Given the dramatic fall in the price of gold during Monday’s trade (down $38 – or 3% – to $1,152/oz) on the back of the Swiss referendum decision, I thought it worthwhile to enter into a broader discussion with respect to gold.
For those that might have missed it, Swiss voters over the weekend rejected a proposed referendum requiring their central bank to hold a portion of its assets in gold. It was a measure that President Thomas Jordan described as an “invitation to speculators” that could have hurt the Swiss economy.
The “Save Our Swiss Gold” proposal stipulated that the Swiss National Bank hold at least 20% of its 520-billion-franc (US$540 billion) balance sheet in gold, whilst also committing to never sell any bullion. It also required the 30% of Swiss central bank gold stored in Canada and the UK to be repatriated
The measures were voted down by 77% to 23%, which wasn’t a surprise – numerous polls had predicted exactly such an outcome. What was a surprise was the market’s reaction, which triggered a sizeable drop in the price of gold bullion. For all intents and purposes, the poll result was a foregone conclusion to all but the most naive or ignorant of investors.
Furthermore, in the broader scheme of things, the Swiss referendum was essentially a non-event, except for journalists looking for a dramatic headline. The predictable headlines have emerged in the wake of the Swiss referendum decision, suggesting this is yet another factor in gold’s demise as an investment.
In our view the Swiss poll result was entirely predictable and already factored into the price of bullion prior to the poll outcome, so the fall in the price of gold in the wake of the result is hugely irrational. What’s been interesting has been the subsequent rebound in the gold price to $1,200/ox, which I believe reinforces our view.
Furthermore, the quantum of gold involved was not significant in the broader scheme of things. Thirdly, the result does not infer an aversion to gold by the Swiss central bank, as otherwise might be inferred.
One of the key points of opposition to the proposal by the Swiss National Bank revolved around its strategy of artificially maintaining the Swiss currency at low levels. Increasing the bank’s gold holdings would likely have led to a rise in the value of the Swiss franc, impacting price stability and the bank’s objective of capping the value of the franc at 1.20 euros. This minimum exchange rate was set three years ago, with the SNB pledging to buy foreign currency in unlimited amounts to defend it.
An alternate view on the gold referendum was offered by veteran resource sector observer, Lawrence Williams, who highlighted in an article “the unprecedented lobbying and scaremongering from the Swiss establishment. Even so the fact that this referendum is even taking place reflects the obvious unease which is running through sectors of the European financial community regarding the true levels of physical gold held on their behalf in the US in particular.”
“Now take a look at the Swiss gold referendum. Here again, the Swiss central bank – the SNB – and the Swiss political establishment have been coming up with drastic scaremongering statements in order to try to derail a move which would force the SNB to repatriate its overseas gold holdings and to maintain a minimum percentage of gold in its reserves. It’s not so much that the SNB and the country’s political leaders do not want to change their current policies – that is perhaps natural – but the tactics they are using to prevent this which smacks of desperation”, he said. Well said!
“It is the lengths to which the establishment is prepared to go to preserve the status quo which leaves a nasty taste.”
If we look at the world’s biggest holders of gold outside of the USA, there have been moves to repatriate gold held in US vaults by the second-largest holder Germany; by France at No.4; Switzerland at No. 7; and The Netherlands at No.9 (which has already quietly repatriated 122 tonnes from the US); while Venezuela at No.15 has also already succeeded in repatriating all its foreign-held gold holdings. Meanwhile, Russia at No. 5 is increasing its gold reserves on a monthly basis and China at No.6 is strongly believed to have been expanding its gold reserves.
The world has seen an unprecedented recorded flow of physical gold eastwards in the past few years, significantly at a level that has been shown to exceed new gold production. Indeed India and China alone are accumulating more physical gold than the world’s miners are currently producing.
The recent moves for gold repatriations suggest that there is at least a degree of belief in the theory that the levels of leased central bank gold are now so high that they cannot possibly be returned to the vaults, as the physical supply is just not available. As Lawrence Williams describes it, “It has gone to firm hands in the East. Any attempt to return the gold with the lessees chasing what little physical gold is actually available would drive the price sky high and beyond. “
The Swiss gold referendum is therefore a sideshow to the main game in the gold sector.
As we discussed in yesterday’s gold note, Chinese gold demand remains high and looks set to approach last year’s record levels. With gold withdrawals from the Shanghai Gold Exchange hitting 1,761 tonnes by November 14 and weekly withdrawals since the Golden Week holiday at the beginning of October averaging comfortably over 50 tonnes, China looks to be heading for an annual demand total of comfortably in excess of 2,000 tonnes again this year.
Historically, November and December are strong months for Chinese gold demand ahead of the Chinese New Year (February 19 2015), which suggests gold demand will remain strong through January and the first half of February. Indeed, should the current weekly demand levels hold up, then we could be heading for an annual figure of around 2,100 tonnes.
And if the figure of 2,100 tonnes is indeed reached it will mean that Chinese gold demand in 2014 will only be around 5% down on last year’s record, a far cry from what the mainstream media has been suggesting. And let’s not forget India. Overall Indian demand is strongly above that of a year ago, meaning that China and India alone are consuming more gold than the world is currently mining. And, of course, China and India are not the only countries consuming substantial amounts of gold.
As we’ve commented consistently over recent times, the Russian central bank is estimated to have acquired up 150 tonnes so far this year, while other countries within the Russian sphere of influence have also been buying. Total gold reserves are now estimated to have reached 1,169 tonnes, moving Russia further ahead of China as far as ‘official’ gold reserve figures are reported.
Current World Gold Council figures estimate global gold mine output at a little over 3,100 tonnes, however this is almost certainly ‘peak gold’, barring a huge and rapid increase in the gold price. New gold mine developments are on hold and lower gold prices are seeing marginal mine closures, which together with falling head grades and depleting reserves, are certain to lead to a gradual output decline over the next few years.
We maintain our confidence in gold returning to a support level of around $1,300 during 2015, driven initially by reserves write-downs by major producers. The majority of these producers have utilized reserves calculations based on a gold price well in excess of current spot prices.
