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London gold market wrestles over future: 'People want the physical, not paper'

Section: Daily Dispatches

By Henry Sanderson
Financial Times, London
Thursday, February 4, 2016

There aren't many places in the UK where you can walk in off the street and buy gold as a retail customer. A new store in London's St James's Street a stone's throw from the Ritz wants shoppers.

"There is unquestionably a physical renaissance going on," says Ross Norman, of Sharps Pixley, flanked by cabinets showing gold roses and gold watches under a large chandelier. "People want the physical [gold], they don't want the paper. It's suggestive of an environment where trust is less than it used to be."

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Guests drinking champagne at the opening party last week included some of the most influential names in London's gold market. But while retail demand for gold is surging, the market is wrestling with a bigger issue: how bankers and traders set the price they will pay.

London's 250-year-old gold market faces a fundamental question: should the city remain a market where gold is traded between buyers and sellers directly, as it has been for decades, or move on to an electronic gold exchange. How that is resolved will ultimately affect the price for a customer when they walk in and buy a gold bar in the Sharps Pixley store.

In a first step, on Thursday, the body that oversees the London gold market, the London Bullion Market Association, plans to issue a tender for proposals to build an electronic hub where all trades will be recorded.

That's set to open the door to further ideas for changes to the market. A few companies are lobbying for gold to move towards a blockchain-based solution, based on the network behind the digital currency bitcoin.

Other exchange operators are eyeing a London-based gold exchange. Garry Jones, head of the London Metal Exchange, who attended the party in St James's Street, wants to launch a gold futures contract that could be settled based on the delivery of physical gold bars.

The LME is talking with five banks on a project backed by the World Gold Council, according to a person familiar with the matter. The banks involved are ICBC Standard Bank, Citigroup, Morgan Stanley, Goldman Sachs and Societe Generale SA, the person said.

In a world where many areas of finance are being transformed by high-speed computerised trading, London gold transactions are mainly conducted via telephone or through banks' own individual systems. There is no data on how much gold is actually traded in the city every day, though it is estimated that roughly three-quarters of the world's bullion dealing takes place in London.

The lack of a unified system has led to liquidity -- the amount of trading on any one venue -- becoming fractured, a point made by some banks to the LBMA, according to a person familiar with the process under way at the association. "The liquidity providers think there is enough liquidity and don't need to aggregate everything -- others think it could be more simplified," says the person.

Currently the LBMA has 14 market maker banks which quote two-way or buy and sell prices in both gold and silver. But other banks have withdrawn from trading gold in recent years.

The two largest bullion banks, HSBC and JPMorgan, are not currently involved in the LME project.

Having a platform to collect trade data would make the London gold market more transparent. That in turn would provide a greater defence against regulators who are wary of any financial market where the price is set between banks, say market participants. It would also help in negotiations over proposed tighter capital requirements for banks.

"There has been discussion about moving to a centrally cleared model but there isn't an example where any market has done that without a regulatory push -- because it levels the playing field in terms of pricing," says Seamus Donoghue, chief executive of Allocated Bullion Solutions in Singapore.

The LME would not comment on any plans for a gold futures contract. The exchange's clearing house, LME Clear, is already approved to deal with gold.

Analysts warn that any newly launched futures contract will need to receive the backing of all London bullion banks. It is also a competitive market: there are already popularly traded gold futures contracts on the Comex exchange in the US, the Shanghai Futures Exchange and the Tokyo Commodities Exchange.

"People feel comfortable where they've already been and Comex has already got such a footfall in terms of people using those exchanges," says Sharps Pixley's Norman, who started off his career trading precious metals at Rothschild, at the sidelines of the opening party. "The question is whether you'll get participants. My personal view is they may struggle. I don't think there's unmet demand."

Whatever format it takes, one thing is clear: London's gold market faces a change.

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