Nov 252015
 

The idea that the US Mint has a legal obligation to mint and issue bullion coins in quantities sufficient to meet public demand is one that I have seen mentioned every time the US Mint puts its bullion coins on allocation. While originally true, it is no longer the case.

Until recently I had accepted the US Mint had this legal requirement, as when I was discussing Ted Butler’s theory that JP Morgan “is exploiting a loophole in the law that requires the Mint to produce to whatever the demand might be”. However, I was prompted to have a closer look at the law when reading the recent open letter by Bix Weir to the US Mint, available at SilverSeek.com Another Smoking Gun: US Silver Eagle Allocation Conspiracy (Pro Tip: it helps your credibility if you address a letter to the right person – Edmond Moy resigned as Director of the US Mint in 2011, as a quick Wikipedia check would have confirmed).

United States Code Title 31 Chapter 51 Sec. 5112 says in Subsec. (e) and (i) that “the Secretary shall mint and issue … in qualities and quantities that the Secretary determines are sufficient to meet public demand” (my emphasis). It appears that these subsections were amended by the Coin Modernization, Oversight, and Continuity Act of 2010 in December 2010 replacing the non-discretionary word “quantities” with “qualities and quantities that the Secretary of the Treasury determines are”, which in my opinion gives the Secretary discretion on how many coins to make to meet demand. As it is difficult to forecast demand for a product driven by volatile precious metal prices this would mean that shortages would occur when demand spikes.

While Bix argues that the revised wording has no ambiguity and “there are no provisions in the law for the Treasury Secretary to stop sales or ration silver coins. The ONLY determinate of the Secretary in the law is that he MUST supply sufficient coins to meet public demand”, it would seem that the amendment was specifically made in response to the cancellation of the 2009 Proof Silver Eagle to give the US Mint the ability to strike proof versions of bullion coins “even if full demand for the bullion version of the coin remained unmet” (see this article for more details).

Additionally, the concept of “demand” only makes sense in respect of a time period. The fact that there is no time period mentioned in the law would mean that those proposing that the US Mint must never stop sales or ration are saying that the US Mint has to supply as and when demanded, that is, on a day to day basis. This leads to the absurd position that the US Mint would have to hold tens of millions of coins in stock, as it is possible that on any day there could be such an amount of orders placed. Indeed, this probably wouldn’t even be enough as it is impossible to know what may be demand on any day thus there is no level of stock would guarantee to protect the US Mint from breaking the law.

I would argue that the fact that the law makes no reference to a time period would mean that any court asked to rule on this wording would apply the standard that would apply to a privately run business. Privately run business do not spend massive amounts of money on building production capacity to meet temporary spikes that would otherwise sit idle, as that is uneconomic and would lead to the eventual bankruptcy of the business (see here for an explanation of these issues). Therefore I think it is likely that a court would come up with the more commercially sensible interpretation that the US Mint is required to make coins to meet the Secretary’s (and thus their) reasonable forecasts of demand.

The fact that the US Mint did ration coin sales prior to the amendment would imply that it had legal advice along these lines that it was not obligated to stockpile massive quantities of coin blanks or finished coins to cover any possible level of demand. With the amended wording it would seem that position is probably even safer.


As a side note, I noticed the following clause in Sec. 5116 (my emphasis) “With the approval of the President, the Secretary of the Treasury may — buy and sell gold in the way, in amounts, at rates, and on conditions the Secretary considers most advantageous to the public interest. How to determine what is in the “public interest”? Possibly Federal Reserve International Finance Discussion Paper #582 from 1997 will be (has been?) considered, which determined that “there is a gain in total welfare” if the US Government sold all of its gold immediately with the following winners and losers (in billions of 1997 dollars):

  • Government Revenue +$342b
  • Depletion Users +$49b
  • Service Users +$149b
  • Private Aboveground Stock Owners -$102b
  • Mine Owners -$70

Oh well, if it is for the greater good …

Sep 252015
 

Alex Stanczyk of the Physical Gold Fund has just posted a transcript of an interview with an executive at a Swiss refinery about the state of the market. It is well worth a read or listen to the podcast. Below are some quotes and my take on them.

