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Remember when gold reserves were all the rage for
central banks...?
PUTTING GOLD into your
investment portfolio typically signals a lack of faith in other people. Or at
the very least, a healthy question mark.
Yet even as governments everywhere give investors new
reasons to find doubts, the trend is no longer for those enormous investors,
the world's central banks, to keep buying. Not according to analysis of the
latest IMF data.
"Central bank activity in 2013 suggests the appetite
for gold has been whetted," notes Blu Putnam, chief economist at CME
Group, in his latest Markets Insights on Gold.
More than that, says the commodities team at French
investment bank and bullion dealers Natixis, central bank demand
"which two years ago was the driving force behind the price of gold
has not only slowed but actually turned to net selling", albeit of 20
tonnes from this spring's 10-year record aggregate holdings of 31,940 tonnes.
And little wonder...
As the CME's chart shows, central banks as a group were
net sellers for two decades starting in the late 1980s. Asian and other
emerging-market banks then raised their demand as prices rose (and the US
Dollar fell). Former sellers in Western Europe then paused their divestment,
as the global financial crisis bit hard.
Now, in contrast, "We don't feel comfortable with
gold's volatility," said Juan Ignacio Basco, deputy general manager at
the Central Bank of Argentina, at this month's London
Bullion Market Association conference in Rome. "Even though it's
only a small part of the [reserves] portfolio."
This year's volatility in prices has "definitely
changed" attitudes, Basco went on, amongst central bankers towards
buying gold. Argentina's experience makes a signal example.
Basco's central bank cut its gold bullion reserves as
prices fell in the 1990s from 120 tonnes to pretty much zero. But as prices
rose, Argentina then bought back some 62 tonnes. The last 8 tonnes were
bought at gold's all-time highs in late summer 2011.
Since then? Buying gold at $1800 per ounce has resulted
in a 30% loss over the last two years. Spring 2013's waterfall price drops
represented "greater than two standard deviation" moves, said
Basco. So "we're using options to smooth volatility," he went on.
Because with gold so volatile, but falling instead of rising, "We have
to do something."
This little titbit plus a comment from Banque
de France director Alexandre Gautier on the same panel would seem to
confirm a point which Natixis flagged 6 months ago, before gold's first sharp
decline in April. Which was that, after buying gold to achieve their desired
allocation whilst prices were rising, many smaller central banks "have
become hedgers rather than accumulators, selling at higher gold prices and
buying at lower prices in order to maintain gold holdings within their target
benchmark ranges."
Such activity known to financial wonks as
"dynamic hedging" involves options and other derivatives
contracts. No metal is being added, even as prices fall. Because those
falling prices, plus the achievement of target levels at the peak in 2011,
have spooked emerging-market central banks from adding more gold bullion in
2013. Paper contracts will do nicely, thank you, for fine-tuning the
portfolio's allocation to gold.
Hard times can make dynamic hedging less urgent, however.
Because as IMF data gathered by the World Gold Council show,
Argentina's official gold holdings have remained pretty constant as a
proportion of its total foreign reserves. Sticking around 6.5% by value, gold
has held steady even as prices fell thanks to the Latin American
basket-case's latest economic crisis, which has seen it sell other currencies
in a bid to buoy the Peso on the international currency markets.
Even so, the Banque de France reputedly a big player
in the gold sector's lending, hedging and forward selling of the late 1990s
is now "active [again] for other central banks and official
institutions" the LBMAconference learnt from M.Gautier. Certainly,
European central banks are sitting tight on their hoards. So those government
bodies now keeping the Banque busy, and whether buyers, sellers or hedgers,
must be elsewhere.
The big issue, then? China. If only because it stood out
by its absence. For the first LBMA conference in five, in fact, China's gold
reserves weren't a hot topic of debate in Rome this month. Perhaps because
everyone just assumes more gold buying by the People's Bank is par for the course.
China hasn't reported its official gold reserves to the
world since 2009. That update added 450 tonnes to the 600 tonnes already
declared. Within 6 months, near neighbor and arch-rival for Asian leadership
India snapped up 200 tonnes, acquiring gold from the International Monetary
Fund at what soon looked like a bargain price of $1050 per ounce. And while
India's private gold demand has since helped tip its trade deficit into a
tailspin leading the government to put a ban on gold imports in all but
name China's demand has continued to surge.
The world's largest gold-mining producer, China's gold
buying is likely to overtake India as the largest consumer in 2013 as well.
Add up the numbers, and the gap between supply and private demand looks so
huge, it's hard not to put the People's Bank right in the frame as the
world's gold buyer of last resort today.
Why might that be? Freer to speak than the West European
central bankers on the LBMA's panel in Rome, Argentina's Basco still agreed
with the Bundesbank and Banque de France's key point. Even if a little less
diplomatically. "Gold is a strategic matter, okay?" he told the
conference. No doubt he meant from a portfolio view. But politically, gold is
plainly highly strategic as well.
Beijing knows it. So does the Indian government. Yet this
year's key themes at the LBMA conference of trust and confidence were
most yoked together by Indian households, weirdly absent from the discussion
even as they presented the hottest topic for the 700-odd market professionals
gathered in Rome.
Part 3 to come...
Adrian Ash
Adrian Ash is head of research at BullionVault, the
secure, low-cost gold and silver market for private investors online, where
you can fully allocated bullion already vaulted in your choice of London, New
York, Singapore, Toronto or Zurich for just 0.5% commission.
Please Note: This article is to inform your thinking,
not lead it. Only you can decide the best place for your money, and any
decision you make will put your money at risk. Information or data included
here may have already been overtaken by events and must be verified
elsewhere should you choose to act on it.
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