03/06/2024 10:55 Michael Burry Just Made A Brilliant Gold Arbitrage Trade In PHYS (NYSEARCA _ PHYS) _ Seeking Alpha

Canada

Michael Burry Just Made A Brilliant Gold

Arbitrage Trade In PHYS
May 16, 2024 2:12 PM ET | Sprott Physical Gold Trust (PHYS), PHYS:CA | AAPL, BABA, C...

Logan Kane
24.93K Followers

About this article

Ticker Analyst rating Price at publication Last price Change since publication
PHYS HOLD $18.46 $18.09 -2.00%

S&P 500 change since publication Days since publication

-0.37% 18

Summary
Michael Burry, known for his successful bets during the 2008 financial crisis, has
found a clever arbitrage opportunity in a physical gold ETF.

Burry's positions are in the Sprott Physical Gold Trust, which allows investors to
take delivery of the gold if they buy enough.

Burry bought for a discount and now can sell for close to NAV thanks to the
publicity from his 13-F - if he didn't already take delivery.

Gold is a good hedge against potential U.S. election chaos and geopolitical
tension.

Exploring different ways to buy gold.

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Quarterly 13-F reports came out this week, requiring institutional investors with more
than $100 million in assets to disclose their holdings as of the end of Q1. 13-F
reports offer a window into the portfolios of investing legends like Warren Buffett, Bill
Ackman and Michael Burry (of The Big Short fame). I'm fascinated with these
because the only time valuations were higher than now for large-cap US stocks was
the late 1990s tech bubble. Buffett sold some Apple (AAPL) and bought Chubb (CB),
Ackman bought nothing, and Burry disclosed that his biggest purchase was a
physical gold fund (NYSEARCA:PHYS). As far as famous hedge fund managers go,
Burry is the most flexible of the bunch because of his small AUM and willingness to
think outside the box. So why would Burry be interested in gold? Let's dig in!

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Data by YCharts

Gold Arbitrage, Michael Burry Style

At the end of The Big Short, the directors noted that most of Burry's investments
were related to water. It was great for the ominous sound bite but was mostly taken
out of context. As I understand it, Burry bought agricultural stocks with stable access
to water in order to profit from drought or shortages in other areas as a type of semi-
arbitrage.

After doing a bit of digging, I think we may have a similar type of arbitrage going on,
although it seems even cleaner. Burry's gold positions were in the Sprott Physical
Gold Trust. One of the perks of physical gold trusts is that you can take delivery of
the gold if you buy enough (a full-size gold bar is now close to $1 million in value).
The arbitrage here would be that if the gold fund were to trade for a discount, you
could buy it below net asset value and either take delivery or wait for it to trade over
NAV to sell it.

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Data by YCharts

And I think we've uncovered the genius of Burry with this graph. By buying PHYS,
Burry gained both optionality and potential arbitrage. As you can see, the gold fund
usually trades around NAV, but it spiked to a premium during COVID-19. The
discount hovered roughly between 0% and 3% over the last two years.

Earlier this year, could you buy a million dollars in PHYS, take delivery, and pocket
$25,000 off of the arbitrage? It seems reasonable. I'm not a physical commodities
trader so I'm not sure what the transaction costs would be. But if there are
constraints to scale and there were only a couple of million dollars to be made off the
arbitrage, then it's quite possible that Michael Burry was the first to discover it and
profit. By the way, this arbitrage is over – the discount is only 0.3% now. If Burry
didn't already take physical delivery and sell them, then he can sell his PHYS back
on the open market now for basically the NAV price. Well done!

I don't think PHYS is worth buying at this point since we as individual investors
mostly lack the ability to arbitrage differences between the NAV and market price of
the ETF. Unless you're willing to shell out a million bucks and take delivery, then
there's no arbitrage. However, if in the future PHYS trades at a significant discount to
NAV, we could certainly revisit it.

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There are other arbitrages that you can consider based on gold that are smaller in
scale. For example, Costco (COST) sells gold and you can pay with a credit card. If
you use the right kind of cash-back credit card for gold purchases at Costco, Reddit
users are reporting that they're coming out ahead. If your airline or hotel card has the
right setup, for example, you might be able to buy gold as an investment and get
deeply discounted business-class plane tickets or hotel suites and net more in value
than you pay. On the other hand, if you like gold and want to use an ETF, the GLD
Spider MiniShares (GLDM) are the best bet with lower fees than GLD. And of course,
keeping gold and gold coins in safety deposit boxes or at home in small quantities is
the classic Texas way of investing.

There was another famous trade where Texas hedge fund manager Kyle Bass
bought a boatload of nickels for 5 cents when the metal was worth 6.8 cents. In
2022, the nickels were worth over 8 cents each. It's been illegal since 2006 to melt
the nickels down and sell them, but if they were sold to someone for 7 cents each or
something, then it wouldn't be hard to claim ignorance (I'm kidding). When asked
about the trade, Bass was quoted as saying "I just like nickels."

Gold Is A Good Hedge Against Election Chaos

Gold is up about 15% for the year and 18% year-over-year to a little under $2,400
per ounce. For thousands of years, gold has held its value as a currency that can't be
debased by lazy kings looking to make quick money. Fast forward to last month, and
advisors to Trump released a document reportedly about taking control of the
Federal Reserve. Of course, this alarmed the Republican establishment. Biden and
his allies seek to influence the Fed as well to make monetary policy more
accommodative, although they're more subtle about it. While it isn't likely in my view
that the next presidential administration will gain full control of the printing press, gold
offers great insurance against this happening. It's not surprising to me to see
investors positioning by buying gold ahead of the election.

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Central banks outside of the US are thinking similarly. China owns an estimated
$175 billion in gold bullion and has reduced its holdings in US Treasuries over time.
Bloomberg noted that China sold at least $53 billion in Treasuries in Q1 of this year.
All else being equal, gold is likely a good hedge against geopolitical tension. This
shows in other parts of Burry's portfolio – he's invested in value stocks both in the US
and in China, with holdings like JD.com (JD), Alibaba (BABA), HCA Healthcare
(HCA), and Citigroup (C). Burry and other top investors seem to be largely ignoring
large-cap S&P 500 (SPY) valuations approaching dot-com bubble levels. Instead,
they're buying stocks abroad or in unsexy sectors like banks, healthcare, and
insurance.

Bottom Line
13-F season is fun. Warren Buffett is buying Chubb (CB), Bill Ackman is holding
steady, and Michael Burry seems to have found a clever arbitrage in a physical gold
ETF. I'll give Burry props for the most clever trade here, and think anyone reading
this can gain insight from seeing how the pros think. What do you think the best way
to buy gold is? Do you see any arbitrage opportunities? Share your thoughts below
in the comments!

This article was written by

Logan Kane
24.93K Followers

Author and entrepreneur. My articles typically cover macroeconomic trends, portfolio strategy, value
investing, and behavioral finance. I like to profit from the biases and constraints of other investors.You can

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Analyst’s Disclosure: I/we have a beneficial long position in the shares of GLDM, C either through stock ownership, options,
or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other
than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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