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June 26, 2021, 1:14 p.m. EDT

Why Basel III regulations are poised to shake up the gold market

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Myra P. Saefong

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Those two options have slightly different implications for the gold market, “ranging from a reduction in liquidity to rising costs for market participants,” the analysts said. Either way, they do not believe these dynamics are bullish for gold. Also, it’s “unlikely that banks would replace usage of unallocated gold by gold purchased outright.”

Benefits of unallocated gold and NSFR impact

In the past, banks have dealt with unallocated gold because it makes trading the metal easier.

Unallocated gold “provides the most convenient, cheapest and…effective way for trades to be done between professional counterparts, rather than having to move physical bars against each trade,” said Ross Norman, chief executive officer at Metals Daily. It’s primarily an “interbank mechanism” to help professional participants with clearing and settlement of trades.

Under the NSFR rules, however, “unallocated gold goes into the balance sheet of the banks involved” and the rules “propose to make it much more expensive for banks to hold unallocated gold balances,” said Norman.

The rules will not only “make the cost of clearing and settling trades more expensive, but the lending of precious metals to industrial counterparts, including miners, refiners and fabricators will become much more expensive as the costs get pushed down the value chain,” he said.

It follows that the “proposed changes will make dealing in gold much more expensive for everyone in the sector,” even those acquiring physical bars, and it could make the market smaller, Norman said. All in all, the changes are “retrograde” may “render gold less relevant as an investible asset.”

If a physical gold broker’s cost of financing his stock of coins and bars, for example, doubles, then it’s likely he’ll hold less inventory, and charge higher premiums for his products, Norman explained. “If financial markets become stressed and gold demand rises sharply, then physical supply would be greatly constrained – “you have just burned half of your lifeboats.” In turn, that would make gold less attractive as a safe haven, he said.

In a recent letter on the impact of the NSFR on the precious metals market, the LBMA and World Gold Council said the proposals under the NSFR “fail to take into account the damaging effect that the rules will have on the precious metals clearing and settlement system, potentially undermining the system completely, and on the increased costs of financing of precious metals production.”

The majority of precious metals held by the London Precious Metals Clearing Limited, which was created by the LBMA and operates the clearing and settlement for precious metals transactions, is unallocated metal.

The vast majority of gold trading takes place in the London bullion market, said Gold Newsletter’s Lundin. The regulations are expected to take hold in the U.K. at the start of the new year, so the “real impact won’t be seen this month.”

Gold market impact

Analysts, meanwhile, differ greatly when it comes to their options on the impact of Basel III and its NSFR requirements on the gold market.

Goldmoney’s Macleod expects banks to be “discouraged” from dealings in gold forward contracts in London and in futures contracts on Comex.

That can lead to “greater price volatility and at the margin, some bank customers who have had unallocated gold and silver accounts will seek to maintain their exposure by buying physical bullion,” he said.

These new changes also come at a time of accelerated monetary inflation and it’s “very likely” that the combination of the two events “will drive price higher,” Macleod said. How much higher depends on how weak the dollar becomes in terms of its purchasing power, he said.

Gold futures /zigman2/quotes/210034565/delayed GC00 +0.03% hit a record-high settlement in August 2020 at $2,069.40 an ounce on Comex, but they’ve dropped about 14% since then, to $1,783.40 on Wednesday.

Norman, however, thinks the new rules will “not have any significant effect on gold prices…only on the cost of dealings in these markets.”

But Gold Newsletter’s Lundin seems to explain it best: “The range of opinions on the matter extend from no effect on one side, to absolute mayhem on the other, peppered…with a ‘believe it when I see it’ attitude.”

The implementation of the Basel III rules has been postponed so many times, there’s still lingering doubt it’s going to actually happen, he said.

Lundin also said he does not believe the bullion market and central banks would allow these regulations to interfere with the system they have set up, but he holds out hopes that they will.

/zigman2/quotes/210034565/delayed
US : U.S.: Nymex
$ 1,764.30
+0.50 +0.03%
Volume: 6,672
Sept. 20, 2021 9:46p
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About Myra Saefong

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Myra P. Saefong is on the markets team in San Francisco. She has covered the commodities sector for MarketWatch for more than 10 years. She has spent the...

Myra P. Saefong is on the markets team in San Francisco. She has covered the commodities sector for MarketWatch for more than 10 years. She has spent the bulk of her years at the company writing the daily Futures Movers and Metals Stocks columns and has been writing the weekly Commodities Corner column since 2005. Myra has been with MarketWatch since 1998 and holds a master’s degree in English literature.

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