The internal mechanics of the gold market are again showing strains under this rally. The gap between New York futures and spot prices in London is still elevated, a sign of lingering concern over future supply of the physical form of the metal.

While investors continue to seek gold as a haven, it’s still difficult to ship bullion around the world due to coronavirus-related restrictions, sending futures prices even higher.

As Bloomberg reports, until recently, that was unheard of in a metal that’s so utterly fungible, so easy to transport and where trade channels are so deeply established. But with planes grounded and refining capacity severely restricted, don’t expect the arbitrage to break down immediately.

“People are paying the premiums over in the physical market and I think it’s rolling into the futures,” said Peter Thomas, a senior vice president at Chicago-based broker Zaner Group. “It’s safe-haven buying. People are scared.”

As The Fed unleashed its "we'll buy any old crap" policy today, gold prices hit a new cycle high...

As demand shows no sign of slowing...

“Unprecedented monetary and fiscal stimulus, negative yielding debt and low interest rates for longer imply gold will continue to attract a flight to safety and quality,” Suki Cooper, precious metals analyst at Standard Chartered Plc, said in a note.

The unprecedented action by The Fed (and Treasury) has begun to raise doubts about the sovereign credit risk of the US...

And has sparked huge inflows into the major gold ETFs as investors seek safe-havens...

In fact, gold holdings across all known gold ETFs has exploded higher in 10 of the last 11 months since The Fed started its 'NotQE' rejuvenation of the repo markets...

This massive flow into ETFs combined with the internal gold market strain has spooked one major investor - DoubleLine Capital CEO Jeffrey Gundlach - who recently warned investors piling into gold-backed ETFs:

Don’t think you’ll get the physical metal back.

While ETFs such as GLD are backed by physical gold, the process for an individual investor to acquire the actual bullion isn’t as simple as selling shares of the ETF.

In fact, as Olivier Garret detailed previously, you may be surprised to learn gold ETFs don’t give you exposure to gold - but, it’s true.

The GLD prospectus states “GLD represents fractional, undivided interest in the Trust.” When you invest in a gold ETF, you are buying shares of the Trustee. Basically, you are a shareholder of the trust, not a gold holder. As such, GLD shares represent a paper claim on gold, not gold itself. This negates a major reason for owning it - protection during crises. If the economy collapsed and brought down a part of the financial system with it, the Trustee will settle your claim in cash, not gold. The real irony is the price of gold could be skyrocketing and the ETFs could be going bankrupt at the same time. Given these issues, long-term investors would be wise to avoid gold ETFs.

“Paper gold” ETFs are little more than speculative vehicles, Gundlach said, and buyers should be aware that holding shares doesn’t amount to having gold bars.

“What happens if physical gold is in short supply and everyone wants to take delivery of their paper gold?” Gundlach said. “They can’t squeeze blood out of a stone.”

As Bloomberg reports, the process of swapping GLD shares for physical gold sits “outside of normal dealings,” according to State Street Global Advisors head of ETF research Matthew Bartolini.

Bank of New York Mellon, the fund’s trustee, doesn’t interact with the public but only with middlemen known as authorized participants - traders who channel assets in and out of the fund. An investor would have to work with one of GLD’s APs to acquire gold, he said.

“An individual investor wishing to exchange the Trust’s shares for physical gold would have to come to the appropriate arrangements with his or her broker and an authorized participant to receive the gold bars,” Bartolini wrote in an email.

Now that sounds very straightforward eh?

E.B. Tucker, director of Metalla Royalty & Streaming, told the news site Kitco that “there’s maybe around $100 of paper gold trading for every ounce of real gold that’s in New York vaults.”

Unlike physical gold bullion - which is a tangible asset - ETFs are a financial product that have counterparty risk. Counterparty risk is present when there’s a possibility the other party in an agreement will default or fail to live up to their obligations.

In fact, one of gold’s primary benefits is being the only financial asset that is not simultaneously somebody else’s liability. Therefore, these ETFs are a poor substitute.

“Before this is over, gold is going to go up a lot,” commodity investor Jim Rogers said by phone from Singapore. “Whenever people lose confidence in money and in governments, they always buy gold and silver.”

There is one group of market participants that refuse to use "paper" gold to get exposure to the counterparty risk-free hedge for political idiocy... the world's sovereign reserve funds...

“Central banks have officially lost control of their most powerful policy tools,” said Roy Sebag, chief executive officer and founder of Goldmoney Inc., a precious-metal investment firm with $2 billion in assets. “It is against this macroeconomic sea change that gold will thrive as the money par excellence.”

Is it any wonder that physical gold is in shortage (and trading at a premium)?