“How difficult is it to source the metal you need today? … It is truly difficult. This is also reflected by the price. It is getting more and more expensive to get material out of the market, and also there is less liquidity in the physical precious metals market than there used to be in the past.”

I think the statement that the difficulties “is also reflected by the price” needs to be clarified as later on he says “the price does not reflect the realities at all.” This is not a contradiction! The first reference is to the premium, the second is regarding the spot (ie metal) price.

When acquiring physical, the professional end of the market settles trades by unallocated account debits and paying a small dollar premium for charges, freight etc, rather than buying a physical form on the spot market with dollars. The references to “price” and “expensive” were to that premium above metal. See this post if you want more detail on this aspect of the market.

It was a bit frustrating that the interviewer did not pick up on this reference and drill further – was this a premium on 99.50% 400oz bars, if so were bullion banks refusing/delaying redemptions from unallocated accounts, or was it for other forms or was he referring to loco premiums reflecting freight and funding costs?

I would have also liked to know to what extent that refinery’s feed stock comes from newly mined gold or do they rely more on scrap and 400oz bars. Each refinery has a different mix of source metal and contractual arrangements for supply that can affect their perception of tightness. The Perth Mint is primarily a newly mined supply refinery with scrap being a swing form of supply for us, so we have a strong base of supply.

“The other point is that nobody is interested in any physical delivery at the end. These products are all cash settled. People are happy just to use the spot market as a benchmark, and the product itself never ends up in the physical market.”

He is obviously talking about Western markets here, and he makes an important point and will tie in with my future posts on fractional reserve bullion banking. He goes on to note that this is a dangerous set up as if everybody wanted the physical it “would not be around”. However, this is not a risk as “it looks very much like people are very confident in general financial markets”. The question of course is how much physical reserve exists against bullion bank unallocated accounts versus how much of an increase in physical redemption activity occurs.

“As long as market participants are happy for cash settlements, this can go on forever.”

So true. This was in response to a question about a mismatch between the spot price, which has been low, versus the tightness in the physical market. This idea of a disconnect between paper and physical is an argument that the money in the futures market or other paper markets is somehow not legitimate, that their “view” on price is not valid. Yes markets are more financialised these days, get over it.

I guess some people think that if only futures markets could be banned and everyone had to trade physical, the price would magically shoot up. They forget that if you ban all forms of paper gold you ban paper longs. And in any case, any paper contract can be synthesized using physical and borrow/lend. They also seem unaware that the net position of paper trading is, by arbitrage, reflected into the physical market, and vice versa.

“The flows of metal end up in Asia. It is mainly China, also India, and to some extent the Middle East.”

Same here in Perth.

“Then there is price-sensitive scrap – very opportunistic – coming every now and then out of Asian countries; not China or India, but other countries in the area.”

This is not something you hear talked about a lot, but yes the Asians do actually sell gold but are very good at it. Having a location advantage to Asia compared to the Swiss refineries, we do pick up a lot of this business but as I mentioned above, it is a swing or volatile source of material for us due to its price sensitive nature.

“since the last move up, a lot of scrap has already come to the market, so if the price moves up again, I don’t know how much scrap will be around in order to compensate for the lower volumes coming from the mining industry.”

I note that at the Denver Gold Forum CPM Group saw that a decline in mine production from 2018 was baked into the cake given the lack of exploration. If our refinery guy is right about scrap then the next leg up in the gold price could be quite dramatic. It is hard to call the scrap market as really high prices may be the inducement to get women to look in the bottom of their drawers for that last bit of out of date jewellery, and you can be sure the cash for gold business will be promoting hard in that environment. In any case scrap has not been/will not be a major source of metal sufficient to dent bullish demand too much, when it comes.

“If you see in one of these products a paragraph that references the possibility of cash settlement, keep your hands off.”

Good advice, I don’t think investors really pay attention to the contractual terms of the products and read between the lines, and often it is about what is missing rather than what is there.

