Gold has established itself as a store of value for thousands of years; however, the London Bullion Market Association says it faces further work to establish it as an important financial asset within the larger global marketplace.
After helping bullion banks avoid a funding crisis because of Basel III regulation, the LBMA said they are now focused on getting physical gold recognized as a High-Quality Liquid Asset (HQLA).
According to the Basel Framework, laid out by the Bank of International Settlements (BIS), financial institutions must hold HQLA to cover their total net cash outflows over a 30-day period under the stress scenario.
“In order to qualify as HQLA, assets should be liquid in markets during a time of stress and, ideally, be central bank eligible,” according to the Basel Framework.
While at first glance, gold easily fits this definition, the LBMA said that they lack the data to prove its worth.
Sakhila Mirza, executive board director and general counsel for the LBMA, said in a press briefing during the association’s 2023 Global Precious Metals Conference that although investors have seen how gold has reacted to times of market chaos like the 2008 Great Financial Crisis and the 2020 pandemic, the market has actually never been properly stress-tested by financial authorities.
Mirza explained that one area that needs to be improved for gold to be considered a High-Quality Liquid Asset is more transparent benchmark pricing data. The LBMA established precious metals benchmarks in 2015 with the twice-daily published LBMA Gold Price. LBMA also established daily benchmark prices for silver, platinum and palladium.
Ruth Crowell, Chief Executive Officer of the LBMA, said the crucial market information missing is related to lease rates and go-forward rates.
Bullion banks can make money on their unallocated gold deposits by leasing out the precious metal to jewelers or other end users. Meanwhile, go-forward rates, also known as gofo rates, set an international standard rate to swap gold for U.S. dollars.
These two rates were based in part on the London Interbank Offered Rate, or LIBOR. After financial institutions were found guilty of manipulating the LIBOR rate, it stopped being published earlier this year.
Crowell said that one of the LBMA’s tasks is to establish a new rate benchmark.
“As interest rates have started to go up again, there’s client demand for leasing and wanting to see those transparent prices. I think a challenge with any benchmark is everybody wants a good, robust benchmark that they can all count on, but nobody wants to be involved in it, ideally,” Crowell said in the briefing.
While the LBMA’s challenges could seem academic, as gold has always been viewed as a traditional store of value, Crowell said that this new focus has significant implications as the market continues to grow.
Under the Basel III rules, gold is not considered a completely liquid asset and any financial institution holding unallocated metal would have an 85% Required Stable Funding (RSF) requirement. This regulation requires organizations to hold more cash to match their gold exposure as a buffer against adverse price moves.
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In comparison, an asset like U.S. Treasuries would be considered fully liquid and unencumbered assets with 0% RSF factor.
In late 2021, as the Basel III rules were being implemented, the Bank of England carved out a small section that would allow bullion banks, for the purposes of deposits and clearing activities, to have no RSF for their gold holdings.
However, the LBMA noted that this is just one segment of the gold market.
Mirza said that while the Bank of England decision was a massive win for the gold industry and bullion banks, more work needs to be done.
“We got as far as we could on NSFR,” she said. “Now let’s go back to the core of the challenge, which is getting gold recognized as HQLA.”
Crowell added that even though clearing activity has been carved out, giving bullion banks a lifeline, the impact of Basel III is still being felt among major institutions.
“The real pain comes with the real economy,” she said. “People who can’t afford to get out of precious metals, other than shutting business down.”
Source: Kitco
