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London Gold 'Tightens Significantly' on Outflow to Asia, Miner Hedging, Russia Sanctions

London's wholesale gold market in 'slight backwardation' as borrowing costs rise...
 
LONDON'S GOLD market has "tightened significantly" according to bullion analysts, thanks to lower stockpiles – shrunken by continued outflows of metal to Asian buyers – running into growing demand to borrow wholesale metal.
 
With the cost asked of gold borrowers rising to 0.4% annualized on 1-month loans – the highest level since a sharp spike in March 2001 – "Gold lease rates have continued rising," notes French investment and bullion bank Natixis, attributing the rise to "an outflow of gold from Western investors to Eastern consumers" plus a rise in "producer hedging" by gold mining companies wanting to sell future output today for fear of lower prices ahead.
 
That means borrowing metal first, with a view to re-delivering in future using newly mined output.
 
"Heavy buying in Asia," agrees Jonathan Butler at Japanese conglomerate Mitsubishi, has depleted the London bullion market's stockpile of metal, with the loss to world supplies of Russian mine output – thanks to Western sanctions over the Crimea conflict – also working to "reduce available metal in the London market, moving the forward curve [of borrowing rates] into a slight backwardation."
 
More normally seen in industrial commodity markets, "backwardation" is when prices for immediate delivery are higher than for future delivery.
 
Physical gold in London's wholesale market typically trades in the opposite position of "contango" – firstly because storage costs (and the lost interest on cash which a holder could otherwise earn) add to prices for delaying delivery into the future, and also because plenty of metal is usually available for immediate supply.
 
Over in the leading gold consumer markets, India's demand has now topped 100 tonnes for two months running, note analysts at RBC Capital Markets, pointing to the recent Hindu wedding season and the sub-continent's peak gold buying Diwali festival in October.
 
China's gold imports through Hong Kong, although 35% lower year-to-date from the record levels of 2013, have meantime risen for 3 months running on official data.
 
Unreported imports directly to Shanghai are also rising sharply according to other countries' export data. Major refining nation Switzerland has so far in 2014 sent 153 tonnes to China directly, with a further 299 tonnes going to Hong Kong out of a total 1,372 tonnes exported worldwide year-to-date.
 
The UK – where London's specialist vaults represent the world's central storage point for wholesale bullion – has meantime exported £15 billion-worth of gold so far in 2014 according to customs data, but imported only £10bn.
 
A much greater outflow from London – central vaulting point for the world's stockpile of wholesale 'Good Delivery' bars – was also seen in 2013, when heavy Western investor selling met a surge in Asian gold demand on the crash in prices.
 
Falling stockpiles pose a " fundamental challenge to London's dominance in bullion dealing," BullionVault noted earlier this year, writing in professional trade body the London Bullion Market Association's quarterly journal. Because the price crash of 2013 - and the resulting surge in Asian premiums over and above London prices as that region's consumer demand leapt - "incentivized a massive shift in the world's tradable stockpiles, out of UK storage through Swiss and Middle East refineries onto Asia."
 
"Interestingly" in late 2014, says a note from South African bullion bank Standard Bank, "the gold forwards [interest rates] have tightened significantly in spite of weak[er] physical demand and ETF outflows" during November.
 
Sometimes taken as a proxy for the movements in large investment holdings of gold, the largest exchange-traded gold trust fund – the SPDR Gold Trust (NYSEArca:GLD) – this week shed another two tonnes of gold from the metal needed to back its shares, falling 47% by weight from its end-2012 peak to a new 6-year low of 718 tonnes.
 
Moscow's central bank has meantime been buying and hoarding gold directly from Russian miners – the world's fourth largest producers – because the banks and brokers they would otherwise use to sell their output are blocked from using international markets by US and EU sanctions over the Ukraine conflict.
 
Looking at the rising cost of borrowing wholesale gold in the London market, "We note that such conditions sometimes presage a move higher in the spot price," says Butler at Mitsubishi, "as borrowers scramble to secure gold, although this is not underway yet."

Adrian Ash is director of research at BullionVault, the world-leading physical gold, silver and platinum market for private investors online. Formerly head of editorial at London's top publisher of private-investment advice, he was City correspondent for The Daily Reckoning from 2003 to 2008, and he has now been researching and writing daily analysis of precious metals and the wider financial markets for over 20 years. A frequent guest on BBC radio and television, Adrian is regularly quoted by the Financial Times, MarketWatch and many other respected news outlets, and his views from inside the bullion market have been sought by the Economist magazine, CNBC, Bloomberg, Germany's Handelsblatt and FAZ, plus Italy's Il Sole 24 Ore.

See the full archive of Adrian Ash articles on GoldNews.

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