This paper empirically examines a subsection of the gold market that has evolved within the last 20 years. To date, academic literature has primarily focused on analytical and empirical analyses of the physical gold market and the gold price. This study will contribute to the existing gold market literature from a different perspective: the lending market.
Therefore this thesis will initially investigate how the gold lending market functions in general. This will include an analytical overview of the main transaction types, the market participants and their intentions, the gold lease rate, and the impact of central bank lending policy. Secondly, it is unclear as to what the determinants of demand and supply are for the leasing market. Linking theoretical and empirical findings from the gold market and the gold price, this thesis seeks to set up a gold lending market equilibrium. With that, the gold lease rate is derived and empirically tested. The resulting determinants of the gold lease rate are developed with quarterly time-series data from 1990 to 2009.
Table of Contents
1 Introduction
2 The Gold Lending Market
2.1 The bullion market
2.2 The main transactions types on the lending market
2.3 Central banks and the gold lending policy
2.4 The development of the gold leasing rates
3 Literature Review
3.1 Gold and the gold price
3.1.1 Central banks and the gold market
3.1.2 The gold price
3.1.3 Hedging
3.1.4 Inflation
3.1.5 Shocks and safe investment
3.2 The gold lending market and the lease rate
3.2.1 The commodity lease rate
3.2.2 Convenience yield and the gold lease rate
4 The Gold Lease Rate Model
4.1 Central bank supply
4.2 Gold producer demand
4.3 Bullion bank demand
4.4 Derivation of the model
5 Data
6 Model Analysis and Results
6.1 The gold leasing rate
6.1.1 Leasing rates before 2000
6.1.2 Expected inflation and economic shocks
6.1.3 Counterparty and investor influence
6.2 Gold and the gold leasing rate
6.3 Speculative influence
6.4 The silver leasing rate
7 Conclusion
Research Objectives and Key Topics
This thesis investigates the functioning of the gold lending market, specifically focusing on the determinants of supply and demand for gold leasing. The primary research goal is to establish a gold lending market equilibrium by linking theoretical and empirical findings from the gold market, and subsequently deriving and testing the determinants of the gold lease rate using quarterly data from 1990 to 2009.
- The analytical overview of gold lending transaction types and market participants.
- The impact of central bank lending policies on the gold lease rate.
- The role of producer hedging activity in driving demand within the lending market.
- The influence of speculative behavior, inflation expectations, and market shocks on the gold lending market.
- The empirical derivation and testing of the gold lease rate model.
Excerpt from the Book
The Gold Lending Market
London has historically served as the market for trading precious metals, primarily gold and silver. Nowadays, it is also the center for precious metal lending. Since 1987, the London Bullion Market Association (LBMA) serves as a trade organization that represents the London bullion market. The London precious metal market is an Over-the-Counter (OTC) wholesale market and the minimum traded amounts are 1,000 ounces of gold and 50,000 ounces of silver. Thus, only wholesale participants are engaged.
Four different groups are active on the market. Producers of precious metals bear exposure to a hedgeable risk, the commodity price. One possibility to reduce the gold price exposure is hedging via forward transactions. As will be shown later in the theoretical section of this thesis, gold producers are basically concerned with the downside potential. If gold prices are low or declining, a higher level of hedging activity can be observed. A possible explanation might be the influence of gold clientele investors, who hold these investments to benefit from the gold price exposure. As holders of large inventories of gold, central banks try to earn a return on their gold portfolio and therefore lend gold to the market.
This fact will be further confirmed by representative evidence from the German and Swiss central banks. Speculative investors and financial institutions (bullion banks) are, on the one hand, engaged in the market-making process as intermediaries between gold producers and lending institutions. On the other hand, they attempt to benefit from the price developments by speculating on their own account. A minor group on the lending market consists of fabricators who manage their inventories of precious metals.
Gold loan transactions are mainly conducted by central banks that provide the needed liquidity for hedging purposes. In contrast to gold, central banks do not own sizeable amounts of silver. Thus, the silver lease market needs to be supplied from all the other market participants in the forward swap market.
Summary of Chapters
Introduction: Provides the context of the gold lending market, defining its historical importance, participants, and the objective to model the gold lease rate equilibrium.
The Gold Lending Market: Examines qualitative aspects of the market including bullion trading, primary transaction types (carry trade, loans, swaps), and central bank gold lending policies.
Literature Review: Summarizes existing academic research on the physical gold market, gold price determinants, hedging, inflation, and fundamental theory regarding commodity lease rates and convenience yield.
The Gold Lease Rate Model: Establishes the theoretical demand/supply framework and derives the mathematical model to determine the equilibrium gold lease rate.
Data: Describes the quarterly dataset (1990–2009) and variables used for empirical testing, including central bank lending, producer hedging, and market indices.
Model Analysis and Results: Presents the OLS regression findings for gold and silver lease rates, interpreting the impact of central bank activity, speculative influence, and counterparty risks.
Conclusion: Summarizes the thesis findings, confirming that central bank lending activity is the primary long-run determinant of the gold lease rate.
Keywords
Gold Lending Market, Gold Lease Rate, Central Bank Activity, Bullion Banks, Producer Hedging, Gold Price, Commodity Forward Pricing, Convenience Yield, Speculative Pressure, Inflation Hedge, Safe Haven, Exchange Traded Funds, Counterparty Risk, Financial Derivatives, Regression Analysis.
Frequently Asked Questions
What is the core focus of this thesis?
The work primarily investigates the gold lending market to understand how gold lease rates are determined, shifting the focus from the physical gold market to the lending-specific mechanics.
Which entities are the main participants in the gold lending market?
The market is dominated by three agents: central banks, which supply gold to generate returns; gold producers, who hedge their price exposure; and bullion banks, which act as intermediaries and speculators.
What is the primary objective of this research?
The aim is to develop a demand/supply equilibrium model for the gold lending market and to empirically test which variables significantly influence the gold lease rate.
What scientific methodology is utilized?
The study employs OLS (Ordinary Least Square) regression analysis using quarterly time-series data from 1990 to 2009, utilizing first-difference techniques to manage trends and multicollinearity.
What does the main body of the work cover?
It covers the institutional framework of the gold lending market, a review of existing literature, the derivation of a theoretical lease rate model, data preparation, and an empirical analysis of regression results.
Which concepts are essential to characterize this research?
Key concepts include Central Bank Activity (CBA), producer hedging, speculative pressure, and the relationship between the gold price and the lease rate.
How does central bank activity impact the gold lease rate?
The findings indicate a statistically significant negative relationship; when central banks increase their gold supply to the lending market, the lease rate typically declines.
What was the role of the Lehman Brothers collapse in the market?
The collapse increased counterparty risk, which the study identifies as a significant factor that led to spikes in gold lease rates during 2008 due to higher risk compensation requirements.
Does the thesis confirm that gold is a hedge against inflation?
The results provide mixed evidence, suggesting that while some literature supports it, the relationship between inflation expectations and the gold lease rate in this model remains complex and often deviates from simple theoretical predictions.
What is the significance of the silver lending market analysis?
The silver analysis serves as a robustness check, though the thesis concludes that the gold lease rate model is too specific to effectively explain the silver market, which is driven more by industrial fabricator demand.
- Quote paper
- Diplom-Kaufmann Christian Bohm (Author), 2010, The Gold Lending Market, Munich, GRIN Verlag, https://www.grin.com/document/164552
