Jul 292015

Yesterday Chris Powell of GATA criticised an article by Clif Droke on market manipulation. One point caught my eye, where Chris identified “an ‘ipse dixit’, an assertion made without authority” that Clif made, namely that “the market for gold is immensely huge and virtually impossible for any one entity to control its price swings … Even a coterie of interests devoted to pushing gold prices lower would meet with certain failure due to the enormous size and complexity of the market.”

It is one thing for Clif to claim that one entity could not control the gold market, but it strikes me as quite bold to claim a “devoted coterie” could not do it. To assess Clif’s claim we need factual examples of gold market liquidity so that we can “assert with authority” and solve this ipse dixit problem. Being the gold nerd that I am, over the past few years I have accumulated a number of statements about actual gold market liquidity (primarily because I’ve been annoyed with trite statements about how gold is “highly liquid” without any quantification) and thankfully now I have a use for them.

My simplistic understanding of “liquidity” is how much gold one can trade without affecting the market price. Below are some quotes that refer to actual trade sizes by people in the industry and their effect on price, both approximate and quantified.

  • Me, Feb 2012: “One could execute up to a tonne in one lot with a bullion bank at spot. … If someone was silly enough to ask a bullion bank to commit to a price for a 10 tonne lot, then from what I have been able to establish, the bank would adjust their spot price by around $10.”
  • Edel Tully, Nov 2012: “Brazil’s holdings expanded 17.2 tons last month … This is a chunky purchase … and was one of the key factors that gave prices a reasonable floor last month”
  • Mark Dow, June 2013: “Buying $300mm [7 tonnes] of gold can move the market up by less than a percent [$12 an ounce] in a normal market. But when sentiment for gold turns adverse, selling $300mm can drive it down, say, 2-3%.”
  • CNBC, Oct 2013: “Gold lost $25 in two minutes … a single sell order could be the culprit. It appears to have been an order to sell 5,000 gold futures contracts [15 tonnes] at market, Eric Hunsader of Nanex told CNBC.com”
  • ICE Benchmark Administration, Gold Auction Specifications: “Maximum Order Size 100,000 oz [3 tonnes] … This is a simple fat finger test designed to prevent the accidental input of large orders. In the event a user wishes to place an order greater than the maximum size they have the option to break the order down into smaller chunks”
  • Reuters, May 2015: “each interbank call would ‘shift orders of 50,000 ounces [1.5 tonnes] a time’, providing significant liquidity flows … Customers with smaller volumes are probably getting tighter spreads and better prices … but when somebody has size to do, especially with algos out there, it can hit pockets of illiquidity and cause spikes or flash crashes”
  • FT.com, May 2015: “if you want to transact in a decent size, which used to be 100,000 [3 tonnes] to 200,000 [6 tonnes] ounces. That has become harder to get away with without influencing the price unduly”
  • Me, Jul 2015: Gold drops $48 on 22 tonnes.

My takeaway from the above is that one can deal a couple of tonnes without affecting the gold price much – a bullion bank may widen the spread by tens of cents. However, once you get above 5 tonnes you will affect the price. From the quotes we get these figures:

  • $12 with 7t = $1.70 per tonne
  • $10 with 10t = $1.00 per tonne
  • $25 with 15t = $1.66 per tonne
  • $48 with 22t = $2.18 per tonne

What is 20 tonnes worth? At $1,100 per ounce it equals $700 million. Yes that is a lot, but there is a lot of money out there – for example, see this post where I calculated that if just “four groups decided to use only 2% of the $281.7 billion they manage to short gold. That would total 145 tonnes of gold”. Or consider what Ray Dalio said in this Sep 2012 interview “the capacity of moving money into gold in a large number is extremely limited … So the players in the world that … I have contact with, who are — who’ve got money — really don’t view gold as an effective alternative”.

That last quote is probably the best counter to Clif’s claim: the reason Ray Dalio and the coterie of players he has contact with don’t view gold as an effective alternative is because they would move the price, a lot.

Some may argue that such manipulations only affect the price in the short term and the price would recover as the manipulator buys back their position. True, if one wanted to cover themselves within the same day. But consider the July 20th price smash – yes the price has recovered, but it is still $30 below where it was before the selling. If the 22 tonnes was one person they could have bought back their position by now by buying only 3 tonnes a day, which as we have established above, would not move the price.

Chris argues that “is the gold market or any market really bigger than institutions that are fully empowered to create infinite money — central banks?” I would say the quotes above show that one hardly needs infinite money, as the gold market does not have the legendary but vague liquidity that many have claimed it has.