Sep 142015
 

Last week I got into a Twitter debate with Jan Nieuwenhuijs ‏(aka Koos Jansen) on his tweet about Peter Hambro’s Bloomberg interview:

I sarcastically replied that if it was virtually impossible to get physical “then Bullion Vault and Gold Money must be running fractional scams, alert James Turk immediately to put a stop to it”. As I said in this post, when physical pool products start to increase premiums or limit inflows, then you know there is a real shortage.

Don’t get me wrong, there is a shortage of retail coins and bars – at The Perth Mint we are seeing huge demand for silver and we are trying to get back in stock on 1oz Koalas but struggling to keep up. However, turning what is a production capacity issue into a meme that there is a shortage at the wholesale level and that the gold and silver markets will “fail” or “default” is fear mongering.

The level of hype does get quite silly. I saw one dealer referring to the high price of junk bags of silver relative to spot as an example of backwardation. Some got very excited about this Financial Times reference that the “cost of borrowing physical gold in London has risen sharply in recent weeks”, which would not have been news to anyone following the work of Keith Weiner, whose basis charts showed increasing scarcity since mid-July.

Zero Hedge, unsurprisingly, got into the act with this claiming that the shortage of US Mint coins was proof that there was no metal in Comex warehouses:

“IF that silver were actually in the [Comex] vault, the U.S. mint could buy a spot contract – September has a silver contract open – and take immediate delivery.”

I find it surprising that Zero Hedge/article’s author are completely unaware that the US Mint cannot accept 1,000oz bars and instead has outsourced blank manufacture (see here). They also seem oblivious that their logic can be equally applied thus:

“If Eric Sprott’s PSLV fund’s silver were actually in the vault, the US Mint could buy the fund and request a physical redemption.”

Of course PSLV is backed by physical metal so how can we explain the fact that PSLV has not had one physical redemption since it listed and is only trading at a very small premium to net asset value if the “silver market is seizing up”? Obviously because wholesale players have no problem acquiring 1,000oz bars and thus don’t want to pay the costs of redeeming from PSLV. For additional proof of that, consider this recent interview with Sunshine Minting’s CEO Tom Power by Silver Doctors:

  • “We act as a conduit for the US Mint for acquisition of silver on the market. We go out on a weekly basis and puts bids out for the supply of the 1000-ounce bars – the raw materials – that we use for the US Mint”
  • “we have seen a push on premiums … subtle changes … little push on premiums”
  • “as soon as we start to see the physical shortage on the supply side for 1,000oz bars because the refining output is down then that’s when I normally would believe that’s when the price would start to escalate again and we just quite haven’t hit that point yet”

He does note that some suppliers “seem to be digging deep into the vaults and pulling out a lot of old stock that has been sitting there for a while … you can always tell when the market starts to get a little tight” but then only talks about subtle changes and little premiums and does not say there is a shortage on the supply side.

Furthering the hype is the recent reduction in Comex warehouse stocks and resulting owners per ounce (open interest vs stocks) moving to over 200:1. This is a perennial favourite of bloggers and while a useful statistic it is often presented using a narrow definition of stocks (eligible) which can give a distorted view – see here and also this recent tweet:

As Kid Dynamite (widely hated in goldbug circles so I guess most will ignore his quote) noted to me in an email, “the key to this meme is to start with the false equivalency: registered gold equals deliverable gold” and it ignores the fact, as this commenter notes, that “the percentage of the open interest that is actually positioned in the front months to take possession of any gold is about 5%, so that drops his 200:1 to about 10:1”.


In my tweet debate with Jan Nieuwenhuijs he questioned my scepticism. Why am I so cynical about shortages? Maybe it has something to do with the fact that I first covered this topic in my personal blog way back in August 2008 and repeatedly since, without any of the predicted failures of “the system”. Alternatively, try this video which covers the repeated claims of Comex’s imminent default (h/t Jan and Frank) – which I personally think would work better with the Benny Hill theme.

For all the conspiracy theories commentators are willing to believe, the one that they do not consider is that maybe Comex warehouse stocks aren’t what they appear to be and that maybe they are the ones being played, just like it has been done before:

“They were moving silver from New York to London where the Buffett orders were being executed. This made the US warehouse inventories drop sharply. Go look at the analysts who talked silver up on that very fundamental. If they said there was a shortage of silver and you better buy it is going to $100, then you may be dealing with a shill or a biased analyst.”

