Three New Realities
When it was announced that both large and small depositors were to have a percentage of them seized, it was not the amount that horrified the world but the discovery that you do not own your own bank deposits.
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Most investors worldwide are of the belief that when you deposit your money in a bank, it simply has safe-keeping of that money. The realization that you have lent the bank your money and are an "Unsecured Creditor" of the bank is an unpleasant revelation.
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The sight of deposits being confiscated by bank creditors and governments brought home this fact and blew away the illusion, never to be reinstated again, that you own your own money. The reassurances from Brussels that "this is not a template for future bailouts" do not remove the stark realities of the state of depositors from now on. The reality that your money can be confiscated in your bank brought home the meaning of the word, confiscation as a present and very real danger in the future, if the situation warrants it.
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Governments have the power to control your money through Capital and Exchange Controls in a bloc like the E.U. This can happen for a long time, probably, in an emasculated state, in a developed country. This is an additional shock to investors and depositors. Note that this is not Argentina or South Africa or Zimbabwe, but a member of the E.U. whose demise was caused by the E.U. through its handling of another member of the E.U., Greece!
It is now incumbent on all investors to look at the meaning of ownership in investing and investors' vulnerability to government confiscation as well as vulnerability to exchange and Capital Controls. We do this now in regard to gold and silver in particular. What are the generally accepted ways to own gold that may not actually be so?
COMEX
When you buy gold futures, ostensibly, you buy gold for future delivery; however, if you want to take delivery at the end of your contract, you have to notify COMEX so they can notify the seller of the future because 95% of futures contracts do not deliver gold at the end of the period, they are simply closed out. So when you buy a gold future, it does not necessarily mean you have bought gold.
Such futures contracts have matured and you've taken delivery of the gold -this means you own the gold you bought. But where you hold it is equally as important.
Gold Shares
When you buy a gold share, you buy a company that mines for gold; you do not buy gold. If the day should come when governments want gold from citizens and from corporations, then it is possible that they will either nationalize the mine, or instruct that all future gold mined by the company be handed to the government.
Currently in China, the locally-mined gold is being taken into the nation's reserves and doesn't reach the market. Gold miners are paid by this agency in local currency, so where a gold mining company pays dividends to clients, they will continue to pay shareholders dividends. It's sensible of governments to follow this road when they want to increase their gold reserves because this way the gold price isn't directly affected. All that happens is that supplies of gold to the international market are lowered. Only later will this impact the gold price.
Please note that to get a gold-price-related return, you must own shares in a gold mining company that does pay dividends that relate to profits. This should be a mine that really can control its costs so you benefit from a rising gold price. Many have simply extended their lives, not benefitted their shareholders.
Gold Exchange Traded Funds
When you buy shares in a gold Exchange Traded Fund, you do not buy gold. You buy shares in a company that buys gold, whose price moves with the price of gold.
The gold the fund owns, not you, is held in a Custodian Bank possibly in unallocated accounts. In the light of Cyprus, let's be clear, the gold belongs to the fund. If held in unallocated form at the bank, it does not belong to the fund, it belongs to the bank, i.e. Custodian, as it is held on the bank's balance sheet just as deposits were held in Cypriot banks.
If a series of actions takes place, in the style of Cyprus and the government wants to confiscate it, it will simply take it from the bank custodian and inform the fund of the event. The fund will then inform you.
If the fund holds the gold in allocated accounts, then the government will take it from the fund direct and the fund will then pay the shareholders the proceeds in liquidation in specie.
The benefit of this type of fund is that you do have a direct relationship to the gold price, not the gold.
If you want to own gold, this is not the way to do it.
Unallocated and Allocated
Just as bank depositors were under the impression that they owned their deposits and didn't, so it is possible in the gold world to find oneself in a similar position. Gold owners should be very clear on this danger.
