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How are Silver and Gold Bullion Premiums Calculated?

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How are Silver and Gold Bullion Premiums Calculated?

How are Silver and Gold Bullion Premiums Calculated?

The price paid for each ounce of bullion is composed of the metal’s spot price and the bullion premium.

Here’s the price composition of some common rounds:

  • Silver Eagle: 80% spot price / 20% bullion premium
  • Silver Canadian Maple Leaf: 84% spot price / 16% bullion premium
  • Gold Eagle: 96% spot price / 4% bullion premium

How are these bullion premiums determined? How can bullion buyers take advantage of the lowest possible premiums?

Difference Between Spot Prices and Bullion Premiums

Spot Price: The current price per ounce exchanged on global commodity markets.

Bullion Premium: The additional price charged for a bullion product over its current spot price.

The calculation for bullion premiums depends on five key factors:

  • The current bullion market supply and demand factors.
  • Local, national, and global economic conditions.
  • The volume of bullion offered or bid upon.
  • The type of bullion products being sold.
  • The bullion seller’s objectives.

Bullion Supply and Demand

The total amount of supply and demand of bullion is a major influence on bullion product premiums.

Bullion dealers are businesses, and they are actively trying to balance product inventory and profitability. Too much inventory means high costs. Too little inventory means angry customers. Fluctuations in the gold and silver markets affect bullion market supply, and this impacts premium prices.

For example, in the Western hemisphere during the summer, calmer price patterns mean the bullion supply tends to increase. Sellers mark down their prices to attract market share.

During other months, silver and gold prices tend to have more volatility. This leads to increased buying and selling, and bullion sellers react accordingly. Some may mark up prices to prevent running out of inventory, or to capture profits.

Economic Conditions

Depending on their size and significance, market events can affect bullion premiums local to global stages.

Examples:

  • In a small town with only one brick and mortar coin shop, the dealer may boost their premiums to guard against running out of inventory.
  • In a country like Venezuela, where the local currency is losing value at an extreme rate, locals may opt to buy bullion to preserve their wealth. This means higher premiums.
  • At a global level, in the event of a large crisis (similar to the 2008 Financial Crisis), it is likely premiums would increase significantly as demand spikes and options diminish.

Volumes Being Sold

Every seller incurs costs on each transaction such as time, overhead, or payment processing costs. For a seller, a single transaction for 1 oz of gold may have similar transaction costs as a 1000 oz transaction.

Therefore, transactions with higher volumes of bullion have their costs spread out. As a result, premiums tend to be higher on small volume purchases, and lower per oz on high volume buys.

Form of Bullion for Sale

As a general rule, the larger the piece of bullion is, the less the premium costs are per oz.

It costs a mint far less to make one 100 oz silver bar, vs. 100 rounds of 1 oz each.

There is also typically a significant difference in premiums between government and private mints.

For example the most popular bullion coins in the world are American Silver and Gold Eagle coins. The U.S. Mint charges a minimum of $2 oz over spot for each Silver Eagle coin and +3% over spot for each Gold Eagle coin they strike and sell to the world’s bullion dealer network.

A private company like Sunshine Minting will sell their silver rounds and bars in bulk for less than ½ the premium most government mints will sell their products for.

Bullion Seller’s Objectives

Whether the seller is a large bullion dealer or a private individual, they will almost always want to yield the highest ask price they can get for the bullion they are selling.

That said, just because one wants to receive a large premium on the bullion they are selling, that doesn’t necessarily mean the market’s demand or willing buyers will comply.

Dealers must consider these factors when setting premiums:

  • Market share objectives
  • Competitor strategies
  • Price equilibrium strategy

If a dealer sets its price too high, buyers will likely choose to go to a lower priced competitor.

If a dealer sets their price too low, they could end up selling out of inventory without garnering enough profit margin to pay for the company’s overhead costs.

Dealers and sellers are both typically trying to find the price equilibrium “sweet spot” where the time required to complete a sale is minimized and the seller’s profit is maximized.

This is more difficult than it sounds, as there can be thousands of factors at play when establishing the best possible premium to charge in line with one’s overall objectives.

Price Composition for Bullion Products

When bullion markets are experiencing normal demand, about 80-95% of silver bullion’s price discovery is comprised of the current spot price.

For gold, spot prices approximately comprise of 95-98% of gold bullion’s overall price discovery.

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The World’s Most Powerful Reserve Currencies

Here are the reserve currencies that the world’s central banks hold onto for a rainy day.

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The World’s Most Powerful Reserve Currencies

When we think of network effects, we’re usually thinking of them in the context of technology and Metcalfe’s Law.

Metcalfe’s Law states that the more users that a network has, the more valuable it is to those users. It’s a powerful idea that is exploited by companies like LinkedIn, Airbnb, or Uber — all companies that provide a more beneficial service as their networks gain more nodes.

But network effects don’t apply just to technology and related fields.

In the financial sector, for example, stock exchanges grow in utility when they have more buyers, sellers, and volume. Likewise, in international finance, a currency can become increasingly entrenched when it’s accepted, used, and trusted all over the world.

What’s a Reserve Currency?

