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zerohedge.com
What's Behind The Soaring Gold Price: China Quietly Buys 100 Tons Of Gold In Days
Last week we reported that one month after its first official gold purchase since a three-year pause in 2019, when China restarted buying physical gold - some 32 metric tons in November - the PBOC bought another 30 tons in December, moves which lagged by just a few days a highly controversial analysis by repo guru Zoltan Pozsar who predicted - correctly - that China would soon telegraph its ambitions at launching a gold-backed currency (ostensibly in cooperation with Russia) in hopes of dethroning the US dollar as the world's reserve currency and replacing it with the petroyuan (observations which followed a few weeks later).
And while many - most notably Michael Pettis and Michael Every - have repeatedly mocked Pozsar's contrarian and controversial calls, which besides his vision of an upside-down Bretton Woods III world also most recently anticipated the start of a new QE as soon as this summer - one thing is certain: China has been buying much more gold and much more aggressively than it is letting on.
Earlier this week, TD Securities commodity strategist Daniel Ghali wrote a note titled "Who is the Mystery Gold Buyer" (available to pro subs in the usual place) which told us what we already knew: it was China (which, poetically, precipitated the largest central bank gold buying since the fall of the Bretton Woods regime). But while that answer was trivial after we had already reported it back in November, it did open up a can of worms, if only for establishment analysts who work within the confines of conventional thought. It also opened up a bunch of questions, like why is China doing this? And while we present Ghali's rhetorical Q&A below, we want to point out something notable that only the TD strategist has observed so far: China's precipitous gold buying spree, one which has sent the price of gold soaring by $300 in just the past two months!
As Ghali correctly points out, "Gold prices aren't rising to reflect a change in macro narratives that have bolstered investment demand. Instead, the official sector has overwhelmingly been the single most significant buyers of gold. The World Gold Council's estimate of official sector gold holdings suggests that central bank purchases have lifted gold reserves to their highest level since November 1974. This is particularly notable as the date shortly follows the change in the zeitgeist towards the current currency regime, based on floating fiat currencies, which replaced the Bretton Woods system that tied the value of the US dollar to the precious metal."
Ghali then goes on to rehash what we said in November:
Official IMF data points to substantial purchases from Turkey, Uzbekistan, and Qatar, but fall far below the more elevated estimates from the World Gold Council. However, the latter additionally includes government agencies aside from central banks in Russia, China and other nations that can buy and hold gold without reporting them as reserves. In turn, market participants have mused about stealthy purchases from both Russia and China at a massive scale.
And while this follows reports of massive purchases from China's official sector, which participants speculate were to the tune of 300 tonnes over the past months, or roughly 10x more than the PBOC has bought officially, more importantly it fits with TD's tracking of Chinese trader activity.
In fact, according to the Canadian bank, Chinese traders have been the only directly observable underlying buyers, and as Ghali adds, his tracking of the "top ten participants in Shanghai highlights a notable increase in net length from this cohort, equivalent to 100 tonnes in notional gold since December 20th.This was primarily driven by more than 16k SHFE lots of new longs acquired over this timeframe, continuing the trend of notable rise in Shanghai gold length since early November."
Of course, there is no such thing as independent gold merchants in China, where everything is state-controlled in some form, so one can conclude that this is the state itself which is aggressively and quietly buying up all the available physical gold in the open market using 3rd party intermediaries.
Most importantly, perhaps, Ghali concludes that "The pace of gold purchases from Shanghai traders has yet to show any sign of slowing as traders' net length approaches last-twelve-month highs."
While tracking SHFE gold lots is an ingenious way of tracking Chinese gold purchases indirectly, there are other signs of aggressive gold accumulation by China. Indeed, as TD notes, signs of Chinese interest in gold are also apparent in the yellow metal's microstructure: Chinese gold premiums remain extremely elevated by historical standards, which points to strong underlying demand for the yellow metal. While premiums are below the extreme levels seen over the summer of 2022, when Mainland gold supply was constrained by lackluster quotas, their recent strength is rather a symptom of outstanding demand. Separately, a sharp drop in LBMA vaulted gold in recent months shows an aggressive accumulation of physical by a non-member of the LBMA system. Here China once again fits the bill.
For Ghali, who has been bearish gold, China's frenzied buying gold is bad news as it makes him look wrong. So he spend much of the rest of the paper trying to explain why it's not his bearish gold view that is wrong, but it is China's buying that is skewing the market:
Rather than viewing gold's resilience as a function of a changing macroeconomic narrative, Chinese demand at a massive scale is likely the main culprit behind the strong price action that has defied analyst and trader views over past months. This helps to explain the disconnect between gold and real rates, in favor of a tighter relationship with currencies Without this significant buying activity, gold prices would undoubtedly have traded lower as a function of rising real rates amid a hawkish central bank regime. After all, real rates are the primary driver behind investment appetite for gold, which we have shown has remained depressed despite the rally in prices after accounting for CTA trend follower flow. In fact, we estimate that gold's fair value based on its recent historical relationship with real rates is closer to $1700/oz, which implies that Chinese purchases have catalyzed a $150/oz mispricing in gold markets
Alternatively, as Zoltan would put it, commercial and central bank manipulation of paper gold has led to historical mispricing of gold to the downside, and what comes next is why gold will soar and crush commercial banks which are all structurally short gold as Russia and/or China could "bring gold back as a settlement medium and increase its intrinsic value sharply."
