The day after the World Gold Council (WGC) released Gold Demand Trends Full Year 2014 in which they audaciously pretend Chinese gold demand last year was 814 tonnes, we can read from the Chinese SGE trade report of week 5 withdrawals from the vaults have been 59 tonnes. Year to date (– February 6) withdrawals from the vaults of the central bourse in China stand at 315 tonnes. In perspective, during the first five weeks of 2015 Chinese wholesale demand has been 39 % of what the WGC disclosed as total consumer demand in all of 2014.
More perspective; corrected by the volume traded on the Shanghai International Gold Exchange (SGEI), withdrawals in week 5 were at least 42 tonnes (read this post for a comprehensive explanation of the relationship between SGEI trading volume and withdrawals). Year to date withdrawals corrected by SGEI volume were at least 289 tonnes.
Because of the importance of clarifying the mysterious gap between what the WGC discloses as Chinese gold demand in 2014 (814 tonnes) and the amount of gold we saw being supplied to China (at least 1,200 tonnes import, 452 tonnes mine output and 182 scrap supply = 1,834 tonnes), I would like expand on this subject in a separate post.
One quote I wish to share here; when I was researching Chinese market and reading through an old Alchemist copy (#75, page 11), my attention was drawn to a transcript from a keynote speech delivered by Jeremy East at the LBMA Bullion Market Forum in Singapore on 25 June, 2014. He made a remarkable comment we shouldn’t neglect when analyzing the Chinese gold market:
Why are the Chinese Buying?
So what is going on in China? Why are the Chinese buying? It only seems to have been happening over the last few years. What is going on?
China’s Gold Friendly Strategy
I was at the Shanghai Derivatives Forum at the end of May and one of the speakers was a representative of the [China] Gold Association. He gave us quite an interesting insight into the flavor of what is going on in China from a strategic perspective. Some of the things he talked about included that China planned to change the landscape of world gold markets. He talked about having a strong currency and about having that currency backed by gold, like the US dollar. He also talked about people holding more gold and encouraging more people to hold gold. That is not just individuals, but also the central bank. From that perspective, it is also getting gold into the country in terms of encouraging domestic gold production, but also investing in international mining companies and sourcing the product from them. China has got a very friendly gold strategy.
There you have it, China is planning to change the landscape of world gold markets and strengthening the renminbi through supporting it by gold. Therefor it’s in the interest of the People’s Republic Of China not only Chinese individuals hoard gold, but the central bank as well. To achieve this mining and import is stimulated by the State Council.
Mr East’s statement fits right into what we see the Chinese are doing; accumulating massive amounts of gold, developing their gold market, internationalizing their gold market and the renminbi. This little peak at the China Gold Association’s chessboard is more confirmation of where we’re going! Gold is making its way into the international monetary system.
Withdrawals from the vaults of the Shanghai Gold Exchange (SGE) in week 2 of 2015 (12 – 16 January) accounted for an incredible 70 metric tonnes. Aggregated withdrawals in the first two weeks of this year stand at 131 tonnes.
Corrected by the volume traded on the Shanghai International Gold Exchange (SGEI), withdrawals in week 2 were at least 65 tonnes (read this post for a comprehensive explanation of the relationship between SGEI trading volume and withdrawals). Year to date withdrawals corrected by SGEI volume were at least 122 tonnes.
