold would be said to have been “rehypothecated.” The gold that was swapped for cash went off to Basel with a tail of obligations flapping out behind.

Since part of gold's allure as an investment is its supposed safe-haven function, it's fair to wonder what would happen if suddenly those who owned paper claims wanted the actual metal in their hands. In any climate of doubt about the amount of physical gold backing up paper gold, investors will think about ETFs. Do the funds have the gold they are supposed to have? If they have allocated gold, then presumably it is stacked up in its own dedicated corner of
the vault.
As long as the hoard has not been compromised by some of the new tungsten-alloy fakes making their way into the market, the investor is covered.
¹

A more realistic worry for the investor is what would happen to gold ETFs in the case of a panic. Say a free fall in the stock market prompts margin calls, and some investors decide to sell gold to cover their positions. Let's imagine that a lot of investors bailing out of gold own small pieces of the same ETF. Taken together, the small pieces are a big piece. When the investors try to redeem their stakes, there's not enough gold on hand. The ETF evaporates in a puff of insolvency. The failure sparks redemption calls on other ETFs, ones that actually do have physical gold to back up all shares. These sturdier ETFs start selling gold to meet redemptions. A cascade of bullion splashes into the market. The gold price tanks, and so do gold mine stocks. Galvanized by this collapse, the run on equities turns into a rout.

Even if you find this scenario farfetched, it's still what gold is supposed to save you from. Part of gold's investment raison d'être is just such a possibility: for peace of mind, buy gold. But gold is never peaceful. It's a fever spread by doubt. Doubt and suspicion are its pathogens. Besides jewelry and a few industrial uses, there are no other reasons to own it. If you're not suffering from the fever, you are betting that others will. Gold is inseparable from speculation about
disaster, misfeasance, or manipulation. Even when the price is high, owners suffer from the fever, because what if the price goes down?

A
T THE MORNING FIX IN
London on September 5, 2011, gold hit $1,896.50 an ounce. Propelled by a ten-year bull run, the rising price had an air of inevitability about it. The hurdle of $2,000 was suddenly right there—a cinch! For a year, analysts had been predicting gold would clear the bar. Like everyone who followed gold, I wondered how long it could continue, and how the price could be justified. By luck, I had another appointment with Peter Munk. His office had contacted me to say that he was passing through London. He wanted to talk about price, and we were to meet just as gold was pushing up against $2,000.

A gale was chewing its way through southern England as I got a taxi and went down to Mayfair. In Park Lane the wind was blowing out umbrellas and thrashing people's coats against their legs. As we passed the Dorchester Hotel, a geranium with a clod of earth still clutched in its roots sailed into the traffic and exploded on a car. In the Four Seasons lobby, women were stealing glances at each other's hair and shaking water from their shoes. Promptly at 5:15 Munk popped from the elevator. He scowled at the crowded lobby, seized my arm, and said, “We'd better go upstairs.”

He wore a dark blazer and charcoal pants and a soft-collared, light blue shirt. The white enamel pin of the Order of Canada glowed on his lapel. Munk had just been to the Venice Biennale with his wife. In Venice they had stayed on his 140-foot yacht,
Golden Eagle.
It takes a crew of nine to sail it. “You think that's big?” said Munk. “That's nothing! They made me moor at the farthest point of the basin to
make way for people with much, much bigger boats. They look like cruise ships. You have no idea how big they are!”

I did have an idea, because I had been reading up on them in articles about Munk's latest venture, a marina for super-yachts at Tivat, the former Yugoslavian naval base in Montenegro. Munk used the profusion of these gigantic pleasure tubs to illustrate his theme—that there were more rich people in the world today than there had ever been, and they had assets to protect.