Bill Holter may not think that you should be shocked about 25% premiums in silver and that “whatever you must pay to get it into your hands” is fine. Personally I can’t see the sense of paying 25% when for a few percent you can buy physically backed pool accounts.

Think of it this way: when people are willing to pay 25% premium then for every $100,000 spent, only $80,000 goes to buying silver, which would be 5,333 ounces at $15/oz. If those people would be prepared to buy pool allocated at 1% fees, then the pool operator is going out and buying 6,600 ounces. That is over a full extra 1000oz bar pulled out of the physical market for each $100,000 spent on silver.

Guess who loves the fact that they are being saved from having to find and extra 1,000oz bar for every 5 bars currently being bought? Bullion banks. So silver buyers are so distrustful of The Perth Mint, Eric Sprott, James Turk and any other pool allocated operator that they are willing to take pressure off the silver market by spending their hard earned dollars on premiums rather than metal.

I will conclude with this comment from the owner of the Australian bullion dealer Gold Stackers: “A few core distributors in the U.S. are making an absolute killing in this market. Not a bad gig when wholesale margins go from 5c/oz to over 80c/oz, and the market is silly enough to say ‘Moar! Moar!’.”

So when you see the next article screaming about shortages and telling you to stock up on physical at any premium, ask yourself: who is the player and who is being played?

Aug 122015
 

If there is a shortage of coins does that mean there is a shortage of gold/silver and prices will go up?

Shortages of retail forms of gold and silver, which are anything less than 400oz gold bars or 1000oz silver bars, does not necessarily tell us about whether there is a real shortage/price disconnect in the wider precious metals markets. Retail shortages to-date have reflected a shortage in production capacity, rather than a shortage of wholesale gold or silver.

How can I tell if it is a real shortage, or just a production capacity shortage?

A real gold bank run will manifest itself in the wholesale markets for 400oz gold bars or 1000oz silver bars, so to identify a real physical-paper disconnect occurring you need to look at the premium above spot for 400oz or 1000oz bars.

Unless you are in the professional market you won’t see such bars attracting a premium and/or being difficult to source, or bullion banks desperately bidding on the output of refineries like The Perth Mint. However, there are many online pool allocated storage services which back their accounts with wholesale bars. If there is a real shortage of 400oz or 1000oz bars and thus premiums being asked, then you should see the following being reported by these services (in likely order of occurrence):

  1. Reports of difficulties in getting 400oz/1000oz bars
  2. Temporary restrictions on how much gold or silver can be bought
  3. A widening of their normal buying/selling spreads, or increases in trading fees (to cover the additional premium they are being charged)
  4. No longer accepting new clients due to an inability to source wholesale bars

While previous bouts of shortages have been temporary, don’t be complacent. It is possible that a temporary liquidity squeeze in the wholesale markets could turn into a gold bank run which can then turn into a price squeeze. It is important to keep your gold close or stored with non-banks, like The Perth Mint, who don’t engage in fractional reserve banking activities or lending your gold out.

What do you mean by production capacity shortage?

Getting gold/silver from a mine to a coin in your hand involves lots of different people and processes: mining, refining, blanking, minting, distribution and retailing. The amount of coins/bars that chain of processes can produce is limited by the process with the smallest capacity. When the capacity of this bottleneck process is below the quantity demanded by investors, then there is a shortage of capacity to service the demand.

For example, if a baker only has one oven it doesn’t matter how much flour, mixing machines or staff they have, they are only going to be able to produce so many loaves of bread per day. The same constraints exist in the precious metals market.

So what is the bottleneck in precious metals?

Raw Metal – as long as metal prices are above cash mining costs, mines will continue to produce. Even if there was a reduction in mine output, gold has over 60 years of mine production held above ground and this comes back into the market as scrap. Raw metal is therefore unlikely to be the bottleneck.

Refining – the refining industry is highly competitive and by Perth Mint estimates, has had excess capacity for decades, at least double normal mine and scrap volumes. It is also relatively easy for refiners to add additional electrolytic cells and expand capacity, so this process will not be a bottleneck.

