Gold in 2013: The Foundation For 2014

By Alasdair Macleod

Posted 28 February 2014

The chronological events of 2013 set the background for gold in 2014. It was a momentous year which should ensure a rise in the gold price in 2014.

Before 2013 demand for physical ETFs was high. At the same time Asian demand, from China, India, Turkey and elsewhere, was accelerating leaving Western bullion markets increasingly short of physical liquidity. Hong Kong and China between them in 2012 had absorbed on official figures 1,458 tonnes, and India a further 988 tonnes, ensuring 2013 kicked off with more global demand than available supply from mines and scrap.

The following is a list of subsequent important developments in 2013.

1. Germany’s Bundesbank announced in January that it would recall 300 tonnes of its gold stored at the New York Fed by 2020. The Bundesbank was criticised for this decision, since gold held in New York amounted to 1,536 tonnes, so why take seven years to repatriate less than 20% of it? In the event by the year-end only five tonnes had been repatriated, fuelling rumours that it didn’t actually exist other than as a book entry.

2. The Cyprus bail-in debacle in February alerted everyone to the new bail-in procedures being adopted by all G20 member states. Wealthy depositors in the Eurozone suddenly realised their deposits were at risk of confiscation. Governments were no longer going to bail out large euro depositors, let alone those with bullion accounts.

3. The new bail-in regime was followed by ABN-AMRO and Rabobank’s refusal to deliver physical gold to their account-holders, offering currency settlement instead. Many interpreted this as evidence of long-term holders attempting to withdraw physical bullion.

4. By end-March it was becoming clear that growing demand for physical bullion was a potential systemic problem. This was followed in April by a co-ordinated attack on the gold price to persuade the investing public that gold was in a bear market.

5. The result was liquidation by weak holders in ETF gold funds. However, lower prices also triggered unprecedented physical demand, particularly from China and India but also across the whole Asian continent. Gold coin sales broke records. None of this escalating demand appears to have been expected by Western central banks, which by elimination had to be the principal source of maintained liquidity.

6. In July I discovered that in the four months following its 28th February year-end the Bank of England appeared to have delivered up to 1,300 tonnes of gold from its vaults. This amount tied in with record Asian demand in the wake of the April price drop, far greater than can have been satisfied from other known sources such as ETF liquidation.

7. The new Governor at the Reserve Band of India, Raghuram Rajan, who was once the IMF’s Chief Economist, introduced restrictions on India’s gold imports blaming them for the trade deficit. This overturned official policies which led to the liberation of the gold market in the early 1990s, fuelling suspicions that this move was orchestrated by Western central banks.

8. Premiums in India rocketed and smuggling escalated to meet demand.

9. Ben Bernanke in his testimony to Congress in mid-July said “No one really understands gold prices, and I don’t either.” Was he admitting to a policy failure over gold management?

10. In October both the Swedish and Finnish central banks announced the location of their gold reserves. Additionally, the Finnish central bank’s Head of Communications added further information in Finnish in a blog run on the Bank’s website, to the effect that all 25 tonnes held at the Bank of England was “invested” (i.e. leased or swapped), and that “Gold investment activities are common for central banks”. This appears to be an admission that significant amounts of monetary gold have been sold into the market. Question: How do they get it back, when Asian demand alone absorbs the equivalent of all global mine and scrap supply?

11. Chinese public demand through the Shanghai Gold Exchange and Hong Kong rose to 2,668 tonnes over the whole year. Add in 50 tonnes of coin, and it amounts to 2,718 tonnes in all. We know this because these are firm figures issued by the SGE and the Hong Kong Government, not the result of surveys, aiming to identify end-users.

12. We can assume that China’s own mine production of 430 tonnes is not in these figures, on the basis that the government buys all domestic mine production and is unlikely to put gold production from mines it controls through commercial brokers on the SGE. This being the case, Chinese mine production should be added to total demand figures, raising the total to 3,148 tonnes. Furthermore available statistics do not include gold bought outside China by the Government and wealthy citizens and either imported or held in vaults abroad, so we can probably regard this figure as a minimum, even though the SGE deliveries includes scrap of a few hundred tonnes.

13. Meanwhile the China Gold Association reports gold “consumed” of 1100 tonnes, and the WGC reports identified Chinese demand of 1,066 tonnes. These are the figures commonly accepted by Western analysts as total demand.

In conclusion

The events of 2013 persuaded investors in western capital markets that gold’s bull market had definitely been broken, and that gold would probably go lower or at best move sideways in 2014. The underlying reality is very different, with China in particular managing to corner the physical market with trend-following Western analysts caught unawares.

So far, instead of continuing to fall the gold price actually bottomed on 31 December at $1182, and since then has rallied over 13% to $1340. The position today is that some hedge funds which were short have closed their positions and there are more yet to do so. There is growing evidence for the trend-chasers that the price is entering a new bull phase, with the 50-day and the 200-day moving averages both rising and about to complete a golden cross.

Central banks appear to be facing a problem of their own making. The lesson from Germany’s attempt to repatriate her gold appears to have provided prima face evidence that central banks have little or no physical liquidity left. Minor central banks, such as Finland’s, must now be wondering if gold out on lease will ever be returned to them, so may be increasingly reluctant to make their gold available for further leasing. Instead they are likely to end current leasing agreements as they mature rather than extend them.

In 2014 there is likely to be a growing realisation that the vaults in the West are very low on stock.

2014 should be an interesting year.