11 September 2008

Dubai Multi Commodities Centre

Ian MacDonald, Executive Director - Gold & Precious Metals Dubai Multi Commodities Centre

ERIC KING: Welcome back to the Financial Sense Newshour. This is Eric King doing this segment of the show. There is a debate raging about whether or not there are physical shortages in the gold market. Whenever it come to an issue like this, there are a lot of people with half-informed opinions that are really creating a lot of static and noise, and they are doing a great disservice in trying to get to the bottom of the issue when the best thing they can do is to be quiet. One person who does have his hand on the pulse of this issue is Ian MacDonald who joins us from Dubai, otherwise known as the “City of Gold.”

Ian, before we get started, I just wanted to thank the government of Dubai and its press department for their generosity in allowing a senior government official to be interviewed on Financial Sense Newshour. I think the global audience will appreciate the input you have today, particularly on the subject of the physical gold market.

Ian, Dubai is known as the City of Gold and you're one of the largest physical trading hubs of gold in the world. Can you give listeners a little bit of background as to what it is you do in Dubai at the DMCC or Dubai Multi Commodity Center.

IAN MacDONALD: Oh, certainly. First of all, let me start by saying the government of Dubai is probably unlike any other government in the world. It's a very entrepreneurial government, and one of the reasons I think the government here is entrepreneurial and very keen to promote businesses is really based on the fact that the oil here in the – certainly in Dubai is scheduled to probably run out in 2015, so the government is very keen to promote other businesses and diversify away from the oil. In fact, the oil components of the GDP for Dubai right now is a very smooth path for GDP.

But to go back and answer your question, Eric, basically the DMCC was founded by a royal decree in 2001 to look after the commodity space here in Dubai. We've got a number of divisions. I head up the gold division, but I've got colleagues heading up energy, diamonds, general commodities, soft commodities, steel and so on. And the list goes on and on and on and actually keeps growing by each year. But my job is to focus on the precious metals –and as you said, we are one of the largest trading hubs in the world – looking after the gold and the other precious metals. And the purpose of our function here is to really promote gold, the whole gold industry from A to Z. Essentially we have been looking after the physical market making sure the infrastructure is in there, the regulatory structure is in there, which is very, very important; and last but not least, good governance because you know, unless you have good governances, markets will not grow. You've got to have international confidence. [41:51]

ERIC: I agree with you. We're having a problem certainly with that on the US side right now. We won't get into that though. As a senior government official, one of the aspects of your position at the DMCC is to promote growth, and one of your most recent initiatives has been to launch the DGR or Dubai Gold Receipts. This is an award-winning platform for dealers to finance physical gold inventories. Can you comment on that?

IAN: Oh, absolutely. This was actually launched a couple of years ago prior to my arrival at the DMCC. The rationale and the concept behind that was we were actually concerned several years ago, the government, that there could be a credit crunch, so it was a very forward thinking idea and we wanted to make sure there was plenty of finance available in the markets to finance gold inventories, silver inventories and products and so on. So what we actually did, we developed an electronic financing platform. It's 24/7, it's real time, where essentially traders can import the gold into Dubai, put the gold stock into an approved warehouse and for financing, and then once it's delivered, a receipt is issued via the electronic platform and the banks on the system can look at the receipt and make a proposal to the trader or the potential borrower for financing terms. And it's all done electronically, it's very fast and unlike traditional trades of finance where you need an army of lawyers in the room and this – with the DGR (Dubai Gold Receipts) you do not need that. In fact, it gives the lender full title and full security, so the international banks and the local banks here do have full security to the underlying product they finance, and it can go on indefinitely the term of the financing. But it's fully secured and fully backed by the government of Dubai, the DMCC. [43:58]

ERIC: You also have the DSAM or Dubai Shariah Asset Management, which is a fund to invest in the commodity arena. Can you talk about that because if you listen to people like Bill Gross who manages the largest bond fund in the world, or say a BHP Billiton or even a CalPERS, there is going to be increasing demand for this type of instrument going forward for investors globally, and you are filling this need with this type of fund, are you not?

IAN: Oh, absolutely. Basically, we're due to launch DSAM, which stands for Dubai Shariah Asset Management Company. We're going to be launching the fund this month, later in the month, but what we saw – although we had done a lot of initiatives for the physical markets here and we will continue to insure that the physical markets continues to grow here, we needed to bring the financial market – the banks and the institutions – closer to the physical markets. So one of our first initiatives was to create DSAM which is a joint venture between the DMCC and Shariah Capital in the USA which is a USA company and listed on the AIM in London. (And for your listeners, that's the Alternative Investment Market.)