The numbers just mentioned are truly amazing, 70 tonnes withdrawn in one week is the third highest amount ever. Only in January 2014 when the Chinese were also buying gold for the Lunar year – but the gold price in renminbi was lower, and in April 2013 when the price of gold fell of a cliff, were withdrawals stronger than last week. This is important, as illustrated in the charts above the Chinese tend to buy gold when the price is declining, last week they bought like there was no tomorrow while the price was rising sharply. Now that’s strong demand! Perhaps some investors in the mainland read the recommendations from ICBC, world’s largest bank, regarding physical gold hoarding:
In perspective; 65 tonnes demand (the bottom limit) can only have been met by mine supply, scrap supply or import supply. Domestic mine production was 8.7 tonnes; gold was not trading at a discount, but at a premium to London last week, which means scrap couldn’t have been abundant; estimating scrap that supplied the SGE at 4 tonnes leaves import to have been at least 52.3 tonnes (in one week). Nothing unusual if this would occur sporadically, but since 2013 China has net imported 2,838 tonnes for just non-government demand, continuously draining global above ground gold inventory – as world mine production is not sufficient. How long can this go on? Deutsche Bank estimates the PBOC imports an additional 500 tonnes a year, according to a report released in November 2014:
…But there have been a number of examples of publicly flagged large-scale official gold transactions that have had a limited market impact. In the IMF example above, gold prices rose steadily despite the IMF being a reliable seller of almost 20 tonnes each month. In another example, the Chinese government’s open market purchases of roughly 500 tonnes per year have not prevented the gold price from plummeting in recent years.
The world Gold Council (WGC) estimates there is about 170,000 tonnes of above ground gold. In my opinion it’s impossible to know how much gold has been mined in the history of humanity, though I suspect it’s more than 170,000 tonnes, also because of what we are witnessing these years regarding amounts of gold moving from West to East – the WGC started counting from 10,000 tonnes since the Californian gold rush.
The Shanghai International Gold Exchange
To my advantage for estimating Chinese wholesale demand (that equals SGE withdrawals), SGEI trading volume has been insignificant since the SGEI was launched in September 2014. SGE management of course was aiming for substantially more volume at their new subsidiary. In order to boost liquidity they took a bunch of measures. On December 29, 2014, the SGE announced free storage and no load-in and load-out fees from January 1 to June 30, 2015.
All international members and customers:
With a view to encouraging international members and customers’ participation in trading and delivery activities on the International Board and meanwhile reducing their cost, the Shanghai Gold Exchange determines to further exempt international members and customers from fees including inventory fees, load-in and load-out fees, vault transfer fees and other service fees generated from trading contracts listed on the International Board. The exemption period shall be valid from January 1st to June 30th, 2015.
Two days later they exempted traders from paying transaction fees on the SGEI physical gold contracts iAu99.99, iAu99.5 and iAu100g.
With a view to promoting the liquidity and enhancing the investment function of Au(T+N) products, the Shanghai Gold Exchange (the “Exchange”) determines to reduce the transaction fees of Au(T+N1) and Au(T+N2) by 50%, from the current 2‰ to 1‰. In addition, the Exchange shall also exempt all its members from transaction fees of contracts listed on the International Board including iAu99.99, iAu99.5 and iAu100g, so as to boost the trading activities on the international board.
The above-mentioned preferential policies shall be valid from January 1st to June 30th, 2015.
Today, the Shanghai Gold Exchange and the World Gold Council, the market development organization for the gold industry, signed a ‘Memorandum of Understanding’ regarding a ‘Comprehensive Strategic Cooperation Agreement.’ The Shanghai Gold Exchange is the largest physical gold exchange worldwide and the World Gold Council is the global authority on the gold industry. Together, these two organizations are joining hands to support the development of both domestic and international gold trading in China by leveraging the opportunity provided by the internationalization of the Chinese gold market, through the Shanghai Free Trade Zone, to support market expansion. The agreement will support the development of gold investment products and solutions for the industry and investors both regionally and globally.
I’m holding my breath on the collaboration with the WGC. In my experience they could have started by making the SGEI more accessible. Since September I was trying to become a customer through a number of Chinese banks, but I didn’t succeed. Enrollment wasn’t particularly easy.
Gold Trading Volumes
Total SGE trading volume has been declining for a few weeks, in week 3 (January 19 – 23) volume accounted for 238 tonnes, down 19 % w/w.
Volume on the Shanghai Futures Exchange is moving in the opposite direction, volume has been increasing since December 26. In week 3 volume was 778 tonnes, up 10 % w/w. The open interest closed at 124 tonnes at the end of the week.
