We continue from last weeks discussion on the role of interest rates in the gold market by looking at trends in the cost of carry of gold as priced in dollars, euro, yen and pounds. By way of a brief primer we define the cost of carry of gold in dollars as the London Bullion Markets Association 3 month Gold Forward Offered Rate (GOFO). GOFO is published every day by the LBMA and is calculated as US dollar Libor minus the gold lease rate.
Gold Forward Offered Rate = USD Libor – Gold Lease Rate
If we think of gold in terms of being a currency, the gold lease rate is the interest rate at which investors can borrow or lend gold. GOFO is then defined as the interest cost of financing a gold purchase (Libor) less the interest rate that can be earned by lending that gold (lease rate). GOFO is calculated daily via market poll by the LBMA and is the market benchmark for gold funding costs. Interestingly in gold markets there is little trading volume in uncollateralized lending or borrowing of gold (gold leases) with by far the most trading volume occuring in the gold swap market (exchanging gold for dollars today and then exchanging those dollars back for gold at an agreed future date) priced at the GOFO interest rate. In these terms another way to describe GOFO would be the cost of borrowing gold with dollars posted as collateral. This also means that in practice the gold lease rate is typically not observed but rather it is implied by subtracting GOFO from Libor. Finally we also define the cost of carry of gold in a non-dollar currency as