Editor’s Note SECTION 9 Introduction London Bullion Market Association Lending and Borrowing London Platinum and Palladium Market Metal The Price London Good Delivery – Gold and Silver Deposits and Leases Good Delivery – Platinum and Palladium London Precious Metals Clearing Limited Calculation Basis Precious Metal Accounts Interest Paid in Currency or Metal Lending and Borrowing Metal Lending Allocated Metal Options Precious Metal Benchmarks Forwards Bank of England Outright Forwards Futures Markets and Exchange Traded Products Forward Forwards Physical Metal Documentation Short Dated Forwards Market Regulation Transaction Dates Taxation ‘End End’ Convention Conversion Table Key Facts about Precious Metals Market Size Clearing Statistics Contango or Backwardation Market Trade Statistics Central Bank and Governmental What Determines Metal Interest Rates Ownership of Gold Properties of Precious Metals Receiving Interest on a Deposit Frequently Asked Questions Options Annexes Disclaimer BACK TO CONTENTS 39 THE GUIDE 2017 - Version 1.0 Editor’s Note Lending and Borrowing Metal Introduction London Bullion Market Association It is often blithely asserted that precious metals have no interest rate. At maturity, the loan can be rolled over (depending on credit This is incorrect. considerations), either with the existing lender or with another bank. London Platinum and Palladium Market The lender has full credit exposure to the borrower over the amount of The Price Deposits and Leases the loan – the currency value of which will fluctuate as the underlying The rationale for lending and, particularly, borrowing metal will vary metal price increases or decreases. London Good Delivery – Gold and Silver between gold, silver, platinum and palladium. However, very broadly speaking, lenders of metals will be seeking a return on their investment, However, it is unlikely that the fibreglass manufacturer will have ready Good Delivery – Platinum and Palladium whereas the borrowers will have a variety of motives. These can range access to additional platinum (save by buying it) to repay the interest and London Precious Metals Clearing Limited from miners seeking to hedge future output to industrial companies may not be willing to accept the unquantifiable risk in being effectively borrowing platinum and palladium that will be turned into catalytic short platinum for a year. Therefore, the loan is likely to be converted Precious Metal Accounts convertors before being installed in a petrochemical plant. from one where interest is payable in metal to one where it is payable in Lending and Borrowing Metal currency – on the basis that a manufacturer is more likely to have access Clearly, the range of motivations is far wider than those listed above, but to currency than metal – at the spot price at inception. Options the calculation on deposits and leases remains the same. Using the same numbers and example, a fibreglass manufacturer wants Precious Metal Benchmarks For example, a fibreglass manufacturer wants to borrow 2,000 ounces to borrow 2,000 ounces of platinum for a year to use the metal in the Bank of England of platinum for a year to use the metal in the industrial process. For industrial process. For illustrative purposes, if it is charged an interest rate illustrative purposes, if it is charged an interest rate of 4% and the day of 4%, the platinum price is $1000 per ounce and the day count is exactly Futures Markets and Exchange count is exactly 365, then the calculation for the interest owing at maturity 365, then the calculation for the interest owing at maturity is simply: Traded Products is simply: ((2000 x $1000 x 4%)/360) x 365 = $81111.11 Physical Metal ((2000 x 4%)/360) x 365 = 81.111 ounces Documentation At maturity, the loan can be rolled over (depending on credit considerations), either with the existing lender or with another bank. The Market Regulation lender has full credit exposure to the borrower over the amount of the loan – the currency value of which will fluctuate as the underlying metal price Taxation increases or decreases. However, the manufacturer has certainty over Conversion Table the amount of interest owing at maturity – obviously, this could equally be priced in euros and so on. Key Facts about Precious Metals Calculation Basis Clearing Statistics The day count convention used in the above example calculation is known Market Trade Statistics as actual/360 (actual over 360) – the total number of days for the loan divided by the theoretical length of a ‘year’. This applies for the metals Central Bank and Governmental whenever interest is to be paid in metal or in a currency and where the Ownership of Gold convention is for a 360-day year. Properties of Precious Metals However, where interest is to be paid in a currency where there is a 365- Frequently Asked Questions day convention – in GBP (pounds sterling), AUD (Australian dollars) and ZAR (South African rand), for example – then the calculation becomes Annexes actual/365 (actual over 