There is a lot of confusion today about the difference between holding gold ETF’s and gold bullion. Most people believe that by holding gold ETF shares they are holding the equivalent of gold bullion. And we are informed that this is the intention of the originators of these gold ETF trusts. However, as we well know, intentions are not always the same as reality.
It is interesting that in a recent article from the Wall Street Manna the editor is quoted as saying that “Merrill Lynch has revealed that some of its richest clients are so alarmed by the state of the financial system and signs of political instability around the world that they are now insisting on the purchase of gold bars, shunning derivatives or “paper” proxies.”
So what is a ‘paper proxy’? Basically, in terms of gold, proxies are shares that are intended to offer investors an opportunity to participate in the gold market through an investment in securities. That means that the investor does not actually hold allocated gold, but a promise to deliver gold or its equivalent value in the event it is needed.
If you hold a paper proxy, it means that there are certain promises that need to be taken at face value if you are to feel confident in your investment. You need to know that underlying your proxy lies a rock solid commitment on the part of the issuer to come up with the real goods. And therein lies the problem.
If you read carefully the official documents issued by most gold ETF trusts the language surrounding the security of your holding is far from comforting. For example, this sentence is extracted from the 2008 annual report of a very popular gold ETF trust:”If the Trust’s gold is lost, damaged, stolen or destroyed under circumstances rendering a party liable to the Trust, the responsible party may not have the financial resources sufficient to satisfy the Trust’s claim.”: I don’t know about you, but that doesn’t give me a lot of reassurance. No mention of insurance is there?
Here is another statement drawn from the same report:”The ability of the Trustee and the Custodian to take legal action against subcustodians may be limited, which increases the possibility that the Trust may suffer a loss if a subcustodian does not use due care in the safekeeping of the Trust’s gold.” Did you know that most gold ETF’s allow for subcustodians for the gold holdings? And if they ‘lose’ the gold, your trustee may have little recourse for its recovery.
I find the above alarming, and especially so when the current market turmoil can be laid partly at the feet of ‘paper assets’ whose supposed solid backing has proved (in some cases) non-existent. That’s why I recommend holding gold bullion in a form that is as secure as is reasonably possible.
The moral of the story: beware gold ETF’s. Make sure you understand what you hold before you invest. While gold Elf’s are convenient and easy to buy and sell, you many not be getting what you bargained for.
Source by Anthony Hendriks