But what we're going to be doing is essentially launching a fund of funds focusing purely on the commodity space here in Dubai and we're going to have a gold fund, we're going to have an energy fund and a natural resource fund, a metals fund, from say base metals and we're just going to launch a number of funds. And in fact, we have appointed some fund managers. I can mention Tocqueville Asset Management and Lucas and Zweig will be amongst the initial fund managers – they are all US based – to come out with the various funds. The DMCC will be seeding the funds with 50 million US dollars per fund initially. But the fund is going to be open for anybody in the UAE or any other part of the world to invest in these funds.

The other thing we've been very keen to do is to make sure that all of or new initiatives for the financial side are Shariah compliant. This is a very, very important issue here in the Middle East and generally to roll out Shariah compliant products. And for your listeners that is really to make sure that any investment product here in the Middle East are conformed to Islamic law. [46:46]

ERIC: You will be launching five funds this month and you started to get into that, but it was interesting to me because you're going to launch a gold ETF on the DIFX later this year, and even though you're such a physical gold hub of the world, I think there is going to be significant demand for that product. What are your thoughts on that?

IAN: Well, we do too, and again on the gold ETF, it is modeled on the same model as the one launched on the New York stock exchange and the symbol GLD. And we have the same joint venture partner for that, which is the World Gold Council in London, and the difference being largely our gold ETF will be Shariah compliant again, which is as I pointed out extremely important for this region; and the only difference being the depositories will be in London and Dubai and the rationale for that is to insure that we've always got plenty of liquidity in the gold markets for the gold ETF. We're planning to launch that later this year and we'll track the price of gold, of course. [47:59]

ERIC: Let me ask you, Ian, because you've been at this for 30 years, and when you described the demand for gold to me in an earlier conversation, you described it as quote mind blowing. You said, again I'll quote you: “To be candid, I've never seen such a disparity between the paper market and physical market in my entire career. We are actually seeing shortages of physical gold in the market due to the surging demand in this region.” Can you elaborate on that a bit?

IAN: Well, yes, certainly. And by the way, it's not only myself. It's other veterans of the gold market are saying similar or making similar comments about the strong demand. You know, demand here in the UAE has been going up and up and up. I don't have the figures in front of me, but last year we were about 560 metric tonnes coming through Dubai and physically shipped from all over the world. But this year, it's clearly going to be higher. The first half of the year we were up 40 plus percent in terms of value on the gold. Obviously, a lot of that was due to the higher prices, but nevertheless, it's still a higher tonnage. But what we're actually seeing now, Eric, is quite a swell in demand, and it's a bit of a mystery what’s behind it. We've gone through a year of what I call dollar hysteria with the US dollar collapsing and – but I maintain to so many people and I was publicly quoted saying look, it's not just about the US dollar that's fundamentally weak. There are many, many other currencies. And what I've noticed is now the dollar is recovering, but the euro, the pound, many, many other currencies around the world are under a lot of downward pressure now. To everybody’s surprise, they didn't rush out of the dollar and put their money into euro or sterling we’re finding it’s going into gold. You know, I think there is definitely signs of currency disdain, and what is unusual, it's not just limited to Dubai. It's generally throughout the region, and many, many other countries going up to Pakistan, India and so on. India, obviously, still remains the number one importer. [50:28]

ERIC: You know, the feeling that I get when I've been talking to you or even now, Ian, is that basically you have many people globally that no longer want to save their money in paper but rather want to save their money in gold. Is that accurate? Are we basically talking about a global sort of flight from paper into physical gold? Is that really what we're talking about?

IAN: There is no doubt about that. You know, I remember in the 60s and 70s, tangible assets, hard assets were in favor and probably by the 80s, paper was king. Clearly paper is no longer king. You know, there’s been a lack of confidence in paper in fact. It doesn't matter if it's a currency or paper investments. There are great concerns about what's going on. And commodities are obviously –even with the correction that we've seen – commodities remain very, very hot because very few countries in the world are addressing the problem with currencies. And certainly not to sort of upset anybody in the USA, but in the USA the energy crisis is not really being dealt with. They are talking about taxes, but nobody is talking about drilling or increasing production which the world needs as the world economies continue to grow. We're not only seeing shortages in gold – gold production is not increasing at all. [51:59]

ERIC: Ian, the difference between what you do over there, and say, the futures market or the paper market is that you won't sell the gold unless it is on the shelves there. Do I have that right?

