Monday, February 7, 2011

JP Morgan Makes Big Move in Gold Market - Someday a Financial Trap?

One of the biggest problems in the last few decades with gold is that you couldn't use it as collateral in normal every day finance transactions. So besides the fact it doesn't earn an income stream or pay dividends, it was also a dead asset in that it couldn't be used to leverage other assets. Well all that is changing.

From JP Morgan Press Release:

J.P. Morgan Collateral Management Offers Automated Use of Gold
First tri-party agent to accept gold

London, 7 February 2011 - J.P. Morgan today announced it is the only tri-party collateral manager to accept physical gold as collateral to satisfy securities lending and repo obligations with counterparties. This comes as more clients look to use gold as a hedge against inflation and to post as collateral.

"The ability to finance and leverage the broadest range of asset classes is important to our clients. Many clients are holding gold on their balance sheets as an inflation hedge and are looking to make these assets work for them as collateral," said John Rivett, Collateral Management Executive, J.P. Morgan Worldwide Securities Services. "By combining our collateral management and vaulting capabilities, we provide clients with greater flexibility in how they mobilise collateral."

The automated use of gold in collateral management is introduced under J.P. Morgan's Worldwide Securities Services global collateral engine initiative. This initiative enables clients to mobilize collateral inventories across multiple geographies and trading activities, regardless of the underlying obligation, to extract maximum value and manage risk.

The firm expects to accept additional precious metals and commodities as collateral later in the year.

This is a huge move by JP Morgan. They announced they will accept as collateral physical gold to satisfy securities lending and repo obligations with counterparties. Over time this seems to be a game changer for the gold market and will allow for a potential large gold bubble down the road. It is also interesting because if we do someday have a massive debt implosion and the system collapses this gives the government (i.e. JP Morgan) a way to repo the US gold holdings held by private investors. It has the potential to be a very keen laid trap. I don't want to imply there is a conscious effort of a keen trap being laid. Just that the trap is being created consciously or unconsciously. Used correctly this is very important for money management and opens up all sorts of possible avenues, but what at the beginning wise men do fools will do at the end. As we have learned rules can change overnight. Someday down the road if the system were to collapse and most of the gold is leveraged and used in various derivatives and swaps etc etc it could very easily end up where the banks and hence the government will end up with most of the gold in the world by taking possession of the collateral. They don't have to consciously scheme at all. It just falls into place. The government doesn't have to look bad confiscating anything because it was part of the collateral arrangement.

Who knows what gold does in the short term. It looks sort of weak technically currently but who knows. Long term this creates the dynamics needed for a big gold bubble. It makes gold alot less useless. I can still own gold and leverage it to own income producing assets.

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