Barclays has been fined £26m after one of its traders manipulated the gold fix. Is it time to overhaul the price-fix system and what are the alternatives? Simon Wilson investigates.
Barclays has been fined £26m after one of its traders manipulated the ‘gold fix’ – the twice-daily process whereby a panel of London bankers sets an agreed benchmark gold price – to avoid paying out $3.9m to one of its customers on a complicated options deal that was tied to the benchmark price.
Daniel Plunkett, 38, a former director on Barclays’ precious metals desk, rigged the gold price – sending it lower by placing big ‘sell’ orders just at the right time – the day after his bank was fined £290m, in June 2012, for rigging Libor and Euribor, the benchmark interest rates.
The customer smelt a rat, and when Barclays investigated – and informed the regulators – Plunkett lied to cover his tracks. He was sacked, barred from working in the regulated financial sector and personally fined £95,000.
How does the ‘gold fix’ work?
Every working day, at 10.30am and 3pm, four bankers acting as market makers – one each from Barclays, HSBC, SocGen and Scotiabank – hold a telephone conference call. (Until a few weeks ago a fifth bank, Deutsche, took part – but it quit and the space has not been filled.)
First, the chairman (the job rotates annually) suggests a price, close to the existing market price. Each bank then consults by telephone with clients as to how much interest they would have at that price. An auction-style process ensues of raising or lowering the proposed price until the bankers all agree that the ‘fix’ reflects market sentiment. This generally takes ten to 15 minutes.
The fix is then used by miners, jewellers, central banks and financial firms to value physical gold – and as the basis for markets in options, futures, and other financial derivatives based on the gold price.
It’s quite easy to rig then?
Those involved in the gold market defend the fix, arguing that it is entirely open and impossible to rig without being caught. Ross Norman, chief executive of bullion broker Sharps Pixley, notes that any systematic anomaly “would be grasped by dozens of institutions, who would make money on the arbitrage”.
James Moore, a London analyst who previously dealt in fixings at Bank of Nova Scotia, reckons that “because the fix takes place while the open market is still in operation”, any attempted manipulation would soon be spotted.
A growing number of economists, academics and gold traders see the gold fix (which started in 1919) as a hangover from an era when a City gent’s word was his bond – and when insider trading or frontrunning the market were perks, not crimes.
As Kevin Maher, a gold trader who is one of 20 plaintiffs suing the five ‘gold fix’ banks, and others, in a Manhattan Federal Court, puts it: “We now know that Libor was manipulated and that a bad odour is coming out of the [foreign exchange] market. So why not gold?”.
According to Maher’s lawsuit, “the lack of prohibition against trading during the [gold fix telephone] calls allows defendants to gain an unfair advantage because pricing information exchanged… provides them with insight into the immediate future direction of gold and gold derivative prices”.
And the academic evidence?
A handful of academic studies have documented “significant spikes in trading volume during, but not after, the fixing period”, suggesting information is leaking out of the meeting into the market.
One study, by Rosa Abrantes-Metz, of NYU’s Stern School of Business and Albert Metz, a senior Moody’s executive, identifies a number of large downward price movements in the run-up to the afternoon fixing.
Abrantes-Metz says the spikes are “too frequent and too large” to be down to chance. She also points out that the anomalous movements only became clear after 2004 – as the market in gold derivatives grew sharply.
What are the alternatives?
An alternative to fixing would be to take a price snapshot during the day when the market is most active. Brian Lucey, a finance academic, suggests to Bloomberg that the price could be set on a volume-weighted basis by taking an average and discarding the highest and lowest trades during a window. Taking a ten-minute snapshot of the London spot market, but moving the timing each day without notice, would make manipulation harder.
Alternatively, if the fixing system is perceived to be compromised or outdated, a benchmark could be provided by the London Metal Exchange if it added precious metals to its trading floor. “That would allow for larger volumes and provide greater… regulatory oversight,” says Hamburg-based analyst Peter Fertig.
A gold price conspiracy?
News that a banker was trying to rig the gold price comes as no surprise to the Gold Anti-Trust Action Committee (GATA). Formed in 1998 by Chris Powell, a newspaper editor from Connecticut, GATA is the best known of the pressure groups (or conspiracy theorists, depending on your take), who argue that the gold price has for decades been suppressed by global governments in collusion with the banks.
The basic argument is that gold is a powerful international currency that – if allowed to trade freely – would determine the value of other currencies, government bonds, and the level of interest rates. As a result, central banks suppress gold to prop up confidence in their currencies and bonds (see Gata.org).