Blanking – turning refined gold/silver into blank disc (also called a planchett) with an exact weight and imperfection free surface is a complex process performed by only a handful of manufacturers. This is the key bottleneck in coin production.

Minting – in contrast to blanking, the stamping of a coin is a much simpler process and there are a lot of private and public mints with large capacities, so this is less of a bottleneck.

Distribution/Retailing – while there has been a resurgence in the number of distributors and retailers (bullion dealers) in recent years, given the low profit margins bullion dealers are unable to hold large inventories of gold/silver, as the interest cost of borrowing the money to buy the inventory can significantly reduce their profits. Hence most dealers hold small inventories and/or buy from distributors and mints only when customers place an order. This can mean that dealers will run out of stock on a surge of demand, but should be able to restock quickly.

Why are blanks the problem?

Making coins is a two-step process: make blanks, stamp coin. The stamping part is relatively straightforward from a manufacturing point of view with the most complex part being the making of the dies to stamp the coin. Making a blank disc/planchett is lot more involved:

  • metal has to be melted in a continuous caster and turned into coiled strip
  • heating metal results in evaporation, so you need ventilation scrubbers
  • the strips are then rolled multiple times to an exact thickness
  • the strips are annealed between each rolling
  • the strips are then decoiled and blank discs are punched out
  • metal left over after punching needs to be remelted or re-refined
  • each blank needs to be weighed
  • depending on the quality of coin you want to make, the blanks may undergo various surface treatment processes (eg chemical pickling)

Given the greater complexity of the above process blank manufacture benefits from economies of scale and thus few mints make their own blanks and would rather outsource to simplify their manufacturing facilities. For example, the US Mint buys it blanks from outside suppliers, which was “part of the Reagan outsourcing of non-value added to the private sector. Mint’s value added is stamping” according to Edmund Moy, 38th Director of the US Mint.

But mints make millions of circulating coins, why can’t they do the same for gold and silver?

Mass base metal blank manufacturing deals in metals that are significantly less value that the face value of the coin. As a result, the process is optimised for speed, not quality or security: if a blank is no good, throw it away; weight control tolerances are lax (do you care if your copper coin has slightly more or less copper in it?); metal evaporating when it is melted is not recovered and so on. You cannot allow any of these things with gold or silver, due to their high cost.

Precious metal blank manufacturing requires additional weight control machines, scrubbers to collect evaporated gold, security to lock down the factory, etc. These add additional costs and time to the production of precious metal blanks.

On the minting side, circulating coin production is optimised for high volume/low quality production utilising high speed presses (12 coins a second) to mint coins of a small size, with low relief designs, and on blanks made of metal alloys that are hard enough to withstand such speeds (gold and silver are far too soft relatively speaking).

So why haven’t blank makers expanded their factories?

They have. Sunshine Minting Inc, who supplies the US Mint, was reported as having “almost quadrupled its staff to 270 since 2007”. The Perth Mint, also a blank supplier to the US Mint, has spent tens of millions on new equipment over the past decade.

However, this expansion has been conservative, based on modest projections of coin volume growth. The reason for this is that the cost of a modern blanking production line is high, given all the production steps involved. In addition, you have large working capital requirements cover cash costs and work-in-progress inventory.

Investing capital in production facilities only pays off if current demand for gold coins will continue for a number of years, otherwise one will not recover their investment. The question that executives in mints ask themselves is whether the increase in retail demand is permanent or temporary. If temporary, they don’t want to waste money on capacity that will be left idle. Additionally, since gold coin demand changes with the gold price it is hard to forecast future demand with reliability, making business cases difficult to justify to bankers.

For government owned mints, like The Perth Mint, getting agreement from bureaucratic government advisors to make an entrepreneurial decision to invest to meet future demand is hard, particularly since it will reduce the immediate cash flow that the government gets from the business.

Finally, once a decision is made to expand production capacity, it is not like turning on a tap – there is a big lag in getting additional the machines delivered and operational.

Why don’t mints stockpile blanks?

This would help but often the cost of funding the high dollar value of the blanks is not justified given the low margins earned on coins. Inventory funding costs are an issue throughout the whole industry and the resulting tight inventories (based on normal demand patterns) can be exhausted if there is a demand surge.

