Sprott Asset Management of Toronto brought out in February a closed-end fund (PHYS) holding allocated gold as London "good bars" (+/- 400 troy ounces) at the Royal Canadian Mint. Central fund of Canada (CEF) has had much the same structure for decades but holding approximately equal value in gold and silver bullion. Both of these funds have US and Canadian registered shares and trade in New York and Toronto.
Being closed-end funds, PHYS and CEF differ from ETFs, such as physical gold holders GLD, IAU, and SGOL in the US as well differing from ETNs which hold an unsecured note tracking the gold price such as DGP, and ETFs holding gold futures contracts such as DGL. Bullion ETFs authorize special "agents" to sell gold to or buy gold from their fund in specified minimums at any time with proper notice. This makes them like open-end mutual funds with a constant in and out approach to capitalization. PHYS and CEF offer new shares on start-up and then periodically, at their discretion, as secondary distributions. This intermittent addition to capital and shares issued has some predictable consequences: namely a closed-end gold fund will not track the gold price very closely. If the shares of PHYS and CEF are in greater demand than normal, this will not attract new capital to the funds on a daily basis as with ETFs. Instead the price of the shares will rise above the net asset value (NAV) of the price of the gold behind each share. And they have. Sprott shows the premium to NAV from the start-up date to the end of March 2010
Sprott Physical Gold Trust - Net Asset Value
On Friday April 16 the closing premium was just shy of 14%! And it was just shy of 13% yesterday. Imagine if you were to buy PHYS at a 13-14% premium and awaken the next day to find that Sprott has signalled its intention to sell some new shares 10% lower. To be sure such a new share issue would be "non-dilutive" to NAV of the existing shares, but it certainly would be dilutive to your personal NAV. This happens several times a year to CEF owners, and it will doubtless happen to PHYS owners as well.
It's common for closed-end funds to sell above or below net asset value for long periods of times, even for years, but few closed-ends in the US are in the habit of issuing new shares. They issue original shares and that is it. The policy of funds like CEF and PHYS is abusive to their existing shareholders and an unwarranted boon to those who have access to the new share distribution AND the underwriters. CEF and PHYS should have rights attached so that existing shareholders could buy any new issues at the issue price or better. But they do not at this time.
PHYS has some advantages, one of which allows shareholders to redeem their shares (at NAV!) in gold at a minimum 400 troy ounce weight. At $1140 per ounce that would be US$456,000 of net asset value of shares meaning US$519,840 in market value of shares (at 14% premium) as of last Friday. That would be a US$63,840 capital loss. That's a bit steep for a "bid/ask" spread to buy a London 400 ounce bar. CEF does not permit redemption in gold and silver but sells for quite a large premium to NAV itself.
If you are paranoid about GLD, IAF, and SGOL actually having the gold they say they have, these massive premiums may help you sleep better. Keep in mind that many of the people who write negatively about the gold ETF funds have had their gold selling businesses wrecked by the funds' extremely low advisory fees (0.40% per year versus 0.60 for Sprott) and their close adherence to NAV. They want you to buy high and sell low. Do your own thinking and analysis as always. This is all my own opinion. I do own small amounts of PHYS and CEF to keep an eye on them. I would buy more if premiums were ever to tumble down to reasonable levels.
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