On Central Banks & Gold ETFs
Thursday, 12/19/2013 17:58
Gold demand, like its correlations and trends, continues to morph into 2014...
GLOBAL gold prices have lost 30% year to date, and exchange traded fund (ETF) redemptions have seen 800 tonnes of gold flow out of the market, says Hard Assets Investor.
But Marcus Grubb, managing director of investment at market-development organization the World Gold Council, argues it is too easy to bash an asset class when it is down, and now is the time for a renaissance.
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IndexUniverse interviews Marcus Grubb about the potential upside surprise of gold prices next year, how ETFs are not always an indication of sentiment, and the obstacles in the path of a global recovery.
Index Universe: How is gold priced?
Marcus Grubb: The global spot price is in real time but there are also two London fixing prices in the morning and afternoon. There isn't a single gold price, which is a generally less well known fact.
There are wide variations on the
gold price. There is a premium of $300 an ounce in Mumbai and $15-150 an ounce in Shanghai, while the Vietnam premium is about $150 an ounce.
Index Universe: The gold price fixing process has fallen under scrutiny from regulators, as it is arguably easily manipulated. Is this different to what we have seen recently with the Libor-rigging scandal?
Marcus Grubb: We're not involved in that [process]. The system of setting the price goes back to 1913. And it is a traded price of 400 ounce gold bars, so in that sense it's significantly different to the Libor rate, which is simply an indication of interest and is therefore falsified fairly easily.
Index Universe: What is the physical size of the market?
Marcus Grubb: If you were to find all the gold that has ever been mined and recycled it, it would amount to 174,000 metric tonnes, which is 20.5 metres cubed. That is equivalent to the dome on top of St Paul's Cathedral. That cube is only growing at 2800 tonnes a year due to mine production, with a huge amount of recycling.
Index Universe: Is there really enough liquidity in the gold market?
Marcus Grubb: Some people say there is a shortage of gold and it's being hoarded – that there are not enough [gold] bars behind the futures contracts – so the supply of gold could be squeezed when the price goes up.
But even with the fall in tonnage in global ETPs, you've still got about 1700 tonnes in physical ETFs. There is plenty to go round. In addition, the Chinese market saw two gold ETFs launched this year, with probably another two coming in 2014 as well.
Index Universe: Central banks have been buying gold. Will that continue?
Marcus Grubb: Central bank demand is strong this year, with 300 tonnes of net purchases excluding sales by the end of September, and this will probably reach 400 tonnes by December, but it is down compared to last year.
Until a few years ago, central banks were major sellers and had been so for 15 years. Then last year we had the biggest net purchase since the 1960s. We think they're going to keep buying gold as they diversify their assets and they've moved in the market from supply side to the demand side.
Central banks think gold has unique value to preserve national wealth as they are concerned about sovereign debt and the fact that paper currencies might be debased further to get us out huge debt incurred in the aftermath of the credit crisis.
Index Universe: Bitcoin, the virtual currency, has recently risen to new heights in value. Is this a threat for gold?
Marcus Grubb: Gold is a kind of currency, and this is being brought to the fore through the rise of Bitcoin, but the bottom line is gold is a store of wealth and something that can't be debased.
The rise of these cryptic currencies is a fascinating development, but they don't have intrinsic value and are not consumed in the same way as gold.
Index Universe: Are gold ETF redemptions a sign of investor sentiment?
Marcus Grubb: Firstly, you had 800 tonnes of ETF redemptions but this has largely been absorbed by central bank demand, by bar and coin investment and strong demand in India and China. Even as ETF investors are selling gold, others buy it as they think it's cheap. And I'm not sure all redemptions we have seen are purely people disinvesting in gold.
Secondly, ETFs are quite small in the context of the gold market, so while they've been very visible, a big driver of gold on an everyday basis is the Comex, rather than ETFs. If somebody sells an ETF on an equity index, there is usually only one explanation: the investor is getting less positive about equity, but it is more complicated with gold due to the underlying physical metal.
Index Universe: Are we still in a bear market?
Marcus Grubb: We are seeing the market getting back to an equilibrium. The problem for the future is that the gold that has gone east is in strong hands and isn't going to come back very easily.
Its growth is really about long-term demographics and the growth in wealth, like any other commodity. People think it's all about the Dollar and the Federal Reserve; well, you try telling that to any Indian housewife.
Index Universe: But isn't investor sentiment improving along with a global recovery?
Marcus Grubb: Knowledgeable investors know that the fundamentals behind this recovery are still the worst in a generation in terms of demographics and the huge levels of debt, the high unemployment amongst young people and the deflationary pressures on the economy. We might have a bit of a surprise with a disinflationary year in 2014, and that would cause a lot of problems in the Eurozone.
What is more likely is a period of below par recovery, below the long term global average growth rate of 3.5%, and relatively subdued consumer price inflation. But we will have asset bubbles, because central bank policy is still about ramping asset prices.
People are losing sight of the fact that this recovery is still a very risky one by past comparisons. We would argue it's still very prudent to have an allocation to gold in your portfolio as there are still many issues to hedge against.
Index Universe: What would you argue are common misconceptions that investors have about gold?
Marcus Grubb: Traders that take positions on the Comex [division of New York Mercantile Exchange] tend to treat gold as a highly volatile, speculative asset, but it is the reverse of that. Most investors understand it as a long term asset.
I also take issue with the phrase "safe haven": as I tell more quantitative investors, it is risk off and risk on and it moves around; correlations change. It's one of the few asset classes to do that.
Index Universe: What is your outlook for the asset class next year?
Marcus Grubb: This would have been a phenomenal year for gold again if you hadn't had ETF redemptions – as investors got more confident they reduced their hedge – and if the Indian government hadn't taken out the largest market in the world with their restrictions on imports. It's hard to see either of these things carrying on in 2014, as there is an election in India, and there is no way ETF investors will redeem anything like they did so far, so there is a potential upside in gold. That could be a surprise for next year.
Index Universe: Will gold always be as valuable as it is now?
Marcus Grubb: I've always been struck why gold stirs such emotions; investors don't react this way to Japanese bonds or German equities. You see people hopping around at conferences, journalists have very strong views, there are so many fringe views as well – it's remarkable. Because of gold's history, it keeps slipping people's notice that gold has been a currency and the premier luxury good and jewellery metal for several thousand years and that's not going to change.
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