When mints run out of capacity, why do they ration production rather than increasing prices?

Most mints rely on a network of distributors to sell their coins. These distributors are often long-term customers of the mint who buy in volume. Rather than picking favourites, or those with the biggest cheque book, mints ration to maintain fairness of supply across all of their distributors (if one dealer cannot get any product they may go out of business).

For those mints who also retail their bullion coins directly to the public, yes they could make their long-term distributors compete at auction for their production with retail buyers. However, mints are at risk that when retail demand declines (which has often occurred in the past) their long-term distributors will remember how the mint took advantage of them and they will either take their business elsewhere or aggressively negotiate terms in retaliation. So based on past experience of the fickleness of retail demand, mints often decide to continue to supply their long-term distributors on a rationing basis rather than move to a “who pays the most wins”.

So what should I do if I see shortages and coin premiums increasing?

If it is not a real shortage of wholesale gold and silver, then don’t panic. Keep in mind that higher premiums mean you are getting less ounces for your dollar. Some strategies to maximise the amount of ounces you are buying include:

Wait – demand surges can occur when prices are high (bubble like herding) or low (bargain hunting). Check the price chart – if the price is high or spiking consider holding off as you may be able to pick up your coins at a lower spot price later, and at a lower premium, when the herd has stopped panicking. If the price is low or bottoming, then it may be cheaper to pay the higher premium rather than wait and pay a higher spot price.

Buy something different – premiums often surge in the most popular coin first (people usually favour their domestic government mint). Consider coins from other mints, government or private. Cast bars from recognised refiners are often cheaper as the casting process is simpler. However, check with your bullion dealer that they will buy back those other coins/bars at a fair price – you don’t want to pay less but receive less back when you sell, it is the spread between buy and sell that matters.

Buy pool accounts – because these are backed by wholesale bars, you can avoid high premiums but still buy at a low spot price. Many facilities will allow you to convert to allocated coins or bars and take delivery later, which you can do when premiums are back to normal. Even for those services which just offer online buying and selling, the total buy/sell fees may be lower than the excess premium you may pay, so it can make sense to sell your pool metal later and buy your coins/bars when premiums are back to normal.

Keep calm and carry on stacking.

Temporary coin shortages first started in 2008 after the global financial crisis and they have occurred repeatedly since then. Don’t get caught up in the marketing hype the next time a shortage occurs – if you follow the advice above on how to tell if it is a real shortage, or just a production capacity shortage, then you will be able to keep calm and carry on stacking (economically).

Jul 152015
 

Last Friday I discussed the US Mint suspending sales of its silver Eagle coin and noted that “at this stage we have not seen any demand surge out of the US but we would expect that if the shortage continues beyond a few weeks”. Well a few days later and The Perth Mint has been hit with a surge in demand for not just our silver coins but gold as well, as our US and European distributors scramble for product.

Due to The Perth Mint’s geographical distance from the US, during past shortages we have found that US distributors scour for supplies closer to home and then we get hit weeks later but this time the delay has been a lot shorter, indicating that dealers see this demand continuing and are trying to get ahead of it. The European interest is obviously not a mystery – bank and stock market closures in Greece are reminding people of the need to have assets outside the financial system.

Coin premiums for silver Eagles remain high (Sharelynx sources the data from Monex) but similar to other periods of shortage so far.

ASEprem1y

90% silver has also increased back to 2013 levels.

90prem2y

While anecdotal, this comment at the Silver Doctors website may indicate that we are starting to see new buyers come into the market:

Was at one of my LCS [local coin shop] and got to watch a transaction in front of me. This guy dropped $10,000 for a monster box of ASE + 12 more Eagles … And the guy leaves — and the dealer says to me…”He was in here on Friday and got a monster box too. He’s brand new, and something has him lit up, big time!”

This is important because new money drives the price. The Perth Mint’s experience over the past few years has been one of a lack of new buyers rather than any surge in selling by existing holders. We saw existing holders top up on gold’s big drop from the $1500s but then volumes dropped as those investors were happy with the size of their “stack”. The lack of new buyers in our opinion has been a contributing factor to weak precious metal prices since then.

