Seven days in April send a message – loud and
clear
I did not want the day to pass without posting a few
words on gold’s significant push to the upside, now trading just shy of the
$1300 mark. To be sure, the dual positions with respect to rates on the part
of the Bank of Japan (to stand pat) and the Federal Reserve (to remain
ultra-dovish) played a role in the dollar’s recent weakness and gold’s
strength. Those determinants though, in my view, are only part of the story,
and the few percentage point drop in the dollar against the yen is really not
enough to justify a nearly $60 rise in the price of gold over the past five
trading sessions. The bigger determinant has been China’s underpinning
of the gold price on two different occasions over the past week after it had
taken a major turn to the downside in New York trading.
Taking place in benchmark sessions of the newly
inaugurated Shanghai fix, the two reversals of New York pricing – occurring
over the course of the past week – sent a message loud and clear to traders
around the gold: China was going to be a presence in the gold market and a
formidable one. Its main mission remains the import of physical gold into
China from whatever sources it can find. Most importantly, what it revealed
by its activity on those two occasions is that it is willing to bid up
the price in order to secure physical metal. Up until those events, many
analysts and traders believed China would be content to follow along with
London and New York’s lead despite the introduction of its own yuan-based
pricing mechanism, i.e. that it would continue on with the business of
acquiring gold as it had in the past. That gold paradigm had a hole blown in
it this past week. Welcome to the new gold paradigm.
I would be hard-pressed, at this juncture, to label
China’s buying as an intervention, but in terms of how the market interpreted
China’s price fixes on April 25 and April 27, it had the same impact as if it
were, both psychologically and materially. The follow-on trading in
London and New York yesterday and today had the look of short-covering – a
direct reaction to a significant change in gold market sentiment. At the
epicenter of that change sits the new Shanghai gold fix.
If China is going be an aggressive buyer of gold through
its fix, paper traders will need to take notice or face the prospect of being
called upon to make physical delivery at either the COMEX or the London
benchmark sessions. Shanghai’s guardian at the gate posture might be
enough to put a damper on players taking the short side of the market.
Too, other market participants (hedge funds, investment funds, etc.) are likely
to take a long look at the new architecture in the gold market, and when they
do, they might decide to line-up on the side of China and the strategic
instrumentality of its new benchmark.
To put a strong foundation under that line of thinking,
reconsider this quote from Peoples Bank of China governor Zhou Xiaochuan?
– “At present, up to 12 trillion yuan stays in domestic residents’
saving accounts. The launch of individual gold investment, therefore, will
allow residents to change currency assets into gold assets. At the macro
level, it will expand channels for changing savings into investment, thus
adjusting the money supply; in the micro aspect, allowing citizens to trade
and keep gold can improve social welfare, benefiting both the country and the
population. Moreover, with the dual attributes of common commodity and
currency commodity, gold is a desirable instrument for hedging. Therefore,
developing gold trade for individuals is practical.”**
With those thoughts in mind, let’s go back for a minute to
the notion of on-going dollar weakness and the decisions by Bank of Japan to
stay pat on rates and the Federal Reserve to remain ultra-dovish. Do
you remember reports a few weeks back, reported here, about a secret G20
accord to organize a de facto dollar devaluation? More and
more, it is beginning to look that such an accord may have been agreed.
If so, it would explain the Fed’s mysterious dovishness of the past several
weeks. It also serves as an additional impetus to gold demand among investors
of all descriptions – private, public and institutional. (Don’t forget the
United States is the third largest buyer of gold after China and India.)
Worth Wray, chief economist and global macro strategist at STA Management and
an expert on emerging markets, says such an accord would be a “game changer.”
At the time the rumored accord was revealed, we suggested
that “major international accords are rarely reversed in the short term given
that they are usually inspired by deep-seated concerns among the members. Adding
credence to the rumor, we should not overlook the fact that the Fed did
feature concern about emerging markets in its public statement following last
week’s meeting. It all comes together rather nicely. . . . . . .Too,
since the rumors were first reported just this weekend, the market reaction
is far from fully realized.”
Even now, we continue to believe that the full impact is
yet to be realized. Coupled with Shanghai’s aggressive acquisition
strategy, we do think that we may have entered a new era for the gold and
silver markets. In the past, strong physical demand often failed to
translate to prices. We may have come to a place where that gap between
cause and effect may have been breached.
Final
Note: Though it is too early to characterize the two instances of
reversing the price trend in the New York market as systematic support for
higher prices, both stand out as examples of how China can go about achieving
its goal to become a major player in gold’s pricing dynamics. Too, there
will likely be price levels along the way, where traders in both the East and
West believe prices are too high and due for a correction. Asian physical
buyers, under those circumstances, likely will go to the sidelines and
Western traders might once again exploit the weaker demand. In short, the
trading in Asia, like the trading in the West, is unlikely to become a
one-way street.
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