On the COMEX 3,054 tonnes of gold in futures contracts changed hands, down 13 % w/w. The open interest closed at 1,403 tonnes.
On this blog I’ve repeatedly questioned the Chinese gold demand figures from the World Gold Council, or “the global authority on gold” as they call themselves (which is weird when you think about it, how can any institution be the global authority on gold?). In 2013 Chinese wholesale gold demand was 2197 tonnes, though the World Gold Council claims demand was 1066 tonnes. All their arguments that should explain the difference appeared to have been untenable after researching them.
Most people on this planet who have an interest in gold simply copy the demand numbers from the WGC. The consequences of the world being misinformed on this subject is hard to comprehend.
It’s my belief the WGC continues to spread erroneous information, therefor I will continue to share where I disagree. Let’s begin with what happened in the first quarter of this year. In the WGC’s quarterly report covering Q1 2014 they state Chinese gold demand was 278.1 metric tonnes. However, in Q1 Hong Kong net exported 287.2 tonnes to the mainland and Switzerland 74.9 tonnes, on top of this Chinese domestic mining was 96.5 tonnes. This adds up to 458.6 tonnes. Domestic mining and net import from only two countries was 458.6 tonnes, yet demand as disclosed by the WGC was only 278.1 tonnes.Again there is a disparity (of at least 180.5 tonnes).
The way how I measure Chinese (wholesale) demand is by looking at Shanghai Gold Exchange (SGE) withdrawals. Because in China all imported and mined gold is required to be sold through the SGE first and the bars that leave the SGE vaults are not allowed to return to these vaults, SGE withdrawals equal Chinese wholesale demand (and thus; total supply equals SGE withdrawals equals total demand). In Q1 2014 withdrawals accounted for 564.2 tonnes, which means 105.6 tonnes (564.2 minus 458.6 ) was supplied by additional import and scrap. From this end the numbers always make sense.
Back to the WGC. In their Gold Demand Trends Q1 2014, they come up with several arguments that should validate their figures on Chinese gold demand. Confirming they have some explaining to do on the discrepancy between the huge amount of apparent supply and their demand figures, just like in their prior report China’s Gold Market: Progress and Prospects (published April 15, 2014). However, the more arguments they present the more contradiction, confusion and misinformation is being communicated. I’ll go through all the arguments the WGC presents in both reports and share my point of view, as concise as I can.
Gold Trade Flows
From page 14, Gold Demand Trends Q1 2014:
Trade flows: illustrated last year when gold flowed out of western ETFs, through refineries in Switzerland and to consumers in the East, official trade data can provide insights into global gold flows. Global Trade International Services provide access to a wide range of countries’ trade data and we also monitor individual countries’ trade data, particularly from the Hong Kong Census and Statistics Department.However, looking purely at trade data can be misleading. It can include scrap, doré and concentrates, which would be captured in supply rather than demand. Nuances such as ‘round-tripping’ can affect the data too. So, while trade data plays a valued role in informing a view on global gold flows, it is an imperfect measure of gold demand.
Sure, trade data can be misleading, but it helps if we look at right numbers. The Hong Kong Census and Statistics Department makes a clear distinction between scrap and gold in other forms. They categorize commodities according to SITC Rev. 4 (Standard International Trade Classification, Rev. 4). The 287.2 tonnes Hong Kong net exported to the mainland in Q1 2014 did not contain scrap.
Is it possible net gold export from Hong Kong to the mainland contains doré and concentrates? It’s possible, but it can’t explain the difference we’re after. The WGC stated in China’s Gold Market: Progress and Prospects, on page 49:
Only banks with PBOC-issued import licenses can import gold. They can only import LBMA good delivery bars and these must be traded through the SGE.
This statement is incorrect, it should be: “Only banks with PBOC-issued import licenses can import gold. They can import gold bars made by LBMA-approved refiners that meet SGE specifications and these bars must be traded first through the SGE”. Gold bar import into China is conducted by 12 commercial banks that hold a PBOC license, though anew approval has to be granted for every shipment. The general manager of Malca-Amit Precious Metals, a global gold vaulting and transportation company that has many bullion bank clients, said the following in November 2013 (1:40):
Currently gold being transported to China is imported only by local banks. A lot of the times the gold is being parked out of China, and only transported and shipped into China when needed.
