Tuesday, December 13, 2011

The Gold/Silver Rehypothecation scandal: HSBC Sues MF Global Over Disputed Ownership Of Physical Gold/Silver

If you follow Gold and Silver, a great deal of interest is being focused on an interesting development in the MF Global issue which will have a significant impact on the precious metals.

For years you have heard how the 'gold bugs' have advocated that you hold actual phyiscal Gold and Silver bars as opposed to certificates which 'represent' Gold and Silver.

It has been said that as much as 99 times as much “paper” or digital gold is bought on commodities exchanges such as COMEX, as there is traded in actual delivery of physical Gold and Silver.

What does this mean?

Simply put... there is not enough actual Gold and Silver in the world to match up to all the 'paper' claims for the metal.  Iif all parties “stood for delivery” it would be impossible for the warehouses and the short players to actually meet their obligations, and “someone” would be left standing without a chair.

The amount of physical Gold and Silver that the COMEX delivers on a daily basis is negligible compared to the massive historical short positions that have existed for decades.

For example, during a two-week span across last January and February, COMEX arranged for the physical delivery of 543,500 troy ounces of gold with their contracted warehouse depositories, a figure that represents an average of just 38,786 troy ounces of gold per day. At this rate of daily delivery, it would take the COMEX more than two years to deliver all the gold represented by the current net commercial short position should the holders of long contracts ask for settlement in physical delivery.

Through the use of futures markets, the Commodities Futures Trading Commission (CFTC) has granted bankers a mechanism to perform alchemy and turn paper into Gold on the COMEX by allowing them to establish obscene short positions that represent 25% to nearly 40% of annual Gold production at times while simultaneously allowing them to renege on their fiduciary responsibility to actually physically possess the Gold represented by their short positions. In other words, the CFTC has allowed Gold to operate under the principles of the fractional reserve banking system on the COMEX futures markets.

In Silver the situation is even more obscene.

Since the Great 2008 Financial Crisis, the demand for physical Gold/Silver has ramped up exponentially prompting many observers (including this blog) to focus attention on how the demand for phyiscal has stressed the COMEX system.

For those dubbed 'Gold bugs' or 'Silver bugs' the real issue has always been, “If I asked for physical delivery of an amount of Gold or Silver that I should be able to receive, would I receive it?”

If you were India, China or the United Arab Emirates and you wanted to buy 200 tonnes of gold at the price established in futures markets, but you knew that there was no possible situation whereby 200 tonnes of gold would ever be delivered to you via the futures markets, what would you do?

Would you buy 200 tonnes of gold in the futures markets only to know that you would suffer a default of this delivery and likely be forced to pay a much higher price in the future or would you try to arrange to buy 200 tonnes of gold NOW from the IMF or another Central Bank?

Of course, you would choose the latter tactic.

The fact that Gold/Silver cannot be printed out of thin air is the essential quality that makes it a form of money much more sound than the Euro, the dollar, the Yen or any other form of fiat currency.

This concern of the 'Gold/Silver bugs' has been derided and dismissed for years.

However, tens of billions of dollars of Gold/Silver exist only in digital form on the COMEX and the CFTC has allowed bullion banks to indeed achieve alchemy with gold (and silver) in the futures markets. By allowing these mechanisms ,that have absolutely zero to do with physical supply and demand of gold and silver, to persist bullion banks can suppress the price of paper gold and paper silver in futures markets.

But in the end, they will never be able to perpetually suppress the price of real physical gold and real physical silver. There will come a time when the prices for real physical gold and real physical silver completely sever the already tenuous umbilical cord they maintain to the suppressed prices of gold and silver established by the agent bullion banks of the US Federal Reserve and the Bank of England in futures markets.

Which brings us to MF Global.

Last week we made a post about MF Global, Rehypothecation and Canadian Banks. It turns out that in investment banking, assets deposited with a broker can be hypothecated such that a broker may sell securities if an investor fails to keep up credit payments or if the securities drop in value and the investor fails to respond to a margin call (a request for more capital).

Re-hypothecation occurs when a bank or broker re-uses collateral posted by clients, such as hedge funds, to back the broker’s own trades and borrowings.

This practice of re-hypothecation runs into the trillions of dollars and is perfectly legal.

It is justified by brokers on the basis that it is a capital efficient way of financing their operations much to the chagrin of hedge funds. In the UK, there is absolutely no statutory limit on the amount that can be re-hypothecated.

When MF Global went bankrupt news immediately spread that investors like Gerald Celente, who was heavily invested in paper futures contracts, got screwed.

His so-called 'gold' held at MF Global was instantly rendered a "General Unsecured Claim" and Celente may or may not receive a pennies on the dollar equitable treatment post liquidation.

What was less known was the fate of physical gold in the hands of the very same insolvent MF Global financial syndicate.

