Gold’s Value as Collateral

On May 25, the European Parliament’s Committee on Economic and Monetary Affairs (ECON) unanimously approved the acceptance of gold as collateral by central counter parties, that is, financial institutions that operate as intermediaries between securities and market participants.

“It is very significant that the European Parliament is putting its weight behind the argument that the unique characteristics of gold make it an ideal form of high quality liquid collateral,” said Natalie Dempster, director of government affairs at the World Gold Council (WGC), in a recent press release.

At this time, the vote by ECON is not binding, as the European Parliament and Council of the European Union must ratify it and vote for or against its inclusion into the European Market Infrastructure Regulation (EMIR) after the July plenary vote. The plenary vote requires all assembly or meeting participants to be present during the vote.

“The ratification would mark a significant step forward in redefining what constitutes a highly liquid asset under the Capital Requirements IV Directive, due in the coming month, from the European Commission,” Dempster said.

Gold Accepted as Collateral

The Europeans are a little late in jumping on the bandwagon. The Chicago Mercantile Exchange Inc. (CME) announced on Oct. 16, 2009, that beginning on Oct. 19, it would accept gold as collateral. J.P. Morgan Chase Bank in London, England, was assigned as depository.

“CME Clearing is introducing an enhancement to the existing Performance Bond Collateral schedule. Effective October 19, 2009, firms will be able to post physical gold to CME Clearing to cover non-segregated (NSEG) Performance Bond requirements,” announced CME in its 2009 press release.

Since March 17 of this year, the New York J.P. Morgan Chase Bank NA became an additional depositary for gold. Other depositories include: Brink’s Inc., HSBC Bank USA, Bank of Nova Scotia, and Ledoux & Company Weighmasters.

IntercontinentalExchange Inc. (ICE), a leading regulated European exchange, trading platform, and clearing house, announced in November 2010 that it would accept gold bullion as collateral for energy and credit default swaps (under such an arrangement, the buyer has credit protection and the seller guarantees that the product is creditworthy), in addition to cash and government securities, which are already accepted as collateral.

“We are pleased to offer these enhancements as the first clearing house in Europe to permit gold bullion as collateral,” said Paul Swann, president of ICE Clear Europe, in a press release.

JPMorgan Chase & Co. made the move toward accepting gold as collateral in February of this year and relegated J.P. Morgan’s Worldwide Securities Services as the division with responsibility for the gold. The firm also let it be known that other precious metals may join the collateral list this year.

“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,” according to J.P. Morgan’s February press release.

In early December 2010, LCH.Clearnet, another independent clearing house group that serves the major international exchanges and platforms, included gold as a price risk management tool, as well as aluminum, copper, tin, nickel, zinc, lead, and other precious metals.

“We wanted to bring all the benefits of clearing to the bullion market, whilst enabling them to preserve the OTC [over-the-counter] nature of the business which makes it such a success. Together with the LME [London Metal Exchange], we look forward to supporting the future growth of the bullion market,” said Roger Liddell, chief executive of LCH.Clearnet.

However, LCH.Clearnet has not accepted gold as collateral yet, but has begun the process and will most likely accept it by the end of this year, according to the WGC.

Next…Gold Lessens Credit Risk