IAN: Absolutely. And this is one of the reasons we have such a discrepancy between – or disparity between the paper market and the physical markets. The paper markets are very, very efficient. Let's not beat around the bush on that one. The futures exchanges are critical components of any financial market. They do bring liquidity to a market and you must have liquidity in any capital markets to make them viable and credible, but you've got to remember, when you get paper selling in New York or London, it will take weeks, and weeks and in fact, now it's taken months to get that physical gold – really convert that piece of paper into physical gold and get it into the markets like Dubai and other regions in the world. We're even getting stories now that the refineries are backed up at least until September and even October – the whole of September and October now. And again, we have not seen in the industry any expansion of the refinery capacity anywhere in the world. In fact, we've seen a decrease. Many, many gold refiners, for one reason or another, have been pushed out of the market. [53:24]

ERIC: You know that's interesting because I know Johnson Matthey just shut down a unit in Australia, and people think of this big bull market and that there would be an increase but as you said there has been a decrease. But there has been a decrease in mining. There has been a decrease of refining and so all of this contributes to the gold bull. But I don't want to sound naive here. But for the listeners, where does your gold come from because you'll eventually process it and send it out to customers. Isn't it from places like England or the United States?

IAN: Oh, the gold is coming from all over the world, from the United States, Europe and unfortunately in some ways, some of the bigger suppliers have been central banks to the market. But even the central banks are having second thoughts about a gold sales policy. The biggest supplier in the world is no doubt the European Central Bank who under the Washington Accord can sell up to 550 metric tonnes a year, which makes them the largest single supplier of gold in the world – far larger than any other mine out there. But now what we're starting to see is even the central banks are having second thoughts about their gold reserve policy, which is clearly one that has not worked for them. Most of the countries started selling when gold was down to 250 dollars an ounce, including my mother country, unfortunately. These are very unfortunate sales, you know, they’re selling the lows and not the highs. [54:55]

ERIC: Along those lines, I know they've been hounding Germany to sell gold, the second largest holder of physical gold in the world, and they won't sell any. Good for them. But doesn't it stand to reason, then, Ian – and I don't want to get political here, but doesn't it stand to reason that the Western countries for quite some time in reality, as you were just saying, have been emptying out their vaults of gold, which is the only true money, and as someone with your heritage from the Western hemisphere, don't you think that that’s foolish? It's foolish for them to do that. I mean, you don't want to insult your primary suppliers, but don't you think that's a foolish policy on their part?

IAN: I think it's something that has to be reconsidered and readdressed and unfortunately, so many central banks have forgotten why they have the gold in the vaults in the first place. And the reason being, historically, governments have never been able to curtail their spending habits and deficits – maintain an orderly budget and the gold was always there as a war chest just in case of out of control spending by a respective government. And unfortunately, history is repeating itself again and this time the war chests are very low. Even though we're off the gold standard, the fact that the gold is there like in the United States does bring a lot of confidence behind the currency. I call it more of an unofficial gold standard. And Eric, I would not be surprised to see a number of central banks over the next one to two years rethink their policy on holding gold reserves. I do believe we're going to see very, very shortly probably even central banks adding gold to their reserves. [56:41]

ERIC: What you just said to me tells me you're hearing something, and they should reconsider, but you must be hearing something for you to make that statement.

IAN: Yes. It's just on market knowledge. You know when something is wrong or something is up with the market and you know, quite something – we’ve got something big happening here in the physical gold market and the gold markets in general. I also do feel that I have spoken to a lot of countries and where we're seeing the gold demand surging again, and the Russian invasion of Georgia and the threats towards – the Russian threats towards Poland have really rattled a lot of countries and I think that part of the buying is attributable to the Russian invasion. There is no doubt about it. But the big one is the currency disdain where people are getting a little tired of their currencies constantly losing their value. There is not enough attention being put on this issue. [57:43]

ERIC: I agree with you, Ian, and I think net when you look at these countries as you said and you look at inflation and then the bonds and the return, you're get net negatives it feels like, I think, to people globally. So obviously, I think the disdain is just a reality of the toxicity in the system right now and the constant paper money printing which should really kick into high gear with the US being in trouble now.

