Quote from: Melbustus on September 15, 2011, 02:58:30 AM

How does this happen, exactly? The GLD trust moves physical unleveraged, unencumbered gold, as I'm sure you know. So how could its price diverge from physical for more than however long it takes to ship gold? Or are you raising a more fundamental issue with confidence in enforcement of contracts, etc, that could arise in a scenario where fiat/existing-monetary-system really starts breaking down?

Yes, GLD is supposed to be backed by gold bullion that is completely unencumbered. There is question as to the "unencumbered" status, but we don't need to touch on that topic for now. It's only necessary to know that there is some flexibility available to GLD management in keeping the fund backed by gold.

In order to redeem any of the physical gold from GLD, a block of 100,000 shares must be redeemed in one shot. Also, this can only be done by an "Authorized Participant". This is impossible for the majority of investors, even with approval to go through the "Authorized Participant" for the redemption process.

At several points during its existence, the GLD fund has experienced major outflows of metal that do not seem warranted by any stretch. The largest instances of these are what trigger the GLD Puke Indicator.

GLD is used as a trading vehicle as well as for exposure to gold. Because of this, and the popularity of the fund with neophytes, it's easy for large interests to squeeze out those unprepared. Those big "authorized" players then pick up all the shiny GLD shares which can be redeemed as needed.

This is how the divergence occurs: as demand for gold continues while supply decreases, the fund will have an increasingly difficult time sourcing the asset. During these downdrafts in gold's price, major chunks of the metal in trust have been redeemed and will be again. If that's followed by a major rise in the price of gold with no supply available, the paper price will rise without a commensurate increase of gold held in the trust.

With little to no supply during a true bubble-like situation, the price of gold will not come down. Any of the approved institutions can still withdraw from the fund, taking additional gold with them. When this happens, the paper price represented by GLD will plummet while the physical metal will be virtually impossible to obtain. The GLD fund will then be forced to close and investors who couldn't get out (individual investors, retirement funds, etc.) will take a 100% loss because there won't be any gold remaining to back the ETF.

That point has obviously not been reached yet and there are other funds which have much more stringent standards and easier redemption mechanisms, but I wouldn't want to even be exposed to the possibility of being caught in such a situation.

Quote from: Melbustus on September 15, 2011, 03:02:55 AM

How about China announcing (http://www.bloomberg.com/news/2011-09-14/china-willing-to-buy-bonds-from-sovereign-debt-crisis-nations-zhang-says.html) that they're willing to bail-out debt-crises nations? Seems a natural move to make when you're trying to unseat the dollar as the world's de-facto reserve.

Sure, China's got the reserves to do so. It makes them look like the good guy and puts a yoke on the collective neck of the Eurozone nations. Also, since China has been buying up real assets for the past few years with it's depreciating US dollars, this is another means for the country to make its USD stockpile continue to work instead of just sitting there losing value.

There has to be a buyer for distressed assets. China (and other well-positioned nations) will be buying up foreign debt in distressed sales using the same crap paper they were paid. Paying back the debt will mean that the debtor nations will effectively become slaves (indentured servants, to be more euphemistic) to China - unless the debt can be paid off with worthless currency or war breaks out. This is the global transfer of wealth - it's taking place in more than gold.