The change in sentiment may not all be individual investors, with Yahoo Finance reporting that a recent Bank of America Merrill Lynch survey showed that “gold was viewed as ‘undervalued’ by fund managers for the first time since August 2009.” This may indicate the beginnings of a turn away from a generally negative mainstream financial market sentiment towards gold, although there is a long way to go on that front.

In terms of how to respond to these increases in premiums, I’d recommend this article by Clint Siegner at Money Metals Exchange. First you have to determine if the shortage is a “temporary bottleneck in the fabrication of coins and rounds, rather than something more permanent”. His view, which I agree with, is that this recent occurrence it is temporary, based on the fact that silver bar premiums have not yet risen or that “investors can still buy 1,000 ounce bars inside an exchange vault without paying an increased premium” (I’ve previously discussed what a real physical-paper disconnect looks like here.) His suggestion is to buy the larger bars (which is easily done via pool allocated type accounts) if you are worried about the price rising, and switch into coins or small bars when premiums return to normal.

It is often tempting to portray coin shortages and high premiums as positive, since they indicate strong demand. However, high premiums just mean that more of an investor’s money is going to coin dealers rather than buying more ounces, the result being that the price of gold or silver is not rising as much as it could – and that isn’t good in the long run.

Jul 102015
 

The announcement on Tuesday by the US Mint that it had sold out of silver Eagle bullion coins due to a “significant” increase in demand with no orders being taken until August and possible rationing thereafter has resulted in a surge in coin premiums.

Kitco reported that premiums “have already posted a 50% increase and pressure for further premium adjustments is expected” as “physical demand for all silver products has soared over the past two days.” USAGOLD had already been experiencing strong demand over the past two weeks but “today’s [Tuesday’s] price drop has encouraged another wave of interest.” Gainesville Coins said they were “BUYING American Silver Eagles for more today than we were SELLING them for yesterday!”

Silver Doctors has the best summary of the current state of supply and premiums in this post, with 90% junk bags at up to $3.00, Silver Eagles as high as $3.25 (wholesale), a doubling of premiums on silver rounds and bars, and expectations that the Royal Canadian Mint will soon announce a premium hike.

Silver Doctors feel that “if any further weakness materializes in the paper futures markets for gold and silver, we are looking at the very real potential of 2008 style physical premiums to acquire precious metals.” To put that statement in context, consider the chart below from Sharelynx.com with the current premium increases circled in red.

ASEprem

The current premiums are moving into the 20% of spot range but you can see we have far to go to reach 2008 levels. It is hard to read whether this shortage will be sustained, as the US Mint has not indicated how its blank suppliers are placed and what sort of orders it already had in the pipeline.

Unlike The Perth Mint, the US Mint does not manufacture its own blanks, instead sourcing them from others like the Sunshine Mint and The Perth Mint. The US Mint used to produce its own blanks but Edmund Moy, former Director of the US Mint‏, explains that the decision to stop making its own blanks was “part of the Reagan outsourcing of non-value added to the private sector. Mint’s value added is stamping.”

The outsourcing of blank manufacture is not really the issue as whether one has to source 1000oz bars or blanks, it comes down to forecasting demand and having enough silver bars/blanks in stock to get you over any demand surges. Forecasting can be tricky as demand responds to price and if anyone knew where the price was going with any certainty, they wouldn’t be wasting their time making coins and instead be a hugely profitable speculative trader.

In the case of The Perth Mint, we have good supply of raw silver from our refining operations and plenty in stock. At this stage we have not seen any demand surge out of the US but we would expect that if the shortage continues beyond a few weeks but we are seeing good pick in demand out of Europe for our silver kilo coins. We have recently invested in upgrades to our blank production line which should be operational in a month so are confident of being able to meet increased silver demand.

Some commentators are playing up this US Mint shortage as evidence of a shortage of raw silver but they are getting confused between a shortage of blanks versus a shortage of raw silver. I’ve covered such confusion in my personal blog in the past, see here and one also has to be careful not to confuse production capacity shortages (which I have argued are a real problem if we get mass market demand) with raw silver shortages.