Blockchain, Reign and the Paper Parade

For anyone contemplating an investment in gold, it’s crucial that you first understand the catalyst for such a decision. I think it’s fair to assume that the vast majority of us are likely pursuing an allocation of gold to our portfolio’s for a few reasons, all of which usually have something to do with a reluctance to participate in a fraudulent and flawed fiat money system, zero appetite for systemic risk or perhaps even a determination to go full prepper .

In recent years, gold ETF's (Exchange Traded Funds) and other paper contracts have surged in popularity, thanks largely to the massive growth in demand by those seeking instant exposure to the gold price without the subsequent security and storage stress. This is further evidenced in the trading ratio of paper to physical gold which sits anywhere between 200 and 250:1 [1].

Contrary to what you may have been told, the harsh reality is that any savings accrued during the quest to avoid custody and insurance fees are far outweighed by the fact that ETF investors are also buying into an increasingly disturbing level of counter-party risk.

ETF’s are a type of derivative like Options and Futures that allow you to buy and sell the rights to assets (stocks and commodities etc.). Unsurprisingly, excessive buying and selling of said rights often leads to directional swings in markets which inevitably culminate in the severe overstatement of actual supply and demand (2).

Gold ETF’s are basically a legal entity that hold gold bars with a custodian in vaults, while issuing securities or other fractional ownership claims against the gold. Now this might seem like a trustworthy system, however, If you’re anything like me, you'll struggle to unsee the possibility of greed miraculously weaselling it's way into the burgeoning derivatives market.

But wait, can’t we just redeem our gold ETF shares/securities for physical gold? Ironically, you can’t. The reality is that ETF’s are not required to hold cash or physical assets, and instead they may pay out authorised shareholders in kind. This means that if the ETF entity for some strange reason decides to liquidate or reduce their underlying holdings, then the respective value of your investment may or may not be returned to you in the form of more ETF shares or even a freshly printed batch of securities tethered to an entirely different ETF altogether [2]. In all possible circumstances, you never actually own the underlying asset. You’re just transferring fiat currency (a promise to be paid) into another promise to be paid masquerading under the safety of gold.

This is where Blockchain technology comes in, with the advent of tokenisation and the presence of immutable proof, blockchain tech has found itself in the box seat to overthrow the traditional derivative market structure. Products like xbullion’s GOLD or SILVER tokens are backed 1:1 with physical gold stored in Geo-dispersed vaults, which are continuously audited by one of the most reputable auditing firms in the world. Each token is secured by 1 gram of 9999/LBMA physical gold which is directly owned by the token holder, upheld by the record on the blockchain, this information cannot be removed, reversed to otherwise tampered with. The tokens can be redeemed in 1kg units for physical delivery at the investors request. 

If that wasn't enough to break the proverbial humped back of the paper gold markets, then perhaps the fact that xbullion's GOLD and SILV tokens also carry no storage, custody or insurance fees for investors might. At this point I'm seriously struggling to find any reasons for the paper gold market to maintain its monopoly over global gold transactions. But just in case I've missed something, let's re-summarise the pro's and con's.

By utilising the current gold derivative offerings, investors can earn exposure to the spot gold price, without ever actually owning the underlying gold. They also successfully avoid any storage and insurance related fees. Oh hang on, why would the investors ever need to pay insurance fees considering they're not actually buying gold, they're just buying an entitlement to a share of something that they'll never actually hold. 

Imagine that you go to a store and decide to buy shares in some sturdy shoes because you're concerned about the rise in splinters and spinal injuries (you'd like to hedge your risk). You opt for shares over physical shoes knowing that you'll never be able to wear them, hold them or even see them, as you'd like to avoid the storage issues. 

When the shoe salesman (still in possession of said shoes) decides to sell them to someone who actually wants the physical shoes, presumably for the same price they sold them to you, then the best you can hope for is to be compensated in more shoe shares or perhaps, the shoe provider might decide on a whim that it's no longer in their best interests to sell you shoe shares so instead they'll pay you out in sock shares. 

Yes, they should go nicely with all those promised shoes.