Controls on the Gold ETF
Henry Fellerman
2-17-09
Demand for the SPDR Gold Shares (GLD), the gold ETF, is so great that if GLD were a country it would have the seventh largest gold reserves. From the day this gold ETF went public some of us have questioned whether GLD would be a way to invest in physical gold. The cynical among us suspected it was a scam that was designed to divert money from physical gold to paper gold. At the end of this message is a letter I sent to the SEC five years ago. I had a telephone conversation with an SEC lawyer about this, but nothing came of that. Though the SEC never answered my questions by now the answers are obvious.
Every public company is required to establish a system of internal controls to ensure its assets are safeguarded. In this instance we are seeking to establish a scheme to safeguard gold. We can compare what the management of GLD came up with to the system used by the Central Fund of Canada (CEF).
The internal controls of Central Fund have the following traits:
Define Terms
The Central Fund holds at least 90% of its net assets in gold and silver bullion, and at least 85% must be in physical form. A recent report to shareholders contained the following: “On October 31, 2008, 96% of Central Fund’s net assets were invested in gold and silver bullion. Of this, 99.3% was in PHYSICAL form and 0.7% was in CERTIFICATE form.” (Emphasis added).
Thus CEF defines what it means by the word “gold.” It can be physical, the stuff that will break your foot if you drop a bar. Or it can be paper gold. It also tells us how much it holds of each.
Legal Status of Gold
“Central Fund’s physical gold and silver bullion holdings may not be loaned, subjected to options or otherwise encumbered in anyway.”
Management could not be clearer on this point. Gold and silver belongs to the shareholders and nothing will be done to cloud legal title. Further, management will not engage in games with the bullion it claims to have, such as secretly disposing of it to manipulate the gold and silver markets.
Location and Means of Storage
Central Fund stores bullion “…on an allocated and fully segregated basis in the underground vaults of the Canadian Imperial Bank of Commerce (the Bank), which ensures its safekeeping.”
This is a very important safeguard. The gold and silver is held in an allocated and segregated basis. It is not comingled with the Bank’s other assets. Thus, in the event the Bank gets in to trouble, that gold and silver bullion will not be subject to seizure by the Bank’s creditors. This is such an obvious control that it is impossible for honest people to overlook it.
Control over Dispersal
“The Bank may only release any portion of Central Fund’s physical bullion holdings upon receipt of an authorizing resolution of Central Fund’s Board of Directors.”
It takes unusual efforts to get bullion out of the Bank. Also, this procedure provides an audit trail should bullion go missing.
Insurance
“Additional insurance against destruction, disappearance or wrongful abstraction is carried by Central Fund on its physical gold and silver bullion holdings.”
The insurance company does not want to have to pay on a claim. Therefore, it will send agents around to the Bank to ensure the controls are adequate to protect the gold and silver. This procedure gives a lot of protection to the shareholders.
Count the Bullion
“Bullion holdings and bank vault security are inspected twice annually by directors and/or officers of Central Fund. On every occasion, inspections are required to be performed in the presence of both Central Fund’s EXTERNAL AUDITORS AND BANK PERSONNNEL.” (Emphasis added).
So every six months the Chartered Accountants and Bank officials will audit the bullion and review the internal controls. This is the fundamental control over bullion. Given this policy, it is hard to imagine how the gold and silver could go missing without someone quickly catching on to the problem.
If you hired every Certified Public Accountant in America and every Chartered Accountant in Canada to design an internal control system to protect gold and silver bullion they would all come up with something similar to that used by the Central Fund. It’s just common sense.
How do GLD’s controls compare those of the Central Fund? The gold ETF has none of the controls used by the Central Fund. Not one. Instead, the governing documents are a wordy, winding, tangled mass of verbiage that seems designed to allow GLD to take in money but not purchase physical bullion. Or if they do buy physical gold, the procedures allow management to dispose of the gold while pretending it is still there. Not one CPA in America or CA in Canada would come up with GLD’s controls. Only sleazy executives and corporate lawyers are capable of creating such a system.
That the SEC allows the management of GLD to get away with this is a disgrace. It is just what I would expect from the government employees who enabled Madoff to get away with his scam for so many years.
Henry Fellerman
Denver, CO 80227
November 23, 2004
Chairman William H. Donaldson
Security & Exchange Commission
450 Fifth Street, NW
Washington, DC 20549
Dear Mr. Donaldson:
On November 18 streetTRACKS Gold Shares started trading on the New York Stock Exchange. I believe it is both the first commodity-based fund and the first that purportedly deals in gold bullion. The two sponsors, the World Gold Council and State Street, say little about their venture as it is in a permanent “quiet period” under SEC rules since it may issue additional shares in the future.
Though the sponsors may be quiet, streetTRACKS Gold Shares is getting a lot of free publicity in the press. A typical example is a story that appeared in The Seattle Times on November 19. According to the article, the fund “…is designed to give investors the opportunity to invest in gold without requiring custody of the metal, which can be expensive.” The reader is led to believe that by purchasing shares in streetTRACKS he is getting an investment backed by gold. All of the stories in the Main Stream Media leave a similar impression.
The attached article by gold analyst James Turk makes a persuasive case that streetTRACKS Gold Shares may not in fact have gold backing them up. I find this extraordinary as scores of newspaper articles are causing the public to believe that this security is just a convenient and inexpensive way to buy gold. Mr. Donaldson, this is no different that if you thought you have purchased a house when in fact the house didn’t exist. Wouldn’t that be fraud? How can you let so much misleading information about a security your agency approved be in the public record?
If the sponsors intended that Gold Shares have gold backing they would take the basic precautions of storing the gold in bonded facilities, purchasing insurance on the gold and requiring the gold to be subject to periodic auditing by independent auditors.
According to information at www.streettracksgoldshares.com, the security is “Designed to track the price of gold.” Not to hold gold, but just to track it. The public is obviously being misled.
Mr. Donaldson, a few questions:
If streetTRACKS Gold Shares issues shares to the public for money but doesn’t use the funds to purchase gold, has a fraud been committed?
If the money is used to buy gold but the gold is subsequently leased out, has a fraud been committed?
To the SEC is there any difference between gold in the vault and a promise to pay back leased gold?
Why is the SEC allowing such misleading information to be put out on a security under the agency’s jurisdiction? That the sponsors are in a permanent “quiet period” doesn’t seem to be an excuse. Surely the World Gold Council and State Street have an affirmative duty to correct the record.
I look forward to your reply,
Sincerely,
Henry Fellerman
Attachment: Where is the ETF’s Gold, by James Turk
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