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Posted: Sep 12 2009 By: Jim Sinclair Post Edited: September 12, 2009 at 6:08 pm

Filed under: In The News

Dear CIGAs,

This article is important in that it raises the important question of failure of central banks to renew their gold leases, a key point of short of gold OTC derivatives.

This might just be one of the whys of Barrick’s decision to stop their hedging program. The other is the fact that margin call free short of gold OTC derivatives do in fact have a margin call provision but it is dependent on the financial condition of the company balance sheet, not the price of gold. However, the short debit must be considered in determining the condition of the producer’s balance sheet.

If people in this industry would now or previously had believed in me, billions would have been saved and now a large short position, trying to use every trick in the book, would not have to lose the money they certainly will.

The article has certain weaknesses but asks an important question:

1. BRE-X had nothing to do with gold hedging.
2. Gold leases rarely exceed one year and up until now were almost always renewed.
3. The obligation to see to the renewal of the lease was generally the responsibility of the gold bank that structured the short of gold OTC derivative.
4. Margin calls exist on all short of gold derivatives but are tied to the financial condition of the producer, not directly to the price of gold. However, in the formula to determine the financial condition of the producer, the loss on the short of gold OTC derivative is given consideration versus cash and loans outstanding. This may well have helped Barrick make their decision to eat a huge loss on the short of gold derivative.
5. Under present accounting rules the loss on short of gold derivatives will be charged to the projects for which the OTC short of gold derivative was taken. Next you will hear the cost of mining on many projects skyrocketing.
6. Leasing rates would certainly suggest that two factors are at play. Central banks are not interested in leasing gold and producers are not eager to establish any more short of gold OTC derivatives.

The important question is what happens when gold leases are not renewed. You may well just have seen it happen.

Along the line of requirements, physical gold will to some degree have to be purchased. Therefore to the degree that the entity owing the gold does not have the gold they will have to obtain the gold, or in the case of the selling central bank pay the cash due in lieu of gold.

Since the most likely lender to the US Gold Banks has been the US Treasury, they might have a large problem as the US supposedly does not sell. A failed lease is a sell.