Tuesday, June 05, 2012

Gold Capital Adequacy Ratios

Chinese gold rush
There has been some discussion about gold - capital adequacy ratios lately.
What is a capital adequacy ratio (CAR)?
Capital adequacy ratio is the ratio which decides the ability of a bank to meet its liabilities in the agreed upon time frame. This includes not going past the agreed time limit to repay debts as well as other risks such as credit risk, operational risk, and so forth.  This is the capital the bank uses as a cushion against any potential losses it might incur. It is designed to protect the bank's depositors and other lenders. Most nations define what the CAR is going to be and maintain the ir banks CAR in order to maintain confidence in the countries banking system.  Australia is a notable example of this where the current labor government, in the early stages of the GFC, instituted a guarantee for depositors of Australia Banks to ensure the depositors would not lose any funds in the event of a banking crisis.
This is expressed in the form of Tiers. 
Tier 1 is the core capital such as equity and disclosed reserves.
Tier 2 is supplementary capital, including a number of important and legitimate constituents of a bank's capital base.2    
Tier 3 capital is utilised as a support for market risk, commodities risk and foreign currency risk. The capital assets for Tier 3 must be limited to 250% of a banks tier 1 capital, be unsecured, subordinated and have a minimum maturity of two years. 3
Currently gold is a Tier 3 with a 50% risk weighting as it does today.  However The Basel Committee for Bank Supervision (or BCBS) are meeting shortly to decide if gold should be made a Tier 1 asset for commercial banks with a 100 percent weighing instead of the existing Tier 3 with just 50 percent weighing.  Together with the possibility of increasing the amount of capital banks must set aside this is a superb validating of gold’s ranking as an asset value.
This might be the reason the IMF is selling gold to central banks who are quietly buying up gold, many through intermediaries, all over the globe.  Also may be why NuWire investor along with Bill Gates, Buffet and others are dumming down the price of gold.  Governments and Banks don’t want to pay too much for their gold. 
China is on the band wagon.  Quietly buying up gold still like there was no tomorrow. According to the Hong Kong Census and Statistics Department “Hong Kong shipped 101,768 kilograms of gold to mainland China in April, up 62 percent on the month and marking the second-highest monthly exports.
Stephen Leeb, Chairman & Chief Investment Officer of Leeb Capital Management recently indicated, “Today the Chinese had record imports (of gold, roughly 104 tons) from Hong Kong.  The point is the Chinese are pretty smart about this and they are buying gold in record amounts. If you have a race to the bottom with all paper currencies, who is going to win?  It is any accident that the BIS, who define the rules for banks, are actually considering making gold a Tier-1 asset?  That could imply a re-pricing of the gold market.  I mean massive re-pricing because all of a sudden (gold) is, de facto, backing up some of these currencies.”4
And the CEO of Newmont Mining, one of the largest gold producing companies in the world, told King World News that China is doing, “everything they can to assemble a bigger gold portfolio.”
Richard O’Brien, the CEO of $24 billion Newmont Mining, also said, “Obviously China is now both the world’s largest producer of gold, as well as the largest consumer of gold.  Not one ounce shows up as legally leaving China.  I think that’s a strong statement that the Chinese people and the Chinese government are looking to hold on to and expand their holdings of gold over time.”
Not without reason it seems.  If Gold is included in Tier 1 of the Capital Adequacy Ratios this will increase its perception of value many times and that will contribute to a higher price of gold.

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