2013 has been the year that China has lit the physical gold market on fire;
however you would never know from the metal’s price performance. While the
price of gold has fallen more than 20%, bullion flow to the East has been
nothing short of spectacular. Recently published data supports our
presumption that physical gold was indeed flowing from ETF liquidations with
a significant amount heading East.
We have written much this year on the gold market and the flow of the
yellow metal to China. A quick review of the titles of our missives
highlights our fascination with gold market developments over the past year.
Many of these articles outline the massive shift in the gold trade from West
to East. But it was in our piece entitled “Redemptions in the GLD are, oddly
enough, Bullish for Gold” where we first postulated that elevated
premiums for gold in China, the so-called ‘Shanghai premium’, were driving
redemptions in the world’s largest gold ETF with the physical gold being used
to satiate Asian demand. We asked the question in July, when we wondered what
the link between China’s increasing physical gold deliveries and the drop in
gold inventories within the COMEX and GLD ETF was, but any proof remained
elusive.
Last week we had our first confirmation that the drop in ETF inventory was
indeed tied to Chinese physical buying; in fact they were joined-at-the-hip.
UK gold exports to Switzerland, Europe’s major bullion refining hub, jumped
to 1,016.3 tonnes in the first eight months of this year from 85.1 tonnes over
the same period in 2012. This is a staggering increase. Over the same period,
investor withdrawals from gold ETFs, have totalled nearly 670 tonnes
according to data from Bloomberg. And can you guess the location of their
vaults? The world’s largest gold ETF, New York-listed SPDR Gold Shares,
stores its gold holdings in HSBC’s London vault, as do other leading ETF
operators such as ETF Securities.1 Further, the UK has no
commercial-scale gold mines, but London is the centre of the global gold
market, with bankers estimating that some 10,000 tonnes are held in the
city’s vaults, including at the Bank of England, largely by investors and
central banks.2 This is the perfect locale to find a
significant mass of gold in a short period of time. Following the path of
this gold, we find that the two largest exporters of gold to Hong Kong this
year have been Switzerland and the United States. From these statistics it is
clear that physical gold was redeemed out of the largest ETF’s, shipped to
Switzerland for vaulting or refining purposes with a significant portion sent
on to Hong Kong for Chinese consumption.
In May of this year, we calculated that more than one third of China’s
import growth has been driven solely from its citizens’ desire to own gold
and not from a growing domestic economy. Recent trade data suggests that this
trend has not abated. Of course this begs the question to what end is China
importing this large amount of gold? Inflation protection for its citizens?
Backing their currency with gold? Deploying their immense foreign exchange
reserves into a currency that is no other’s obligation? These are all
possible explanations.
As GoldMoney noted last week, recorded demand for gold from China’s
private sector has escalated to the point where their demand now accounts for
significantly more than the rest of the world’s mine production. The Shanghai
Gold Exchange is the mainland monopoly for physical delivery and Hong Kong
acts as a separate interacting hub. In the first eight months of 2013 they
have delivered 1,730 tonnes into private hands, or an annualized rate of
2,600 tonnes. The world ex-China mines an estimated 2,260 tonnes of gold,
leaving a supply deficit for not only the rest of gold-hungry Southeast Asia
and India, but the rest of the world as well.3
How this massive movement in gold can coincide with a gold price drop of
US$359 per ounce so far in 2013 is beyond our capability to explain. But it
does mean that China is now the undisputed destination for physical gold and
that this trend shows no signs of slowing down.
