Regulators in America and across Europe have joined together to expand their investigation into potentially improper precious metals trading as part of a broader, expanded effort to combat price fixing and rate manipulation around the world. Although the investigations are ongoing, some British regulatory efforts may provide clues about the scope of practices that may have caused artificial prices in commodities markets.
European banks establish common transaction prices for precious metals through a process known as the “London Fix.” At one point, members of the fix determined and publicized the wholesale prices of metals (gold, silver, and palladium) through a system of conference calls. During the call, the chair of the group began by suggesting a price. Members then stated the amount they wanted to buy or sell at that price—either for themselves or on behalf of clients. If the amounts were far apart from each other, the chair would suggest a new price. When the size difference between buy and sell orders reached a certain margin, the price was said to be “fixed.”
Last year, the United Kingdom’s Financial Conduct Authority (FCA) fined the bank Barclays about $44 million for allegedly manipulating the price of gold during this process. According to the FCA, a Barclays trader bet against a Barclays client on gold prices using a sophisticated options contract. First, he structured the option to profit $1.75 million if gold prices fell; otherwise, Barclays would pay the client roughly $3.9 million. Then, he placed sell orders during the fix to move the price down. The chair suggested a lower price on the second round, and the trader cancelled the orders. When he realized the price would rise without his sell orders, he resubmitted them.
Some economists have argued that the structure of London fix made it easy for banks to profit like the Barclays trader did. Professor Richard Heaney and Professor Andrew Caminschi of the University of Western Australia have studied the volumes and accuracy of gold futures before, during, and after gold fix meetings. Although they have expected the trading volumes to be highest after a price was made public, they have found the highest volume of trades occur shortly after the beginning of the meeting.
According to their findings, not only were more trades placed after the meeting started, but these trades were more profitable. Trades placed before the meeting correctly guessed the direction of gold prices only half the time, but trades placed within 5 minutes of the meeting’s beginning were correct 80% of the time.
Caminschi and Heaney found that orders placed during the meeting were most accurate on the days when the price moved the most after the meeting, adding that the findings are “highly suggestive of information leaking from the fixing to these public markets.”
Some U.S. precious metals investigations have followed record settlements for charges of manipulating the London Interbank Offered Rate (known as LIBOR, the average rate that European banks charge each other for short term loans) and for manipulating currency exchange rates. After LIBOR manipulation became well publicized in 2013, regulators such as Former U.S. Commodity Futures Trading Commission (CFTC) Commissioner Bart Chilton called for greater scrutiny of precious metals pricing. Like the gold fix, LIBOR is set by a small group of banks reporting their business dealings to a private entity for publication.
Over the last three years, banks have paid billions to U.S. and E.U. regulators in settlements for allegedly manipulating LIBOR and currency rates. These settlements have included deferred prosecution agreements that the U.S. Department of Justice (DOJ) can revoke if the banks commit any felonies (such as manipulating commodities prices). And although not all banks being investigated for alleged metals price manipulation have been implicated in currency or LIBOR manipulation, some already have deferred prosecution agreements stemming from their alleged involvement with Bernie Madoff, from financial sanctions violations for dealings with Iran, and for tax evasion.
These deferred prosecution agreements can create pressure for banks accused of new crimes to cooperate with new investigations. For example, the DOJ investigated the Swiss bank UBS for alleged metals pricing manipulation, but then granted it immunity in exchange for cooperation and plea agreements on other charges related to LIBOR and currency manipulation. And although the LIBOR charges were subject to a deferred prosecution agreement, the DOJ revoked the agreement last spring while pursuing currency manipulation charges.
Regulators also face other challenges beyond just securing cooperation. When a recent CFTC silver price manipulation investigation was terminated, former Commissioner Chilton explained that proving market effects—rather than proving intent—was the greater difficulty. Similarly, German regulator BaFin found no signs of systemic manipulation after investigating Deutsche Bank in connection with gold prices.
The United Kingdom has also recently changed how it regulates both metals fixes and LIBOR. The FCA expanded its authority to regulate precious metals fixes directly earlier this year, mirroring regulatory reforms the Financial Services Authority implemented following the LIBOR scandal. Since the summer of 2014, electronic bidding systems, which are more transparent than fix conference calls, have begun to replace the London Gold Fix process and have opened the market to new participants. Consequently, regulators around the globe will likely continue to investigate how these market structures will evolve in order to monitor price manipulation effectively.