Gold bullion is being parked into Hong Kong. After the banks get approval from the PBOC it’s imported into the mainland. Most of the 400 ounce London Good Delivery bars that since 2013 were exported from the UK to Switzerland, where it was remelted into 1 Kg 9999 bars, were at first shipped to and parked in Hong Kong before entering the mainland. Hong Kong serving as a depot. Hence my supposition Hong Kong primarily exports gold bars to the mainland. I can’t think of a reason why doré and concentrates, from Chinese owned overseas mines, would be imported into the mainland via Hong Kong.
The gold Switzerland net exported to the mainland in Q1 2014 is even less likely to be doré or concentrates. Switzerland is well known for its refining capacity, not for its gold mines. Everything that comes out of Switzerland is bullion. The Swiss categorize commodities according to HS 2007 (Harmonized System, click to compare HS to SITC), which is more specific than SITC. We can read from their trade reports the gold does not contain powder. In general gold bullion is traded under HS code 7108 globally.
The WGC also mentions round ripping as a cause that distorts trade numbers, which should explain the difference we’re after. This is false, I’ve written two extensive posts (#1, #2) on why round tripping has got nothing to do with the Chinese domestic gold market, Chinese gold demand or SGE withdrawals.
In China’s Gold Market: Progress and Prospects, page 56, the WGC wrote:
Moreover, because nearly all gold flowing into China goes through the SGE, round-tripping can inflate the SGE delivery figures.
This is simply not true, please read my previous posts on this subject. The WGC even admitted round tripping has got nothing to do with Chinese demand in email correspondence.
In theGold Demand Trends report they stated on page 14:
At a country level, we monitor figures released by official institutions and trade bodies which can give an insight into local gold demand. For example, we examine the Shanghai Gold Exchange withdrawal figures and China Gold Association demand figures…
The WGC mentions SGE deliveries and withdrawals in two separate reports. (i) I hope they know the difference. (ii) If they watch SGE withdrawals why not publish these numbers and inform the world on the significance of these numbers. This is essential information regarding the Chinese gold market. Why is the WGC reluctant to cover these essentials?
Gold Stock Changes
From the WGC, Gold Demand Trends, page 14:
The number denoted as OTC investment and stock flows encompasses a number of elements, including: gold deposit accounts; stock changes that have yet to be identified; transactions in the relatively opaque OTC market; spot and forward products; as well as any statistical residual.
Chinese spot and froward products are traded in the Chinese domestic gold market. It doesn’t make the amount of supply any less. Stock increases could absorb some supply that doesn’t meet retail demand. However, the accumulative difference between wholesale and retail demand (2007 – 2013) was 2000 tonnes. Why would any jeweler or the mint add anymore stock in Q1 2014 when supposedly they already have this much in stock? And why doesn’t the WGC count gold purchased by an individual investor through a gold deposit account as demand. These are popular investment products in China. Just have a look on the website of China’s largest bank ICBC.
PBOC Gold Purchases
In China’s Gold Market: Progress and Prospects the WGC speculates apparent supply (net import, domestic mining) may have been purchased by the PBOC. According to my analysis “all net import we can see” is not being bought by the PBOC. The trade reports from the Hong Kong customs (and the UK and Switzerland) are very clear in describing the gold that is being exported as NON-MONETARY. The PBOC has a strong incentive hiding their purchases, that is not to affect the market. Why would the PBOC insist their purchases to be declared by any customs department around the world while they can easily import gold without anyone seeing it?
Chinese law dictates domestically mined gold is required to be sold first through the SGE, where all gold is quoted in renminbi. I don’t think the PBOC does gold purchases on the SGE while it can exchange their surplus US dollars overseas for gold, killing two birds with one stone; getting rid of some of their exorbitant US dollars reserves and purchase physical gold for all the obvious reasons.
