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Five years ago this
week, an obscure little ETF called StreetTracks Gold Shares was born. As the
first American ETF enabling stock traders to gain direct price exposure to a
physical commodity, GLD was truly revolutionary. Now known as SPDR Gold
Shares, this ETF has proven to be a smashing success.
Today GLD is the second
largest ETF on the planet, behind only SPY which tracks the flagship S&P
500 stock index. GLD now holds a staggering 1117 metric tons of physical
gold bullion in trust for its shareholders, which was worth $41.3b this
week! This “people’s central bank” fueled by
stock-trader gold demand has amassed so much bullion it now boasts the
world’s sixth-largest holdings.
Today GLD holds more
gold bullion than the individual central banks of China, Switzerland, Japan,
Russia, Europe, and India! Overcoming some controversy after its
introduction, GLD has matured into the
juggernaut of the gold world. Through their collective buying and selling of
GLD shares, stock traders now have far more influence over daily gold price
action than the world’s central banks.
With this still-growing
ETF already a force to be reckoned with, no investor or speculator in the
precious-metals realm can afford to ignore it. GLD’s impact is
broad and expanding, and its trading activity alone can drive the global gold price at
times. And where gold goes, silver and the PM stocks inevitably follow. Thus
PM traders who fail to stay abreast of GLD’s activity will never fully
understand PM price trends.
GLD opened up
history’s first direct conduit between gold and the vast pools of
capital in the stock markets. In all previous gold bulls, there was no
quick and easy way for stock traders to gain gold exposure. They had to
either expend the considerable time and effort of learning about gold futures
(and opening a new futures-trading account) or suffer steep transaction costs
to buy physical coins at high premiums.
These barriers to entry
for widespread gold ownership were considerable, as the great majority of
stock traders weren’t willing to put in the effort in past bulls. But
today, thanks to GLD stock traders can instantly gain gold exposure, at a
trivial cost, with a click of the mouse. This has led both institutional and
individual stock
investors and speculators to funnel capital into gold like never before in
history.
GLD’s mission is
to track the gold price, and there is only one way to accomplish it. This
ETF’s custodians must actively shunt excess GLD-share buying and
selling pressure directly into physical gold bullion itself. Unlike the futures-based ETFs and
ETNs that have so miserably failed to track their underlying assets in this
past year’s volatility, GLD has now tracked gold flawlessly for 5 years
running.
Life to date,
GLD’s correlation r-square
with gold has run an absolutely perfect 99.99%! In terms of price
exposure in one’s portfolio, GLD effectively is gold. This
isn’t an accident, as no other commodities ETF has even come close to
achieving GLD’s flawless tracking. Despite endless incoherent ranting
by a few wildly-paranoid conspiracy theorists, GLD could not have achieved
this without actually buying and selling real physical gold bullion as
advertised.
The real-time supply
and demand of GLD shares among stock traders is totally independent of that
of gold itself. So if stock traders are aggressively buying GLD faster than
gold is being bought, this ETF will decouple to the upside and fail its
tracking mission. In order to neutralize this excess buying pressure,
GLD’s custodians issue new GLD shares and use the resulting cash to buy
physical gold bullion.
This mechanism directly shunts stock-market capital into physical gold.
On the other side of
the coin, sometimes stock traders are selling GLD faster than gold is being
sold. If not immediately addressed, GLD’s shares will decouple
from gold to the downside. In order to sop up this excess GLD share
supply, its custodians buy back shares to reduce this ETF’s total
float. Where does this money come from? The custodians actually sell a
fraction of GLD’s physical gold to finance these buybacks. Differential
GLD buying and selling pressure leads to capital flowing into and out of gold
itself.
Keep this in mind as
you digest these charts of GLD’s holdings. When GLD’s gold held
in trust is growing, it means stock-trader demand for GLD shares is
increasing faster than traditional futures and physical demand. When
GLD’s gold is falling, stock traders are selling GLD shares at a faster
rate than gold itself is being sold. Because GLD is wonderfully
transparent and publishes its holdings daily, charting them offers incredibly
valuable insights into how gold demand among stock traders is evolving.