But while such a thesis makes perfect sense to Zoltan who views all macro developments as precursors to a new monetary regime conceived by China and/or Russia, and which seeks to dethrone the USD, such a view is largely anathema to Pozsar's far more conservative Wall Street peers. Instead, Ghali lists several much more "palatable" possibilities behind China's dramatic gold accumulation which would explain why gold is "mispriced" as much as $150 above what the TD strategist believes is gold's fair value:
- Reserve Currency Ambitions: A contingent of market participants has suggested that gold is gaining market share as a reserve asset. After all, USD valuations have moved to extremes following the build-up in USD cash and associated stagflation hedges. European data surprises are surging with growth expectations on the rise as extremely mild weather helped the region fare with the ongoing energy shock, at the same time as a fast-paced Chinese reopening bolsters rest-of-world growth — factors which are all in support of a cyclical peak in USD value. Most importantly, however, is the rise in perceived sanctions risks associated with USD reserves held in the East, following the introduction of Western sanctions on Russia this year; these have likely bolstered official purchases. This is consistent with official purchases announced by Turkey, Qatar and other nations. Market participants have pointed to the rapprochement between China and Gulf nations to support the thesis that demand for USD reserves is indeed declining. President Xi attended the very first China-Arab States Summit in history, seen as an echo to FDR’s meeting with King Abdul Aziz Ibn Saud in 1945 which cemented a new paradigm amounting to US security guarantees exchanged for oil sold in US dollars. Today, US incentives to provide security are likely to decline over the coming decade along with Western oil demand, whereas China's growing demand for energy is likely to solidify trade with GCC nations over this timeframe. President Xi also spoke of a new paradigm — one of all-dimensional energy cooperation, which will entirely rely on RMB settlement for oil and gas trade over the next five years. While the long-term resilience of this thesis is difficult to rank in the present, this narrative is certainly consistent with price action associated with a steep accumulation of gold in support of the renminbi.
- Hedging Sanctions: We previously discussed the rise in perceived sanctions risks associated with USD reserves held in the East, following the introduction of Western sanctions on Russia this year. A less likely scenario worth considering is whether a steep increase in gold reserves could be associated with the building of a sanction-evasion war chest tied to China's geopolitical ambitions. Tensions between China and Taiwan have come to a boil over the past year with a heightened sense of fear of a military confrontation since the war in Ukraine. In turn, some market participants could plausibly fear that the steep accumulation of gold is preceding a military confrontation, but there is little concrete evidence to support this. Further, one could argue that this is inconsistent with an apparent détente with the West, highlighted by the recent lifting of China's embargo on Australian coal and a notable shift in China's foreign policy communications.
- Chinese Reopening Demand: Our tracking of Shanghai gold positioning appears to loosely correlate with the frequency of Chinese reopening-themed news stories. Official sector purchases, however, are likely to have correlated more closely. After China’s widespread Q2 lockdowns had depressed jewellery, bar and coin demand, it is plausible that the comeback in sales observed during Q3 has gathered steam amid robust pent-up demand. While this is less appealing than a grandiose narrative about a change in geopolitical regimes, it is also consistent with the sharp recovery in gold demand observed with urban Indian consumers over the past year and with price action associated with a surge in Chinese demand. However, this thesis would clearly be more transient and would likely imply that gold prices are subject to a steep consolidation once Chinese pent-up demand is satiated and reverts to normality. This scenario would increase risks of a consolidation towards $1700/oz or below, given gold's steep overvaluation relative to its recent historical relationship with real rates.
- Restocking for Chinese New Year: Similarly, Chinese New Year has tended to seasonally buoy gold prices. Several market participants anticipate this trend, and it's plausible that large pent-up demand for gold associated with Chinese New Year celebrations are tied to the end of Zero-Covid. Over the past five years, gold prices have rallied from November to year-end in every single instance, averaging a 3.25% gain. The exceptional 10.7% gain in gold prices observed in this time horizon for 2022 could plausibly be tied to extremely elevated demand tied to these celebrations. Unfortunately, we find little concrete evidence to support this view. Nonetheless, this scenario would also likely be associated with a sharp slump in demand as Chinese New Year approaches.
The bottom line is that while one can ignore Ghali's biases and conclusions, he correctly shows that in just the past three weeks Shanghai traders have been on a historic gold spree, equivalent to 100 tonnes in notional gold since December 20th, and as the author also notes, the "pace of gold purchases from Shanghai traders has yet to show any sign of slowing."
As for the best take at a comprehensive big picture, we urge readers to focus on what Zoltan wrote in his year-end masterpiece " Dusk For The Petrodollar, Dawn For The Petroyuan And The Coming Commodity Rehypothecation." It really says it all. |
