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China's GDP Growth Down, Gold Buying Up

2013 has seen China's gold buying defy earlier analyst calls for a GDP-linked slowdown...
 
MARCUS GRUBB is managing director, investment, for market-development organization the World Gold Council.
 
Based in London, Marcus Grubb leads both gold investment research and product innovation, as well as marketing efforts surrounding gold's role as an asset class. With more than 20 years' experience in global banking, including expertise in stocks, swaps and derivatives, he speaks here to HardAssetsInvestor's managing editor Sumit Roy about the World Gold Council's latest Gold Demand Trends report...
 
HardAssetsInvestor: What are the highlights of your latest Demand Trends report?
 
Marcus Grubb: We saw a fall in demand, of 21% in Q3 to 869 tonnes. Having said that, under the surface, there are some different trends. Jewelry demand has continued to rise. Year-to-date jewelry demand globally is up 20%. When you look at investment, though, that's where the damage was done. We had a 56% drop in investment, all due to the further outflows from ETFs in this quarter.
 
On the positive side, central banks continued to buy, albeit at a slower pace than last year. We still stick by our 350 ton target for the year-end. Year-to-date, to the end of September, we are up 300 tonnes – if anything, a chance we might exceed our year-end target on the central banks.
 
The other interesting thing was, on the country side, we had India down 32% in this quarter. That was the other thing that hit these numbers. However, that was largely due to the import restrictions that were imposed in India. Overall, it's interesting, though, that India is still up 19% year-to-date in September, even with this terrible quarter for Q3.
 
Meanwhile, China is continuing to be very strong, with an 18% rise on the quarter and a 40% increase year-to-date. We think there's a possibility China could end the year at the upper range of our forecast or even higher. That's 1,000 tonnes or more. And lastly, on the supply side, mine production rose 4%, while recycling dropped 11. So supply dropped 3% overall. No surprise there; the recycling figure matched the fall in the price.
 
HAI: It looks like ETFs were once again the primary culprit of the big decline in demand in the third quarter. Why do you think that continued? And do you see that continuing in the fourth quarter?
 
Marcus Grubb: It continued largely because of the ongoing debates about the strength of the economic recovery and the discussion of possible tapering by the Federal Reserve. But there's deceleration in the outflows from ETFs. And in recent weeks, we've actually had inflows of investment into gold ETFs. We're very much seeing the bottoming out of that trend in the ETF market.
 
And you're now seeing those investors who are still in the ETF are longer-term strategic holders who will be looking at gold as a hedge asset in their portfolios. They're not in there because of the commodity supercycle or fear about the financial system. Most of those investors have now sold out. So I think we are seeing that bottoming-out process right now in the ETFs.
 
HAI: As ETF outflows have stabilized, it seems the price has also stabilized. Is there a correlation there, do you think?
 
Marcus Grubb: There's some correlation. But I think it would be too much to say that they're closely linked. The activity that's much more indicative of the short-term price direction is in Comex and the futures market.
 
HAI: In Q2, we saw that huge demand spike in the physical investment side in response to the lower gold prices. But it looks like that spike didn't last into Q3. Why do you think that is?
 
Marcus Grubb: I'd say that it did last into Q3, just not at the same heightened level. Q2 was, as you rightly say, extremely strong. The reason I'd say it did continue is that, if you look at consumer demand to the end of September – that's jewelry plus gold bars and coins – it's actually now at a record high.
 
What you've seen is continued strengths, excluding ETFs and India. India has been affected by government restrictions, but everything else has been continued to be pretty strong in Q3. And so the result is that consumer demand to the end of September is at a record high.
 
HAI: Central bank purchases were down slightly year-over-year. But it's still a robust 93 metric tonnes. Bulls have to be encouraged by that.
 
Marcus Grubb: Yes, in our discussions with central banks, we don't think anything has changed. There has been something of a pause in the purchasing because of the volatility of the market this year and also because of the emerging market crisis that we saw in the middle of the year; that kind of slowed the buying down a bit.
 
But we don't believe it has changed their fundamental desire to own gold and increase their weightings to gold to diversify against the Dollar and sovereign debt, which are the largest asset classes that most central banks own.
 
What we saw in Q3 was a quieter period for buying. It's been limited more to Russia and the Central Asian Republics: Kazakhstan, Azerbaijan, Ukraine. We would expect some of the other countries that we've seen in recent years, and even earlier this year, to come back into the market, and that would be those central banks in Latin America and Southeast Asia. We expect it to continue next year as well. But we need more stability in the market to see some of the other central banks return to buy gold.
 
HAI: China's demand is on pace for a record this year and could break 1,000 tonnes. Can you put that into perspective for us? What was China's demand five years ago, or 10 years ago? It's grown tremendously, hasn't it?
 
Marcus Grubb: It has grown tremendously. I mean last year it hit an all-time record of about 776 tonnes. But if you go back further, demand was 408 tonnes in 2008 and 207 tonnes in 2003. That's phenomenal growth.
 
China's demand is basically catching up to Indian demand, which has for many years been, on a per capita basis, more than double China. And the stock of gold in China is roughly half that of India. The best estimate of the stock of gold held in Indian households is about 20,000 metric tonnes. In Chinese it's probably under 10,000 metric tonnes.
 
HAI: It looks like China's demand has more than doubled over the last five years. Do you see that type of growth rate continuing?
 
Marcus Grubb: Speaking to our managing director in Asia, Albert Chang, I would say no. It's unlikely we'd continue to see that pace of growth. However, we would expect to see strong growth continue, even at a decelerating pace. It's very interesting that gold demand is so strong in a year Chinese GDP growth slowed down quite significantly.
 
If you'd asked a lot of analysts in January whether they thought gold demand would be flat or down in China this year, they would have probably said yes, because everyone was expecting the slowdown in the economy. It seems that the slowdown has negatively affected base metals, where China is 40 to 50% of demand, but it's worked the other way for gold. As Chinese growth has slowed down, actually gold demand seems to be going up.
 
What it says to me is that the shift in growth is happening in China from exports to domestically driven growth from households, and that's positive for gold.
 
HAI: Mine production was up 4% year-over-year. I know it takes a while for price changes to impact output. So, is the increase in production a response to higher price levels from 2011 and 2012? And when can we expect these low prices right now to impact supply?
 
Marcus Grubb: Yes, there's always a lag in that. But you're also still seeing, to an extent, a recovery from depressed levels last year. Remember, there were issues in parts of the mining sector last year, in South Africa, etc. Though, as you rightly say, mine production takes a while to adjust. Most analysts I talk to suggest that mine production will start to be impacted probably toward the end of 2014 or even in 2015. It will take something close to a year before you will see it feed into mine production figures.
 
HAI: What are you most looking forward to seeing in the next Demand Trends report in the fourth quarter?
 
Marcus Grubb: If you look at the year-to-date figures, it's the first time ever that China has been larger than India. China is currently at about 797 tonnes; India is about 715 tonnes.
 
It's pretty clear China will be No.1 this year, and as I said earlier, could come in over 1,000 tonnes. That's something I'll be looking at.
 
I'd also watch the ETFs figure. It will be significantly better in Q4 than we've seen. As I said, recently we've actually seen some inflows back into the gold ETFs in late October/early November. You're going to see a better quarter for ETFs in Q4.

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