The growth in GLD over
its entire lifespan has been impressively gradual and consistent. This ETF
has never been a fad. As the powerful secular
gold bull
continued to unfold, awareness of this metal’s great potential slowly
grew among stock traders. And over time more and more discovered GLD as a
quick and easy way to gain exposure to the gold price. Thus this
ETF’s holdings have gradually grown organically.
While GLD’s
holdings have certainly followed gold’s march higher over the years in
strategic terms, tactically they have been far less volatile. In early 2006
for example, gold spiked sharply higher yet GLD’s holdings continued to
merely gradually grow. There just wasn’t much differential buying
pressure on GLD shares because GLD demand expanded at about the same pace as underlying
gold demand.
If there is no
significant differential
buying or selling pressure on GLD’s shares, its holdings remain
constant no matter what the gold price happens to be doing. We’ve seen
similar behavior in all 3 big gold spikes numbered in this chart, including
our latest one in recent months. GLD’s holdings don’t surge
rapidly when gold soars to new highs because so far stock-market GLD demand
hasn’t rapidly outpaced underlying gold demand during gold’s
sharpest moves higher.
Provocatively, the
biggest spikes in GLD holdings tend to occur early in major gold uplegs. When gold
first starts moving higher again after consolidating sideways, stock traders
tend to flood into GLD at a faster rate than gold is being bought which
forces its custodians to issue more shares to buy more bullion. But by the
time a gold upleg matures to its fast-rallying climax stage, gold demand
catches up with GLD demand so this ETF’s holdings remain stable.
It is also fascinating
that significant GLD bullion selling is relatively rare. While there often is
some differential GLD-share selling pressure when gold is weak, it is fairly
moderate as evidenced by the shallow and infrequent dips in GLD’s
holdings. This is really impressive to me, as it shows that the stock
investors buying GLD are relatively strong hands. Many are in for the
long term and don’t get too frightened by periodic gold weakness.
Years before GLD was
born, I wrote about how incredibly bullish
a gold ETF would be for gold. As history has since proven, it would open up
the gold market to vast new pools of capital. And the more money
chasing gold, the bigger and longer its bull would be. But opening such
a conduit is a double-edged sword, as stock-market capital flowing into and out of gold would
lead to a much more volatile gold price.
So one of the main
fears before GLD was introduced was that stock-market selling pressure on the
ETF would really exacerbate any gold downside. Traditional physical-gold-coin
investors like me assumed the stock traders would be capricious and
uncommitted, quick to sell. But so far at least, GLD has proven this
assumption incorrect. There really hasn’t been much differential GLD
selling pressure over its lifespan.
If there was ever a
time when all the relatively new stock traders owning GLD ought to have been
terrified, 2008 was it. Between the end of that massive early-2008
commodities upleg, the summer bond panic, and the autumn stock panic, the
selling pressure in gold was extreme. Heavy differential GLD selling
pressure would have wildly increased gold’s downside, but GLD’s
holdings remained surprisingly resilient.
In the 6 weeks between
mid-March 2008 (a Fed surprise) and early May, gold fell 15.3%. Meanwhile
GLD’s holdings fell by 12.6%, which was certainly significant but it
didn’t amplify and feed on gold’s weakness anywhere near as much
as feared. Between July and September 2008 during the bond panic (which drove major US
dollar buying), gold plunged 23.8%. But GLD shareholders weathered this
fear pretty well, only driving another 12.5% decline in GLD’s gold-bullion
holdings.
And then from early
October to mid-November in the heart of the stock panic, gold plummeted 22.4% in under 5 weeks! This
was the perfect recipe for massive differential GLD selling pressure, as gold
ought to have soared during a global financial panic instead of getting
sucked into it. Yet despite the extreme fears bleeding over into gold,
GLD’s holdings only shrunk by a trivial 2.2% over this span.
And within this entire
troubled period from March 2008 when gold first closed over $1000 to those
November panic lows, this metal had fallen 29.3%. This was a serious and very
disconcerting selloff, even for the hardest-core gold faithful. But over this
undeniably miserable 8-month span for gold, GLD’s holdings actually grew by 12.8%!
