Anyone who purchases paper gold with the belief that it is an investment in gold is an imbecile.

Last week Zerohedge broke a story about an investor who tried to redeem shares in Xetra-Gold “notes” in exchange for the designated amount of gold represented by those notes. The story gained legs on the internet as a “refused delivery” and a “delivery default.”  I received several inquiries about this and my only response was that someone needs to go through the prospectus in order to determine what type of event has occurred.

I went through the prospectus and so far, everything published on the internet, including any claims made by Zerohedge, are reckless, useless and incorrect.   Here’s a link to the prospectus:  Xetra-Gold Notes.   Ultimately, there has not been a legal default. Furthermore, here has not been any fraud committed because there has not been any breach of contract.

Let’s start with some facts directly from the prospectus.   1)  The Issuer is Deutsche Borse Commodities GmbH;  2) The Custodian is Clearstream Banking AG;  3)  The Debtor of the Gold Delivery Claims is Umicore AG.   That latter aspect is interesting.  Unicore is a Swiss metals refiner and trader.   Any claims of failure to deliver  should be directed at Unicore. The securities in question are unsecured Notes of the Issuer and the only “asset” of the Issuer is a “claim for delivery of one gram of Gold in accordance with the Terms and Conditions.”  That’s it, there are not any other assets in Deutsche Borse Commodities GmbH.

Deutsche  Bank is one of the redemption agents.  But Zerohedge labelled Deutsche Bank as a “Designated Sponsor” as if it meant that DB had obligations beyond what was defined by the prospectus.  In fact, DB is a “designated sponsor in the electronic trading system” of the notes.  In other words, DB is the primary market maker in the trading of the securities.   Nowhere in the prospectus does it specify that DB is obligated to fulfill delivery of gold in exchange for redeemed Xetra-Gold Notes.  Note:  This is not a defense of DB – I regard DB as one of the most vile and corrupt banks on earth;  but legal facts are facts that need to understood and regarded.

Here’s the other relevant facts:   1)   The purchasers of the Notes will only acquire the rights securitised by the Notes. The purchasers of the Notes will not acquire any title to, or security interests or beneficial ownership in, the physical Gold held in custody on behalf of the Issuer. An investment in the Notes does not constitute a purchase or other acquisition of Gold.   This means that the notes are unsecured and the only right is to submit a claim against Unicore, the Debtor of the Gold Delivery Claims.  Good luck with that.

2) The gold price is determined based on demand for and supply of gold. The value of the Notes is a function of the demand for and supply of the Notes as such. This distinguishes an investment in the Notes from a direct investment in gold. The purchasers of the Notes will only acquire the rights  securitised by the Notes. The purchasers of the Notes will not acquire any title to, or security interests or beneficial ownership in, the physical Gold held in custody on behalf of the Issuer. An investment in the Notes does not constitute a purchase or other acquisition of Gold. This means that you are investing in paper plus the right to make a delivery claim.

3)  Deutsche Bank AG is not, in any way, obliged to protect the interests of the investors.  That’s self-explanatory and it is legal refutation of all of the accusations made against DB by reckless blog posts.

4) Umicore AG & Co. KG as the responsible agent for all physical delivery processes in connection with the Notes and in its capacity as the Debtor of the Gold Delivery Claims will be actively trading in gold. This activity may also lead to various potential and actual conflicts of interests. Umicore AG & Co. KG is not obliged to decide any such conflict of interests in favour of the investors, but will in connection with the trading in gold take such decisions and measures at its sole discretion as it may deem
necessary or expedient to protect its own interests and will act in this context as if the Notes did not exist.   That basically says that if you expect to be guaranteed delivery of gold when you send your notes to Deutsche Bank, who is a redemption agent, then pay your lawyer to file a claim in German and Swiss courts.

The prospectus makes it very clear that the purpose of the notes is to make profits for the entities who are the shareholders in Deutsche  Borse.   In that regard, the prospectus states that:  The only business activity of Deutsche Börse Commodities GmbH is the ongoing issuance of the Notes which are the subject matter of this Prospectus and transactions associated with such issuance. All activities resulting from the issue of the Notes, e.g., the safekeeping of Gold and the fulfilment of claims for delivery of holders, have been outsourced by the Issuer to third parties.  Those third  parties are generally the shareholders of Deutsche Borse.

The bottom line on the failed delivery incident reported by Zerohedge and strangulated by several other blogs is that Deutsche Bank has no obligation with respect to delivering gold to any note-holder who submits the paperwork required to redeem notes for gold other than to pass on the request to Umicore, which is specified as “the responsible agent for all physical delivery processes in connection with the Notes.”  In fact, the prospectus reiterates that “Deutsche Bank AG is not, in any way, obligated to protect the interests of investors.”

It goes on to state that Unicore, in its capacity as Debtor of the Gold Delivery Claims, will be actively trading in gold and that “this activity may also lead to various potential and actual conflicts of interests. Unicore AG & Co. KG is not obliged to decide any such conflict of interests in favour of the investors, but will in connection with the trading in gold take such decisions and measures at its sole discretion as it may deem necessary or expedient to protect its own interests and will act in this context as if the Notes did not exist.”

With the above as legal context, I’m not surprised that Deutsche Bank did not offer any remedy when it was asked to respond to the allegations of a failed delivery of gold.  In fact, the prospectus does not contain any specific remedies in this case.   The only possible conclusion is that there has been a “breach of morals and ethics.”   Boo hoo.

Ironically, the Xetra-Gold notes have more loopholes and lack of investor protections than GLD.  Anyone who buys GLD thinking they are investing in gold is an idiot.  What does that make anyone investing in Xetra-Gold with the belief that it’s an investment in gold?

The easy conclusion in this situation is that the entities that are involved in Xetra-Gold do not have the gold that is supposed to be delivered.  That’s probably the most likely explanation but unfortunately the prospectus does not specify any legal remedies.  I guess a gold-delivery-note-holder could file a lawsuit against the Issuer and Unicore.  Until someone with deep pockets who is interested in truth discovery takes that initiative, we are left with no definitive explanations.