Banks have been fixing the price of gold for 100 years – and show no sign of stopping

No one would invent anything like it today but the secretive, historic process for valuing this treasured capital has overcome problem after problem, writes James Moore

Demand continues for the rather odd tradition of gold pricing (AFP/Getty)

Happy 100th birthday to the gold price fix, an arcane but closely watched City tradition that used to be seen as quaintly charming until the activities of a Barclays trader made it clear just how appropriately named it was.

You won’t be surprised to learn that they’ve since changed that moniker. It’s now called the London Bullion Market Association (LBMA) Gold Price auction. The LBMA will tell you that that the change had nothing to do with the activities of trader Daniel Plunkett in the early part of this decade.

Plunkett was a director on the bank’s precious metals desk who, realising that his employer would have had to make a chunky payment to a client if the price was “fixed” above a certain level on 28 June 2012, placed a series of trades with the aim of preventing that outcome.

It worked. Just not for long, because the client smelt a rat and raised concerns. A subsequent Financial Conduct Authority investigation ultimately led to the bank being fined £26m for failing to manage conflicts of interest and maintain appropriate systems and controls. It had previously compensated the client. Plunkett was ordered to pay a £95,600 penalty and banned from the City.

Conflicts have always been a potential issue with the gold fix – sorry, the LBMA Gold Price auction – because the banks involved in the process both act for clients and trade their own books.

What the fix does is create what’s known as a “benchmark” price for those buying and selling the stuff to use. Jewellers, for example.

Its origins date back to the victorious powers’ desire to stabilise the precious metal’s price at the end of the First World War. NM Rothschild, the merchant bank that was built on the stuff, was the obvious candidate to chair the formalisation of what had previously been an ad-hoc process conducted in smoke-filled rooms.

At first it took place over the phone, but soon moved into the bank’s offices at St Swithin’s Lane where it remained for more than 80 years. Sessions took place in high secrecy, with all external communication barred.

Each of the participating brokers had a desk and a miniature union flag, which remained up when they were on the phone. When they were happy that they could match enough of their buy and sell orders at a particular price, they would lower the flag. There would usually be several rounds of horse-trading, with the process ending only when all the flags were lowered. At that point, the price was declared “fixed” and broadcast around the world.

After a certain amount of persuasion, I was once allowed to have a look around the rather non-descript room where this took place. However, no matter how hard I, and others, tried, and no matter what conditions we said we would agree to, there was no way they were going to let anyone in to actually watch a session. Read into that what you will.

Things started to change in 2004 when Rothschild sprang a surprise by pulling out of the process. There were real questions about whether it would survive this. There were four participants left: Deutsche Bank, HSBC, Societe Generale, and Canada's Scotia Bank. The last of those was seen as a potential candidate to follow Rothschild out of the door.

In the meantime, they moved to rotate the chair and replace the office-based routine with a conference call. So no more flags, although one of them resides today in the LBMA boardroom.

Contrary to those who had predicted its doom, the fix survived long enough for Plunkett to raise a fresh set of questions. It survived that too.

The market and its participants had to accept regulation (the Financial Conduct Authority resorted to its principles for businesses rules to discipline the bank and its broker because the market itself was not regulated at the time) but since then, the number of participants has steadily increased.

There are now 15 organisations involved in the process, which has been modernised with technology.

Some of the banks that take part, it’s true, may be there as much for the prestige as any money they make from it. But the important point is that they are there, and in London, which continues to dominate the physical gold market. It’s a market that has been hot in recent times. The current global instability has driven the metal’s price higher as a result of its perception as a safe haven, which generates volume. Central banks last year bought more than they had in any of the last 50 years. Russia was particularly active but it was not alone.

The capital’s position in the market is one of the few things that won’t be much affected if Britain’s right-wing prime minister Boris Johnson succeeds with his intent to smash his country in the mouth via a no deal Brexit.

Because gold is so expensive, and is moved around in relatively small quantities, it is usually transported by plane. There is therefore no risk of it getting held up along with food and vital medical supplies in a container at a port straining under the weight of the chaos being sown by a political party that lost its sanity some time ago.

So what ultimately keeps this still slightly odd process going, and will it manage another hundred years?

You can still find people willing to criticise it, sometimes quite vociferously, and to call for its demise. If you were starting a market for a new commodity from scratch and someone proposed something like it, they would likely be laughed out of the room.

But it has the weight of a deep history behind it, and despite the problems it has encountered, there seems to be a demand for it. For as long as that continues, the fix, or rather auction, will continue too.