The chairman of the SGE, Xu Luodo, said on May 15, 2014, at the Fourth Commercial Bank Gold Investment Forum, that China net imported 1540 tonnes in 2013 and his exchange has nearly 8000 institutional investors and 5 million individual investors. Institutional investors can include pension funds and alike, this explains very well where all the SGE withdrawals end up and the difference we’re after. I haven’t come across any Western mainstream media outlet that reported on these statements from Xu, though numerous Chinese media have covered it, to date you can only read it in English on this blog.
February 18, 2014 the World Gold Council released the Gold Demand Trends for 2013. According to this report total 2013 Chinese consumer demand was 1,065.8 tons. In my opinion this number is highly disputable.
Chinese Gold Market Essentials
The Chinese gold market is completely structured top down. The main physical (spot and deferred) exchange in China is the Shanghai Gold Exchange (SGE), that serves as the entrance point for imported and mined gold to the Chinese marketplace. Additionally the SGE is supplied by recycled gold. The Shanghai Futures Exchange (SHFE) facilitates the trading of gold futures contracts (to compete with the pricing power of Western markets).
The reason the PBOC requires imported gold to be sold first through the SGE (mined and recycled gold are stimulated to be sold through the SGE by tax incentives) is to keep track of how much gold is added to non-government reserves (jewelry, bar hoarding, etc). The setup is quite simple; to channel import and mine supply through one exchange the PBOC can efficiently supervise the quality and quantity of the gold that enters the Chinese market place. The PBOC likes to knows how many grains of fine gold are being held among the people.
Before gold is allowed to enter the vaults of the SGE it’s assayed by the National Quality Supervision and Inspection Center for Bullion & Its Products that grants a minimum fineness of 99.95. Gold withdrawn from the SGE vaults can only re-enter as recycled gold. After being remelted, by one of the associated refineries (see the list on page 40), and an assaying process the gold can move back into the SGE vaults. Just to make sure on SGE level gold of the highest purity is traded.
The consequence/purpose of the structure of the Chinese gold market is that SGE withdrawals equal wholesale demand. Confirmed by the fact that total demand reported by the China Gold Market Reports 2007 – 2011 exactly equal SGE withdrawals for the corresponding years. For an extensive analysis read this.
The Great Disparity
In 2013 SGE withdrawals accounted for 2197 tons. The next screen dump is from the last SGE report of 2013, the second number from the right (red – 本年累计交割量) is the total amount of gold withdrawn from the SGE vaults in Kg.
The World Gold Council (WGC) claims to report on ALL sorts of demand; consumer, investment, industrial and central bank demand. This is from their February 18, 2014 press release:
Global consumer demand for gold at unprecedented levels in 2013 China the world’s largest gold market in 2013
Consumers around the world bought gold in record amounts in 2013, led by demand in China and India, with China becoming the world’s biggest gold market, according to the latest World Gold Council Gold Demand Trends report. …
In 2013 the gold market saw 21% growth in demand from consumers which contrasted with outflows of 881t from ETFs. The net result was that global gold demand in 2013 was 15% lower than in 2012, with a full year total of 3,756t. …
Although down 32% on 2012 they continued to be strong buyers of gold, a trend which began in 2009. 2013 saw net purchases in all four quarters, totalling 369t, meaning 12 consecutive quarters of net inflows. …
Demand reached 405t in 2013, virtually unchanged from the figure of 407t in 2012.
We can see the WGC tracks consumer (jewelry, bar and coin), ETF (and thus investment funds), central bank and industrial demand. Logic, if one wants to thoroughly analyze the gold market all facets of supply and demand must be taken into account.