But you did a paper for the mining industry back in 2000, 2001 timeframe and you talked about the reduction of participation by banks in Switzerland, the UK, etc, in the physical gold market. And the reason that that resonates with me is that when I purchased over three tonnes of physical silver and took delivery, shortly afterwards, I think it was Morgan Stanley in 2003, but they were sort of the last of the bullion banks to even have a division that dealt in physical silver. They shut it down and as a contrarian, I thought, well, that's perfect now. There is officially no participation in the silver market. And if you map that on a historical chart, the rise in silver started almost directly after that shut down. Talk about that paper you wrote and what your message was then and where are we today.

IAN: Well, it was actually a very simple paper, Eric. I had my concerns about what was happening to the structure of the market, and you know, I noticed more and more banks in particular just do not understand the physical gold market, and having been in the banking industry for over 30 years, normally, if you mention gold and anything about physicals to sort of a banker, they run out of the door. They don't want to hear, and that's a fact and a reality. But I just one day started writing down in New York alone there used to be over 40 banks, institutions, dealers dealing in physical gold and now we're down to a handful of names only in just the West. And I'm not including – I didn’t even add in there the banks in the Middle East and other regions of the world. This was just western institutions. A lot of names disappeared through mergers. We used to have three major Swiss banks and now we've only got one. Fortunately, they’re one of the names that are still active in the physical market, but, you know, when I see comments by a lot of analysts, I can see they don't really understand the physical market and what's going on because, yes, the focus tends to be on open interest and COMEX and NYMEX and so on, which is a good number to look at and I’m not undermining that, by what nobody is really looking at is what's happening in the physical. And the reason we can't track that or have difficulty in tracking it is because it's handled outside of the banking institutions. And I would clarify, there are probably a handful of banks still left in the physical markets, but you can count them on one hand. [1:00:53]

ERIC: When you like at the price of gold here, Ian, and maybe you don't want to speculate on this, but where is the price of gold headed in your opinion.

IAN: As the government of Dubai, we don't like to put out price forecasts, but production is falling worldwide. Central bank sales are folding and demand is growing, so a kindergartener kid could tell you where the price is going. The trend is still up even though we've had a good healthy correction. You know, we did see resistance was more, I would say, a psychological resistance when gold hit 1,000 earlier this year and went through a thousand dollars an ounce, and I think that run up was largely due to the Bear Stearns collapse. It was just panic buying that we – when the rumors were floating around market. But having said that, there is no doubt the trend is up on gold just based on the fundamentals. The only thing that could hold it back is if we had a massive worldwide recession. I don't see that right now. There is no economic numbers out of the USA for example. In fact, there is even talk of growth this year within the USA, which is encouraging. Certainly, nobody wants to see an economic collapse or even a depression. [1:02:16]

ERIC: Ian, as we wrap up here, before we go, I do want to touch base with you on the oil market. You know, you mentioned very briefly your European colleagues being very nervous about this Russian invasion of Georgia and this can usher in all types of consequences. When you look right now, you know, that the Saudi Arabia has increased oil production, but there is a price to pay for that, right, because we're talking about really early depletion or an acceleration of the depletion of their reserves; correct?

IAN: Oh, that's it. You know, you're just going to run out sooner. That's the bottom line. And although countries like Saudi Arabia have plenty of oil reserves there is a limit of how much they can pump out. Fortunately, they've been able to pump out another million barrels a day, to help the current crisis. But I think there is also a great expectation that when the prices go high, oil producers can turn up the spigot and just turn the taps on faster. In any natural resource extraction business, it doesn't happen that way. It's very, very difficult. You actually need a huge amount of capital and billions and billions to be invested in order to do that. And you can't slow it down and crank it up as easy as a lot of politicians would expect. You know, here, and going back to what I said earlier the UAE is clearly gearing up to when the oil runs out, and this is why we have been diversifying the economy very much so. And fortunately, the rulers have created a very modern vibrant economy here. [1:03:56]

ERIC: Well, Ian, in closing here, let me just say this as New York loses – or continues to lose – it’s position as a money center because of the corruption, I suppose I could say that New York's loss is going to be Dubai's gain because I know you want to become a global money center over there. And let me also thank again the government of Dubai and its press department for allowing you to come on the show. And Ian, also thank you for your time on this show. I think this interview should settle once and for all the debate on whether or not there are shortages of gold in the physical market. So, thank you, Ian.

IAN: Eric, thank you very much.

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