March 11, 2001

Portfolios, Etc.: A Stirring in the Long-Suffering Gold Market


A tremor is rumbling through the gold market.

The interest rate for lending gold, which generally hovers around 1
percent, was above 2 percent for 10 trading days and then surged over 6
percent on Friday.

What does this seismic change mean? Is it temporary, like some past spikes?
Or will it persist? If it does, it would mean higher gold prices ahead.

Higher prices are what the gold market needs. With a jump of $5.40 on
Friday after the surge in lease rates, gold for April delivery was at
$271.50 an ounce. But gold prices are still down 0.8 percent for the year
and just $17.80 above their 20-year low.

A rally would help gold stocks, which are already among the stock market's
best performers this year. Investors betting on such a rally often buy
gold-company stocks instead of the metal because stocks get a bigger lift
when the price of gold rises.

The lease rate is the charge for lending gold to producers, who sell gold
to lock in prices for future production, and to investors, who sell gold to
go short, hoping to make a profit if the price falls. The lease rate is
normally very low because the world's central banks have a lot to lend.

For years, gold producers and short-sellers have taken advantage of low
lease rates. And because the borrowed gold was sold to hedge or to bet
against gold, lending added to the downward pressure on gold prices.

So a high lease rate can shift market dynamics. The higher cost discourages
short- sellers from betting against gold. Many of them, in fact, buy gold
to unwind short positions and, in doing so, push gold prices higher, as
happened last week. The higher cost also deters producers from hedging.

But determining if the jump in lease rates is temporary or permanent is
difficult. First, this surge has no certain explanation. Second, it is hard
to judge probable causes in a market so divided between believers in the
"magical" qualities of gold and those who dare to treat it as a mere

The increase in the lease rate would be clearly significant if it could be
traced to a decision by one or more European central banks to curtail their
gold lending. The World Gold Council, which represents major gold
producers, has been lobbying central banks to do just that.

But while many analysts can say confidently that central banks are unhappy
with low leasing rates, they cannot say that a central bank has changed

One possibility, however, is that the Bank of England has reduced its
lending. That might not be a bad tactic, given that the bank will auction
25 tons of gold on Wednesday as part of its planned sale of 415 tons over
three years. If lease rates hold and the price of gold rises, the bank
could do better than expected a few weeks ago.

It would make sense for central banks to curtail their lending as a way to
support the price of gold, which many of them are selling. The problem is
that in recent years, any jump in lease rates has attracted other lenders
into the market, pushing the rates back down. So while the price of gold
has risen with increases in lease rates, it has also fallen quickly as
lease rates declined.

The last big lease-rate surge came in the summer and fall of 1999, after
gold hit what was then 20-year low of $253.70 an ounce.

By September, the one-month lease rate was more than 4 percent at an annual
rate. Then, on Sept. 26, European central banks announced that they would
limit their annual gold sales in the next five years to 400 tons and
restrict the amount of gold that they would lend to then-current levels.

That sent the lease rate to 9.9 percent. From Sept. 20 to Oct. 6, the gold
price jumped almost 30 percent, to $326 an ounce. But by November, the
lease rate was back below 1 percent and the price was less than $300.

Even if the current lease-rate jump does not last, it should produce a nice
pop in gold. And though it may be brief, that is about as good as it gets
in the gold market today. 

Copyright 2001 The New York Times Company

R. A. Hettinga <mailto: [EMAIL PROTECTED]>
The Internet Bearer Underwriting Corporation <>
44 Farquhar Street, Boston, MA 02131 USA
"... however it may deserve respect for its usefulness and antiquity,
[predicting the end of the world] has not been found agreeable to
experience." -- Edward Gibbon, 'Decline and Fall of the Roman Empire'

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