The U.S. Justice Department and Commodity Futures Trading Commission have set out to unveil the world of trading metals in London. And from the wide selection of metals to choose from, gold is looking like their primary point of focus. Investigators from both organizations are looking for the smoking gun linking some of the biggest banks in the world to allegations of market rigging, a task European investigators have already stopped pursuing.
The metals probe was launched before Christmas, and is a process in which benchmark metal prices have been set in the private world of London banking throughout history. But there are deeply-rooted flaws in benchmark setting regarding interest-rate setting and foreign exchange dealing. And some of these age-old practices aren’t tolerated in the high-speed financial transactions of the modern world. What is presently happening with the metals market is the lax old-world London methods, where your word is your bond, is trying to intertwine with the tightly regulated and by the book new-world business.
Take the gold market for example. It was created after the First World War when banks were in need of a reliable daily price in a time when gold was the only global currency. It was named the London Gold Fix, a benchmark prices set back in Sept. 1919 when five London-based banks compared market information over the phone. The system later evolved to two daily meetings where a morning and afternoon gold price would be set. Multiple changes have been made to adapt to a changing market, and allows gold prices to be set electronically on markets open around the clock.
Until recently, rules were set from this early-century foundation that had members of the gold fix committee around a table with there flags in front of them. Upright flagstaffs meant the member was still negotiating prices while lowered flags meant an agreement had been reached. The “official” system up until a few years ago had a staff member from an industrial metals magazine phoning a select list of market contacts to gather prices that were then combined to produce a published prices. Obvious flaws left this “official” system open to the distribution of false prices by metal traders.
An Australian mining company became suspicious of inconsistent price quotes on the cobalt it produced as a by-product of its nickel mining. The solution to this “official” catastrophe was direct dealing through internet auction announcing the availability of their cobalt stocks to bidders in the market. Nickel later developed this direct dealing due to it high success rate and profit margins. The point of this cobalt story in regards to the London gold fix is to raise this question: what will become of the U.S. Justice Departments findings? Will we slap them on the wrist with some fine and go back to business as usual? Or will we evolve like cobalt and make the market harder to manipulate?