365). Disclaimer Manufacture of fibreglass BACK TO CONTENTS Editor’s Note Introduction London Bullion Market Association It is perhaps worth noting that a leap year would not result in the theoretical length of a year increasing to 361 or 366 days (from the 360 London Platinum and Palladium Market and 365 date conventions mentioned above, respectively). The Price Interest Paid in Currency or Metal London Good Delivery – Gold and Silver In a low interest rate environment, there is generally no difference in the rate as to whether the ultimate interest is to be paid in currency (US dollars Good Delivery – Platinum and Palladium as in the example above) or in the metal itself. London Precious Metals Clearing Limited Indeed, it is unlikely that a fibreglass manufacturer would have the ability Precious Metal Accounts to pay 81.111 ounces of platinum in interest – it would also expose it to price movements in the value of platinum, which may well be undesirable Lending and Borrowing Metal from its point of view. Therefore, and as illustrated above, it is much Options simpler for the lender to translate the loan into USD equivalent and for the borrower to settle the interest charge in USD (or JPY, EUR, etc.). Precious Metal Benchmarks However, it is generally true that the principal – the 2,000 ounces in Bank of England the example – will be repaid in metal. Futures Markets and Exchange The rationale, and impact on the rate levied, for whether interest is One of the Bank of England gold vaults Traded Products repayable in currency or commodity is dealt with later in this section. The role of the Bank of England in the market is dealt with at greater Physical Metal Lending Allocated Metal length in section 12. However, one of the primary functions of the Bank Documentation The simple answer is that it’s not possible to lend allocated metal. Allocated is as a custodian for the UK Government, central banks and certain metal is associated with specific bars in an account and, clearly, it is not commercial firms. To reiterate from section 7, the Bank of England Market Regulation possible to lend specific bars and expect to get the same ones back while primarily offers gold accounts to central bank customers and to certain receiving a return – in the same way that no one would be interested in Taxation commercial firms that facilitate, either directly or indirectly, access for a currency loan in which the requirement was to hand back the same central banks to the liquidity of the London gold market. Conversion Table banknotes as were originally lent. As of July 2017, it has been calculated by the World Gold Council (using Key Facts about Precious Metals Therefore, allocated metal becomes unallocated when it is lent but can be data from the International Monetary Fund’s International Financial returned as allocated. Albeit, it will be returned with different bars and will Clearing Statistics likely be of a (slightly) different weight. Statistics) that the world’s central banks hold 33,399.2 tonnes of gold. A listing appears in section 22. The most recent version of this data can Market Trade Statistics The single grouping with the greatest concentration of allocated metal is the be found on the World Gold Council’s website. world’s central banks and the stocks of gold that they hold. Some of this Central Bank and Governmental Ownership of Gold stock will be held domestically, some may be held in the Federal Reserve If a central bank wishes to lend its gold, it will source a deposit rate from in New York, while a major proportion is likely to be held in the vaults of the a commercial bank and agree to lend the metal assuming the rate is Properties of Precious Metals Bank of England in London. Indeed, its vaults held in excess of 163 million acceptable. Implicit in this dialogue is that the central bank understands ounces of gold, equivalent to some 5,080 tonnes, as of March 2017. For that it will not be returned the same gold bars that it lent out and that Frequently Asked Questions while it previously had no credit risk, with the metal having been held the latest data, please see the Bank of England’s website. It should be Annexes noted that all gold held in the Bank of England is allocated – no metal other allocated at the Bank of England, it now has an exposure in the full than gold is held at the Bank. amount of the deposit to the bank to which it lent the metal. Disclaimer 41 THE GUIDE 2017 - Version 1.0 BACK TO CONTENTS Editor’s Note Introduction London Bullion Market Association The earlier example of platinum and the fibreglass manufacturer is Forwards London Platinum and Palladium Market replicated for the calculation for a central bank lending gold to a Clearly, the types of transactions in the previous section all have full commercial bank with the interest payable in metal – although this principal credit risk – plus any accrued interest – on the borrower from the The Price need not be the case and a central bank could equally request interest lender.