Today’s visualization comes to us from HowMuch.net, and it breaks down foreign reserves held by countries — but what is a reserve currency, anyways?

In essence, reserve currencies (i.e. U.S. dollar, pound sterling, euro, etc.) are held on to by central banks for the following major reasons:

  • To maintain a stable exchange rate for the domestic currency
  • To ensure liquidity in the case of an economic or political crisis
  • To provide confidence to international buyers and foreign investors
  • To fulfill international obligations, such as paying down debt
  • To diversify central bank portfolios, reducing overall risk

Not surprisingly, central banks benefit the most from stockpiling widely-held reserve currencies such as the U.S. dollar or the euro.

Because these currencies are accepted almost everywhere, they provide third-parties with extra confidence and perceived liquidity. This is a network effect that snowballs from the growing use of a particular reserve currency over others.

Reserve Currencies Over Time

Here is how the usage of reserve currencies has evolved over the last 15 years:

Currency composition of official foreign exchange reserves (2004-2019)
🇺🇸 U.S. Dollar 🇪🇺 Euro🇯🇵 Japanese Yen🇬🇧 Pound Sterling 🌐 Other
200465.5%24.7%4.3%3.5%2.0%
200962.1%27.7%2.9%4.3%3.0%
201465.1%21.2%3.5%3.7%6.5%
201961.8%20.2%5.3%4.5%8.2%

Over this timeframe, there have been small ups and downs in most reserve currencies.

Today, the U.S. dollar is the world’s most powerful reserve currency, making up over 61% of foreign reserves. The dollar gets an extensive network effect from its use abroad, and this translates into several advantages for the multi-trillion dollar U.S. economy.

The euro, yen, and pound sterling are the other mainstay reserve currencies, adding up to roughly 30% of foreign reserves.

Finally, the most peculiar data series above is “Other”, which grew from 2.0% to 8.4% of worldwide foreign reserves over the last 15 years. This bucket includes the Canadian dollar, the Australian dollar, the Swiss franc, and the Chinese renminbi.

Accepted Everywhere?

There have been rumblings in the media for decades now about the rise of the Chinese renminbi as a potential new challenger on the reserve currency front.

While there are still big structural problems that will prevent this from happening as fast as some may expect, the currency is still on the rise internationally.

What will the composition of global foreign reserves look like in another 15 years?

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Currency

Why Gold is Money: A Periodic Perspective

Gold has been used as money for millennia. People often attribute this to beauty, but there are basic physical properties for why gold is money.

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Why Gold is Money

The economist John Maynard Keynes famously called gold a “barbarous relic”, suggesting that its usefulness as money is an artifact of the past. In an era filled with cashless transactions and hundreds of cryptocurrencies, this statement seems truer today than in Keynes’ time.

However, gold also possesses elemental properties that has made it an ideal metal for money throughout history.

Sanat Kumar, a chemical engineer from Columbia University, broke down the periodic table to show why gold has been used as a monetary metal for thousands of years.

The Periodic Table

The periodic table organizes 118 elements in rows by increasing atomic number (periods) and columns (groups) with similar electron configurations.

Just as in today’s animation, let’s apply the process of elimination to the periodic table to see why gold is money:

  • Gases and Liquids
    Noble gases (such as argon and helium), as well as elements such as hydrogen, nitrogen, oxygen, fluorine and chlorine are gaseous at room temperature and standard pressure. Meanwhile, mercury and bromine are liquids. As a form of money, these are implausible and impractical.
  • Lanthanides and Actinides
    Next, lanthanides and actinides are both generally elements that can decay and become radioactive. If you were to carry these around in your pocket they could irradiate or poison you.
  • Alkali and Alkaline-Earth Metals
    Alkali and alkaline earth metals are located on the left-hand side of the periodic table, and are highly reactive at standard pressure and room temperature. Some can even burst into flames.
  • Transition, Post Transition Metals, and Metalloids
    There are about 30 elements that are solid, nonflammable, and nontoxic. For an element to be used as money it needs to be rare, but not too rare. Nickel and copper, for example, are found throughout the Earth’s crust in relative abundance.
  • Super Rare and Synthetic Elements
    Osmium only exists in the Earth’s crust from meteorites. Meanwhile, synthetic elements such as rutherfordium and nihonium must be created in a laboratory.

Once the above elements are eliminated, there are only five precious metals left: platinum, palladium, rhodium, silver and gold. People have used silver as money, but it tarnishes over time. Rhodium and palladium are more recent discoveries, with limited historical uses.

Platinum and gold are the remaining elements. Platinum’s extremely high melting point would require a furnace of the Gods to melt back in ancient times, making it impractical. This leaves us with gold. It melts at a lower temperature and is malleable, making it easy to work with.

Gold as Money

Gold does not dissipate into the atmosphere, it does not burst into flames, and it does not poison or irradiate the holder. It is rare enough to make it difficult to overproduce and malleable to mint into coins, bars, and bricks. Civilizations have consistently used gold as a material of value.

Perhaps modern societies would be well-served by looking at the properties of gold, to see why it has served as money for millennia, especially when someone’s wealth could disappear in a click.

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