This was highlighted when we read about the repatriation of gold by Germany and the likely repatriation of gold by Switzerland after their referendum on the subject. The possibility that the foreign central banks is making money out of a foreign nation's gold by leasing it out to the market was reinforced by the fact that it is going to take seven years to get it back to Germany. This places such banks in the same place as a bank depositor.
The fear that their gold is held in other central banks in unallocated accounts incited their fears. The danger to us is not that the gold is not there in the foreign central bank, but that it is held in unallocated accounts. What does this mean?
The London Bullion Market Association defines these terms for us as follows:
Unallocated is an account where specific bars are not set aside and the customer has a general entitlement to the metal. This is the most convenient, cheapest and most commonly used method of holding metal. The holder is an unsecured creditor.
Holding gold this way opens one up to a Cyprus event. As the number of triple 'A' rated nations has fallen by 60% in recent years (including the U.S. and U.K., one is inclined to be prudent to ensure that any further decay does not impact your gold).
Allocated accounts are opened when a customer requires metal to be physically segregated and needs a detailed list of weights and assays.
(Please note that when the gold is allocated it remains in the owner's name and is his gold not the Custodian's even if it is held on his behalf by someone else. This means that if the Custodian goes bust, or has his assets confiscated, the gold held by its clients is separate and not capable of confiscation or seizure. This is the right way to hold your gold to avoid a Cyprus event.)
Government Rights
When U.S. citizens were allowed to own gold again in 1974 after 41 years, they were told they were allowed the "privilege" of owning gold. Clearly this meant that the government did not deem it a right. This continued to place it in the area where in the future it was within the ambit of government to confiscate it should the conditions warrant such.
It is defined as "an important reserve asset" in the words of the central bank gold agreements that have been in place since 1999. Its importance is growing, as highlighted by the World Gold council's report from the OMFIF reporting on the advent of the Chinese Yuan to the list of global reserve currencies in the coming years (or months?) where they expect it to take a pivotal position in the monetary system.
This makes it as vulnerable as the deposits in Cypriot banks, in the future.
To believe that governments would not reconsider the confiscation of gold to help in supporting their national finances, should the situation require it, would be naïve, especially in light of past and recent events.
That's why investors should look carefully at how they 'own' their gold.
With Governments repatriating their gold, investors should try to understand why. Perhaps the reasons behind bringing gold home apply to private investors?
Of course, the advantage of governments is that they have total power in their own jurisdiction, which they will only lose if someone invades them. So once on German soil, German gold will be untouchable. But an individual owner remains in his government's jurisdiction and does not have the same control. He therefore must consider where he can hold it to retain that control.
Banks & Vaults with U.S. Branches
Recently we have seen Swiss entities rejecting U.S. taxpayers as clients. Swiss banks have been loath to accept U.S. clients for quite some time now. Why?
Successful companies are usually multinational. Most Swiss Banks have branches in the U.S. and E.U. Some of these are indispensable to the Swiss Head Offices. We have seen UBS and others pay hefty fines to the U.S. government to settle attacks by the I.R.S. rather than lose their U.S. baking license. Even a Swiss Bank with dollar deposits in New York collapsed when these were seized in payment of a fine. So despite having their base in Switzerland, their U.S.-based assets were too important to lose.
Hence, the desire to remove all vulnerability to the U.S. government fines and seizure of Swiss-owned, U.S.-based assets. So it is wise that companies remove their vulnerability to government attacks. This is why Swiss vaults have rejected U.S. Taxpayers as clients, and we would expect to see companies like Brinks do the same in the future. So long as they have this vulnerability to government control they have to act in their own interests even at the expense of their clients.
A re-evaluation of such vulnerabilities should be taking place in the entire financial world in the light of Cyprus and U.S. I.R.S. attacks on foreign companies. Whether the owners of financial assets are governments or companies or individuals, all of us should have begun such an analysis, particularly those who own gold or silver.
Enquire @ admin@StockbridgeMgMt.com
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