So how come there is such a big difference between Chinese demand reported by the WGC, 1066 tons, and wholesale demand, 2197 tons? Why is the WGC missing 1132 tons? One reason is because the Chinese are hiding it. Since 2008 the Chinese have great interest to hoard in the dark in order to diversify their US dollar reserves, strengthen their economy and protect it from external shocks. The China Gold Association (CGA) changed the way they measure demand and all other Chinese gold institutions ceased publishing reports on demand since 2011. The only valuable information they continue to publish are SGE withdrawals. Not often, but sometimes the facts seep through the Chinese press:
China’s explosion in demand for physical gold in 2013 left a deep impression on international investors. The Shanghai Gold Exchange withdrawals for the year up till 27 December 2013 exceeded 2180 tons. Considering the exchange’s position as a hub for domestic gold circulation, in conjunction with a system that forbids withdrawn gold from re-entering inventory, to a large extent the withdrawals number can be treated as the best benchmark for physical gold demand in the Chinese market. Not to mention that the entire 2013 global mined gold production does not exceed 2700 tons. China’s massive demand has to a large extent remade the world’s gold circulation system. Newly mined and stocked gold is moving through trade links in London – Switzerland – Hong Kong – into China in a large scale orientation towards the East. The impact of China’s demand on international gold price will inevitably increase.
Why consumer demand as presented to the world has been understated since 2008 is because the China Gold Association is manipulating the demand category net investment to suppress other categories like jewelry and bar. This is an overview from the China Gold Market Report 2010.
According to the China Gold Market Report 2007 net investment was 18 tons. Thomson Reuters GFMS (which is the sole data provider for the WGC), assumed this was gold added to the stocks of banks, jewelers and the mint, as it was withdrawn from the SGE vaults but wasn’t sold on retail level. In 2007 this was probably true. But when Lehman fell the world changed, the Chinese began to overstate net investment to hide true demand. Up until today GFMS states net investment is stock movement change. Let’s have a look at how much net investment was in recent years. Note, in the chart below the “Difference” is approximately net investment, calculated as SGE withdrawals minus WGC consumer demand minus industrial demand.
Actual net investment published by the China Gold Market Reports: 2007 – 18 tons, 2008 – 129 tons, 2009 – 147 tons, 2010 – 266 tons, 2011 – 285 tons.
From 2007 – 2013 net investment was roughly 2000 tons. This definitely can not have been stock movement change at banks, jewelers and the mint. According to my analysis this gold was bought at the SGE by investment funds, individual investors and jewelers pretending to be individual investors. In the mainland there is 17 % VAT on jewelry, plus an additional 5 % consumption tax – you do the math.
I contacted the WGC and got in touch with one of their experts based in China. When I asked him what net investment was we had a brief debate after which he had to admit he was clueless on where this gold was going. He told me the Chinese will never disclose this information. I asked him if he would like to collaborate with me to research net investment. I got no response. A week later I asked him if he would grant me permission to publish our email correspondence. He responded to not publish our correspondence as it was meant to be private.
In the meantime I was emailing a precious metals analyst from Thomson Reuters GFMS about the Turkish gold market. This gentleman was extremely kind and helpful and explained to me in detail how GFMS measures Turkish gold coin production. Very valuable information for me! When I asked him what his take was on Chinese net investment, I got no response.
Jeff Christian from CPM Group did respond after I wrote him an open letter regarding SGE withdrawals. You can read our debate in the comment section of this post. Not surprisingly we couldn’t agree. What was interesting about our conversation was that he said total Chinese net gold import in 2013 was 1411 tons.
Of course I’ve written a million emails to the CGA, in English and Chinese, no response whatsoever. I called them speaking English, no luck. My friend in the mainland has called them numerous times, they always say the gentleman who wrote the China Gold Market Reports is on holiday. The message is clear…
The mainland officially net imported 1158 tons of gold from Hong Kong in 2013. Total net import according to Jeffrey Christian was 1411 tons (according to me it was 2000 tons), let’s take his number for an example. How can China import 1411 tons and mine 428 tons (that’s 1839 tons) but only demand 1066 tons? Did they import gold without asking for it? Did someone secretly pushed it across the border and now the Chinese are stuck with it? Or is there a lot of demand the WGC doesn’t disclose?
Anyway, I think 1066 tons Chinese consumer demand as reported by the WGC is highly underestimated. To be continued…
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