“Today I talk to people, and I have been around for a long time and I am associated with gold, and they confide in me. And everybody I speak to is now buying gold. They are not gold bugs, Matthew, and you know that Peter Munk is not a gold bug either.” He stood up from his seat and looked out the window at the rain with a fierce expression. Gold bugs are by definition fanatics—believers in gold as the only real money. I knew that Munk subscribed to no such theory, although I guess he had no problem selling gold to those who did. His point, though, was that a new supply of gold buyers had appeared on the rising tide of recently created wealth.

“These people I talk to,” he resumed, “they buy because they want protection to keep a portion of their assets and they think gold will do that. They think the [financial] system is not going to change unless there's a catastrophe, a French Revolution, a war, or a devaluation of such proportion that the United States government defaults. These people who have been accumulating gold are not going to be selling.”

Yet they were.
A Zurich-based executive of Stonehage, a firm that provides wealth management advice, had been telling Reuters only days before that some rich clients had already taken what they'd made in gold's decade-long bull run and put it into what they saw as the next smart thing, high-end art. This shift accounted for substantial
gold amounts, because some of the clients had had as much as 15 percent of their assets in bullion. The money that had gotten into gold ahead of the pack was also getting out ahead of it, and just in the nick of time. The day after I spoke to Munk the gold price sank. In three weeks it dropped $300.

Among those battered in the fall was John Paulson, the American hedge fund sorcerer. Paulson made staggering sums on gold. In 2010 he personally made $4.9 billion on his gold investments.
The
New York Times
calculated that this paycheck came to twice the total player salaries of Major League Baseball. He lives in a 28,500-square-foot limestone mansion on Manhattan's Upper East Side. Most of Paulson's own gold money was invested in a special gold-share product that his firm sold. The shares did not represent gold bullion, but were linked to gold-based assets such as gold mining stocks.

Paulson was the man with the Midas touch, until he wasn't.
His fortunes started to turn with the collapse of an $834 million investment in Sino-Forest Corporation, a Toronto-listed Chinese timber company with property in Yunnan province. He had been accumulating stock since 2008. By 2011 he owned a majority stake.
In June that year a firm of short sellers called Muddy Waters accused Sino-Forest of being a classic “pump and dump,” an operation in which the owners of a stock use false information to inflate its value—the pump—and later sell when the share price is high—the dump. Muddy Waters claimed Sino-Forest had overstated timber reserves by $900 million, and had run what amounted to a twenty-year fraud. The stock collapsed. Paulson took a loss of half a billion dollars. One of his largest funds lost 47 percent of its value. That was around the time that the gold price got on the elevator and pressed the down button. Paulson's gold fund lost 16 percent in a single month.

One report said Paulson was so angered by the steady leakage of news about his losses that he tightened his reporting policies to
make it harder for the media to get information. The only public documents recording his gold actions were the quarterly 13F filings mandated by the SEC. The 13Fs showed Paulson dumping gold.
He sold a third of his company's position in the Spider for $1.4 billion.
According to an unnamed source cited by Reuters, Paulson's move from the Spider was not an abandonment of gold, but a switch to forms of ownership that did not have to be reported in public filings, such as swaps, forwards, and physical gold. He was moving his gold from sight.

A
STORE OF GOLD IS
a hiding place.
The Oxford dictionary defines “hoard” that way, as something “hidden away or laid by.” But laid by against what?
Gold is a doubtful sanctuary. As the price was tanking that September, a financial reporter attributed the fall to investor preference for stocks, because the stock market was rising in response to a rare moment of good news about the Greek debt crisis. Three weeks later the debt crisis returned to its usual state of hopelessness, and equities fell. So did gold. This time the reporter said that the falling market had dragged the metal down. Market up: bad for gold; market down: bad for gold.

Why is gold worth anything at all? Those who buy it perform a rite so old it's scarcely possible to separate it from who we are. It's the archaeologist's dilemma: we are inside the object we are trying to understand. In
The Golden Constant
, a classic study that tracked gold's purchasing power through time, the economist Roy Jastram confessed to a “nagging feeling that something deeper than conscious thought, not an instinct but perhaps a race-memory,” was behind our attachment to gold.