Apr 102015
 

Loco is short for Location. Location is relevant for gold and silver because it is a physical commodity and it costs money to move it between locations. People used to trading shares and bonds and other “virtual” products can sometimes overlook the implications and risks of dealing in something that is physical.

In the industry “spot price” is really shorthand for “the price of gold located in London”. Why London? Because that is where, historically, gold was traded. It is where the major bullion banks have head offices and where many large vaults are located and a fair amount of physical gold is located. Thus the price quoted on information services like Reuters and Bloomberg is for gold located in London, or in industry jargon, “loco London”. If you are dealing with a dealer who has trading accounts with bullion banks, the spot price they are quoting is effectively a loco London price. This is effectively gold’s “base” price.

If you deal in gold in other locations, e.g. loco Perth, the price is different to gold’s price loco London because it costs money to freight gold between locations. The question is, who pays this difference? Answer is, supply and demand.

For example, Australian mines produce a lot more gold than domestic buyers want, so loco Perth supply is higher than demand. Without enough Perth buyers the gold will have to be shipped to London or China or other markets where there are more buyers. So Perth gold trades at a discount to the loco London gold price, the discount generally being equal to the cost of getting the gold to the other location.

So each location can trade at a premium or discount to London depending upon local supply and demand at that time. As a result, loco discounts/premiums are not fixed and change over time as local supply/demand changes. Normally the supply/demand situation is stable, which is another way of saying that the physical flows around the globe are stable.

Generally loco discounts/premiums are small and are often included into fabrication premiums. This can therefore give investors the impression that there is one global spot price for gold. This is misleading because when markets change and there is sustained buying or selling imbalances in a location, the discount/premium can start to become quite large. The result may be that the spot price in that location starts to diverge from the loco London price