When gold crashed on Monday, dragging market prices down to a low of $1321.50 an ounce from levels around $1560 only days before, holders of physical gold saw the value of their holdings decline as well.
However, we've seen a lot of claims that somehow there's a difference between the market for physical gold (people buying gold bars or gold coins) and that for "paper" gold (which refers to gold futures traded on the COMEX or shares of GLD, the gold ETF).
Jim Rickards, a prominent gold bull and author of the book Currency Wars, told Business Insider that the disconnect between the two markets evidenced by the crash on Monday is not one of price, but "in terms of behavior, in terms of people's responses to market developments."
So, what does that mean exactly?
Rickards uses a classic "weak hands, strong hands" analogy to compare physical gold buyers and paper gold buyers.
According to Rickards, the "weak hands" in the gold market were the over-leveraged buyers of gold futures and ETFs that caused prices to plummet in the recent sell-off.
"If you're an un-levered buyer of bullion - say, 10% of your investable assets - you kind of watched the headlines and watched the ticker [as gold crashed] on Thursday, Friday, and Monday, but it didn't affect you," says Rickards.
Below, Rickards expands on the analogy and explains where the hedge funds fit in:
Gold ownership is now divided between strong hands and weak hands. The strong hands are Russia, China, some of the other central banks, and anybody else who is buying gold for cash in physical form, without leverage.
The weak hands are retail jumping into GLD, at a top, using margin, futures players, and people who don't really understand gold. There are a lot of trend followers out there who started following gold on a trend basis, but didn't really understand anything about gold, or how it works, etc.
The hedge funds turn out to be weak hands, not strong hands. The reason is they've got redemptions. Hedge funds don't have permanent capital. They may have monthly redemptions, or quarterly redemptions, or one-year lockups, or whatever it is, but it's not permanent capital.
- Source, Business Insider