The stickiness of its holdings, even
amidst the most challenging conditions of this entire gold bull, was
remarkable.
Either existing GLD
owners were not frightened into selling despite gold’s horrendous
weakness in 2008, or more stock traders were buying GLD for the first time
than existing owners exiting. This is tremendously bullish for gold. At
this stage in the gold bull at least, stock-market ownership of GLD is still
ramping up. So GLD’s impact on gold prices will likely remain
asymmetrically bullish, considerably amplifying gold’s uplegs
(differential GLD buying pressure) but not severely exacerbating its
corrections.
And I suspect this GLD
growth and resulting asymmetric upside impact will continue for years to come
yet. Why? America’s stock investors remain woefully underinvested in gold.
At the end of October, GLD held $36.9b worth of gold on behalf of US stock
investors. This sounds massive, and it is relative to gold. For
comparison, the big recent Reserve Bank of India purchase of 200t of IMF gold
that laid the psychological foundation for this latest gold surge was just a
$6.7b deal.
But compared to the
gigantic stock markets, GLD remains trivial. The same day GLD held $36.9b
worth of gold, the S&P 500 alone had a collective market capitalization
of $9870.4b! Despite GLD’s phenomenal success, it remains tiny in the grand
scheme of stock investing. It is only worth 0.4% of the S&P 500’s market
cap, and a smaller fraction still of the entire stock markets’. Yet
even the most conservative advisors recommend all investors have at least 5% of their
portfolios in gold, with some recommending up to 20%.
GLD could still grow by
an order of magnitude
from today’s levels and still only hit 3.7% of the S&P 500’s
market cap! So GLD’s holdings, and thus its upside impact on this
gold bull, should continue to grow as long as stock investors remain
underinvested in gold. This secular gold bull which started in April 2001 is
probably only half over today, and mainstream gold investment should continue
to grow throughout its entire second half. So GLD’s holdings
ought to grow on balance for many more years yet.
A great illustration of
the implications of chronic gold underinvestment occurred earlier this year
in February. As you can see, GLD’s total holdings rocketed higher
dramatically in their biggest spike of this entire bull. GLD blew
through the milestone records of 800t, 900t, 1000t, and 1100t in very short
order. This “GLD Rush” was incredibly exciting and
important, so I highly encourage our subscribers to download the 3/09 issue
of Zeal Intelligence from our website archives to experience it in detail.
But what drove
unprecedented 22.0% growth in GLD’s holdings in February alone?
Why did it have to buy 185.7 tonnes of bullion that month? A single major hedge
fund decided to take a stake in gold. As I explained in depth in the 6/09 ZI
after the hedge-fund SEC filings were released, one hedge fund purchased 8.7%
of GLD’s shares during the first quarter! Because this fund
decided to remedy its state of being underinvested in gold, its GLD buying
almost single-handedly drove a 22.5% gold rally in just 5 weeks. And this was
despite the US Dollar Index rising
3.4% over this span!
This February GLD rush
is important on a couple fronts. First, it illustrates how fast GLD can
grow when big players decide it’s time to start investing in gold.
We’ll certainly see a lot more of this in the coming years as stock
investors’ trivial 0.4% GLD investment continues to rise. Second, this
episode utterly shatters the flimsy arguments and outright lies from the
conspiracy theorists inexplicably claiming GLD doesn’t actually deal in
physical gold.
If GLD didn’t
actually shunt excess buying pressure into physical bullion itself, there is
no way gold would have rocketed 22.5% higher in just 5 weeks in the face of a
rallying US dollar. One hedge fund bought aggressively, GLD was forced to
issue shares and buy bullion, the London gold traders where GLD’s gold
is stored saw it happen, and this was all reported to the SEC by both the
hedge fund and GLD itself. This ETF really
is buying and selling physical gold as advertised, and it
directly impacts the world gold price.
As GLD becomes more
widely-held by stock traders, their collective influence on gold’s
day-to-day price action will only grow. This final chart examines GLD’s
daily trading volume translated into its tonnes-of-gold equivalent. Back in
early 2001, a single 25-tonne gold sale by a central bank was
big news that hammered the gold price. But so far in 2009, GLD’s
average daily
volume has been 47.6t!
