Tuesday, February 18, 2014

GLD is not gold

Aleph Blog - gold inflows and outflows. A follow-up to Josh Brown's point that people sell at bottoms and buy at tops. Although I would point out that the sellers of GLD were not mom & pop investors: the sellers were major hedge funds.

As Peter Tchir noted on the collapse through $1500, these funds bought GLD for the weakest and most wrong reasons: first they hated Obama, and then they were expecting hyperinflation and dollar collapse, and then they were buying gold because it was going up, and finally everyone owned GLD just because everyone else owned GLD.

That wasn't going to end well, and so it didn't, and Tchir is the only guy who nailed it right at the outset.

The blogger also adds this:
As for GLD, be wary about paper gold. Is it really fully collateralized by audited gold in a warehouse? There are lots of promises of gold being traded, but how much physical gold could you have delivered to you, should you want it?
Maybe he's a doomer or something, I don't know him.

But I'll provide an easier, more sensible and mainstream translation of this for Barry and Josh:

GLD is not physical gold. It is a derivative of physical gold. This is so even if GLD is backed 100% by physical gold. This is because GLD carries counterparty risks that do not exist with physical gold: in a limit situation, the gold in GLD's vaults can disappear if enough things go wrong.

Those sorts of things that go wrong are exactly what physical gold is bought for protection against. Therefore, GLD is by definition not gold. You do not buy GLD if you want "the protection of gold".

But it doesn't matter because there's no good reason for any hedge fund to own physical gold. Because the insurance value of gold doesn't even pass through the hedge fund to the investors: if things go wrong in the world, that hedge fund also goes to zero as its investors' assets get gobbled up by its counterparties (or spent on hookers and blow by the fund managers).

So it's still true that GLD is not gold. You trade GLD to trade the price of gold without a commodity brokerage account, is all.

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