Exchange of Futures for Physical (EFP) Explained – Part One

Exchange of Futures for Physical (EFP) Explained – Part One by Tom Szabo – 24hGold

TDC Note – Originally published in 2006 the version below was republished in 2009 and we are proud to bring this important piece of gold and silver market manipulation to you in 2018. While the information is 12 years old, it is more relevant today than when originally published. As most of the gold and silver community understand price discovery is a thing of the past – mere history at this point.

The article below helps to explain how this is possible and how the criminal banking cartel have been able to sustain this scam for all these years/decades. The gold is running out and silver left the LBMA a long time ago. The picture is quiet clear, at least in my mind, as to why the Shanghai Gold Exchange (SGE) is now in charge of the global market for gold and silver. As of today the SGE doesn’t count for much, however, as most of us have suspected it’s day is coming. What will it mean to the gold and silver markets in light of all this new/old information coming to the table? Is the SGE compromised and was the criminality built in as the walls, lights and computers were being put into place? Only time will tell.


Adrian Douglas, a Director of GATA, wrote a piece recently called The Alchemist in which he pointed out that the “Exchange of Futures for Physical” (”EFP”) mechanism of the gold commodity market allows ETF shares such as IAU and GLD in the definition of “Physical Products”. While this is true, we shall see by the end of my rebuttal that it is also irrelevant to the physical gold market. Furthermore, Mr. Douglas alleges that the regulators are rigging the market in favor of the manipulative shorts since ETFs are “paper” and not the same as physical gold — indeed ETFs may not hold any bullion at all! Alas, I’ve addressed the “empty ETF” issue many times before so I will not spend much more time on it, but I will demonstrate in detail why it doesn’t really matter if ETFs are really “paper” or “Physical Product” when it comes to EFP transactions. In fact, it doesn’t really matter to market participants what is exchanged on the physical side of an EFP, be it even toilet paper, as long as EFPs remain only a minor component of overall trading volume on the exchange.

Unfortunately, Mr. Douglas has done a disservice to the gold community by not explaining how the EFP works and thus I shall try to correct this first. Doing so, however, will take a bit of effort and so I have dedicated the first part of this rebuttal to providing an overview of the EFP transaction. The second part will consist of looking at Mr. Douglas’ allegations and refuting them point-by-point. 

Every Exchange of Futures for Physical (or Product) involves two parties that wish to swap Futures and Physical positions at the same time. In all cases, one party already has Physical exposure to a Product that it wishes to sell and/or to convert to a price exposure via Futures. The reasons for this are myriad and I’ll have specific examples in a moment, but first it is important to note that the two parties in an EFP transaction will always first come to a private agreement off-exchange (also called ex-pit) on the number of positions, timing, price, and form of the Product being exchanged. The parties may use a reference price for the EFP transaction that is based on Futures trading on the commodity exchange or they may use whatever reference price they wish, as long as both agree. Once an agreement is reached, the parties’ brokers are informed of the number and price of the Futures positions being exchanged as part of the EFP and this information is then transmitted to the exchange. Importantly, price data is NOT transmitted as a trade, only quantity, and therefore EFP transactions are not part of the futures market pricing mechanism. 

The following illustrates how an EFP in COMEX gold basically works. There are other ways to do an EFP, including ways to close out Futures positions, but they are all variations of this basic transaction.


You’ll note in the above graphic that the Futures position isn’t simply moved over from Trader B to Trader A, but rather there is actually 10 new long Futures entered into the account of Trader A and 10 new short Futures entered into the account of Trader B. Since Trader B is already long 10 Futures, the 10 new short Futures are essentially an offset. The net effect of the EFP transaction is to move the Physical gold from Trader A to Trader B and the 10 long gold Futures from Trader B to Trader A. That is essentially why it is called an exchange.

But, why use an EFP in the first place? Well, it turns out there are several reasons why two parties would wish to engage in an EFP instead of separate transactions involving a purchase or sale of Physical Product and the purchase or sale of Futures contracts. The key consideration, however, is usually transaction efficiency. Without an EFP, the sale or purchase of Physical Product and the separate entry of a Futures order may result in “price slippage” due to market volatility or fluctuating trading volume in the spot and/or Futures markets. EFP transactions are often for hundreds if not thousands of contracts and typically there is not sufficient depth in the bids and asks to fill such a large order at the same price.

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Sprott Money

Various authors presenting analysis and commentary on the precious metals, economy and precious metals mining markets.