Despite gold rising
from $400 to $1100 over GLD’s lifetime, its gold-equivalent volume has
still grown massively. In 2005 GLD trading averaged 6.1t per day, about an
eighth of 2009’s 47.6t. In capital-volume terms, or the dollar value of
the gold traded via GLD shares, the growth in GLD’s influence is far
more impressive. Capital volume in 2005 averaged $89m per day compared to
$1440m in 2009, incredible growth of 16 times!
With so much stock
capital flowing into and out of gold via GLD, it is fascinating to observe
how stock traders interact with the gold price. As this chart reveals, the
biggest spikes in GLD trading volume tend to occur when gold makes big moves.
This implies that most of the time (with the exception of big institutional
buying like February 2009) stock traders are still reacting to gold
through their GLD trading rather than using GLD to drive gold.
One day in June 2006
following the biggest and sharpest surge of its bull, gold plunged
7.3%. That extreme weakness really scared stock traders driving $1.5b
worth of gold to change hands via GLD shares. Interestingly though,
GLD’s holdings remained stable through this exceptional selling
pressure. So the stock traders weren’t selling GLD any faster than the
futures guys were dumping gold itself.
In March 2008 gold fell
3.4% after the Fed showed “restraint” (bullish for gold’s
nemesis, the dollar) by only slashing interest rates by 75 basis points
instead of the 100 to 125 expected. $3.5b worth of GLD gold changed
hands on this development, a record. Provocatively there was outsized
GLD selling pressure, as this ETF’s holdings shrunk a major 2.3% that
day. It was a stock-trader capitulation signaling that the gold correction
was getting overdone.
Between the bond panic
and stock panic in mid-September 2008, gold rocketed 11.1% higher leading to huge GLD buying
pressure. That day as gold soared, $5.6b worth of gold changed hands in GLD
shares! This record stands to today. There was enormous differential
buying pressure, as GLD’s custodians had to grow its holdings by an
astounding 5.9% on that single day!
In February and March
2009 we saw a couple more giant GLD volume spikes, both on relatively mild
gold rallies but still exceeding $5b in each case. The February one was
driven by the hedge-fund buying and resulted in GLD growing its holdings by
4.5% in one day. The March one resulted in a far milder but still big 1.4%
growth day in GLD’s holdings. The frequency of big GLD interactions
with gold is ramping up.
Though beyond the scope
of this essay to prove on a day-to-day basis, GLD’s activity in the
gold markets is increasingly impacting the gold price. And through GLD,
prevailing stock-trader psychology on gold is becoming more important than
ever before. Greed and fear among GLD traders is amplifying big gold up days
and down days, and the larger GLD grows and the more widely it becomes held
the more significant and frequent this influence and interaction will become.
In our acclaimed
monthly Zeal
Intelligence
newsletter, I factor GLD buying and selling into my ongoing detailed gold
analysis that we use for actively trading the entire precious-metals
sector. If you want to successfully trade PM stocks, GLD’s
growing influence on gold’s fortunes simply cannot be ignored. To
rapidly grow your knowledge of the financial markets, commodities stocks, and
how to thrive in your own trading, subscribe today. Become an informed
investor!
The bottom line is
GLD’s impact on the entire precious-metals realm is big and growing. By
creating the first-ever quick and easy conduit between stock-market capital
and gold, GLD is radically expanding participation in this gold bull. While
this has certainly increased both upside and downside volatility at times, it
is ultimately very bullish for gold given today’s chronic
underinvestment in this metal.
The greater the pools
of capital chasing any bull, the bigger and longer it will eventually
run. The more the merrier! In the meantime, investors and
speculators alike can capitalize on GLD’s increasingly frequent big
interactions with the gold price. By carefully observing what stock
traders’ greed and fear is forcing GLD to do with its holdings, we can
increase our odds of finding excellent PM entry and exit points.
Adam Hamilton,
CPA
Zealllc.com
November 6, 2009
Also
by Adam Hamilton
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