Last week Bloomberg broke a stunning story whereby HSBC was suing the MF Global brokerage trustee to establish who was the rightful owner of gold bars worth about $850,000 and silver bars underlying contracts between the brokerage and a client.

In it's court filing HSBC wrote, "Five gold bars and 15 silver bars underlie eight Comex contracts between the brokerage and client Jason Fane of Ithaca, New York, London-based HSBC."

Both parties (Jason Fane and MF Global) have asserted claims to the bars, creating difficulties for HSBC, which is storing them. Jason Fane claims he deposited the bars with MF Global for storage. And MF Global has used the bars for collatteral in it's own dealings (rehypothecation).

HSBC has asked a judge to decide who the rightful owner is.
“HSBC has received conflicting instructions regarding ownership and disposition of the property. Accordingly, HSBC is exposed to multiple liabilities with respect to the disposition of the properties.”

Fane wrote HSBC after the bankruptcy, asking the bank to transfer the bars to his account at Brink’s, according to a copy of his letter filed in court. The trustee wrote HSBC saying the gold and silver was “customer property,” (property of MF Global, a customer of HSBC) and the bank shouldn’t turn it over to Fane.

MF Global's liquidation trustee James Giddens was basically saying Fane could not have his Gold and Silver back.  The trustee claims MF Global rehypothecated Fane's Gold and Silver as collateral when it purchased CDS contracts. Thus the trustee will be taking the delivery of the said Gold and Silver due to it's SENIOR creditor status.

The crux of this suit is whether or not MF Global was rehypothecating, or lending, or repoing, that one physical asset that it should not have been transferring ownership rights to under any circumstances.

This is at the heart of the whole commingling situation: was MF Global using rehypothecated client gold to satisfy liabilities?

The thought alone should send shivers up the spine of all those who have been deriding Gold/Silver bugs, who have been warning about precisely this for years.

The implications could be staggering.

Email: village_whisperer@live.ca
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  1. Do you think this information will send shivers up the spine of Garth Turner? Just today he quotes Dennis Gartman, one of the worlds biggest gold bashers, and discusses the folly of investing in precious metals. Turner mentions nothing of what you discussed here today, yet talks like he has a clue about these markets.
    Someone with a sound knowledge of current financial markets and their relation to precious metals, should call out Turner on his ongoing disinformation. I would love to see someone like Eric Sprott or Jim Sinclair expose Turner as the lightweight he is on the precious metals markets and the world financial system. "Greater Fool" is a perfect description of Turner.

  2. Yeesh Turner has a point of view - make up your own mind. Right now seems like a good time to buy physical!

  3. Great summary, very clear. And very alarming indeed!
    Turner has been annoying me too recently. He keeps talking about 8% returns like it's shooting fish in a barrel. Maybe my trading account is just too small but I just can't see how it's done. Even when I make 10-15% on a trade it only offsets the occasional dud or stupid bet. The truth is that there really isn't any safe haven and there isn't anywhere to hide from the pending shit storm? Go long tinned food, arable land, clean water, and resilient community.

  4. GT hates gold & silver because it is the antethisis of what he deals in; paper. He also refuses to acknowledge the disparity between the physical and paper PMs. He says now "As I mentioned yesterday, this is a fundamental reason precious metals are so done." But we will still have inflation even with delevereging and we will still have money printing as governments try to devalue their currencies and monetize their debts. So lets see where we are a year from now with PMs.

  5. "there isn't anywhere to hide from the pending shit storm"

    That is probably the truth.

  6. Not being able to immediately, upon request, retrieve one's gold and/or silver hard assets deposited under the safekeeping of an exchange clearing member sends the signal that such collective liability assumption facilitators, the clearing house, is a fiction. Such attacks the 160 year reputation of the futures market, making it inert. Time for all such members to step up and make good on all futures related obligations on behalf of all MF futures' clients.

    Lesson learned here is to either deposit with a bonded warehouse oneself or with the futures broker, BUT with a contractual clause therein, whereas in ALL circumstances other than bailment due to non-payment of storage fees, the owner of the product has first-lien, and such product is not permitted to be commingled nor hypothecated by any other than the beneficial original account holder/owner. Such need re reviewed by bankruptcy attorneys on the Federal and State levels for preparation of same so bankruptcy law does not trump the contractual understanding between parties.

  7. I have bought 300 cans of baked beans which are my family's needs before their best before date. Unlike physical gold We are less likely to be killed for keeping it in our house. We will share with the hungry and robbers may take all that they can carry.

    1. That is a good point, but if you have bullion in your house, you simply don't tell anyone. Not even your kids. And you don't store it where a burglar may find it, eg; you sock drawer or under your bed.
      Sharing your stash is very enlightened of you. I will too, but one ounce of silver given to a food bank will go further, and help reconnect the retail chain. :)

  8. How can you go from a secured creditor to unsecured creditor? Surely if the gold is there it is yours!?