Learn: Precious Metals ETPs

[This article comes from the Learn section of our website]

Investors turn to gold, silver and platinum for many reasons: inflation protection, risk management or even speculation. Metals ETPs have been enormously popular with investors in part because they can actually hold and store the physical underlying metal; thus, their fair value reflects the actual spot price.

In contrast, most other types of commodity ETPs depend on financial derivatives—commodities futures—to gain exposure. As a result, they incur additional costs and often gain unwanted exposure to variations between the futures markets prices and the spot prices of commodities.

Fortunately, when it comes to physically held metals ETPs, it’s all about spot.

What Is The “Spot” Price For Gold?

The world of precious metals trading revolves around the London Bullion Market Association and the London Platinum and Palladium Market. Both groups are trade associations that coordinate activities in the London precious metals markets.

Crucially, these two organizations set the “fixing price” once or twice a day, and those prices are the benchmark for the true fair value spot price of each metal. The exact procedure, timing and frequency vary from one metal to another, but the general process is that representatives from major metals dealers conduct a conference call. In that call, representatives present the net interest they’ve received (either to buy or sell), and the group adjusts the price up or down to match buy and sell orders and effectively “clear the market”.

Artificial Premiums And Discounts

Physically backed precious metals ETPs use the “fixing price” to assess the value of the metal that the fund holds and, in turn, to establish the published net asset value (NAV). Since the formal price is only fixed a few times per day, at most, premiums and discounts in physically backed precious metals ETPs are largely an artifact of market convention.

For example, the price of gold is fixed at 10:30 a.m. in London but, between then and the afternoon fixing, news that affects the price of gold could emerge. If the news causes an increase in demand, gold ETPs will show a premium, as their NAVs are still based on the previous fix and do not reflect the recent increase in demand.

This simple relationship hints at another valuable aspect of precious metals ETPs: price discovery. Between fixings, the markets look to other sources to assess the price of gold—futures trading in New York, for instance, or the trading price of ETPs. Since many precious metals ETPs are very liquid, and trade throughout the day, the markets look to the ETPs as a signal of supply and demand, and the prices generally “realign” at each fixing, as you might expect.

Currency Denomination

As with virtually all ETPs, it’s important for UK investors to keep an eye on currencies when investing in metals ETPs. Many GBP-listed precious metals ETPs buy and sell their metal in USD, so investors inherently have exposure to the USD. To avoid any valuation surprises, make sure the fund transacts in the same currency for which you usually quote the metal!

Location And Security

As an investor in a physically backed precious metals ETP, your shares represent an actual claim on the value of metal that the fund holds in vaults. Those vaults are audited regularly to ensure the physical metal is accurately accounted for. Physically backed metal ETPs are also subject to stringent quality requirements that ensure certain standards are maintained. In the case of gold and silver, bars must meet the requirements set forth in “The Good Delivery Rules for Gold and Silver Bars”, which is published by the London Bullion Market Association.

In some cases, investors can even choose where they want their precious metals stored. Many ETPs hold their metals in vaults in London, but variants exist that vault gold in Switzerland, New York or Singapore.

Regardless of where you choose to invest, ETPs are among the most cost-efficient, liquid and straightforward vehicles available for precious metals investors.