Gold drops spurring central bank buying

After the game-changing election results in Greece and France on Sunday, one may be puzzled by the price action of gold relative to other markets this week. By Tuesday, gold futures have fallen almost $41 by -2.5% to $1,604.5, much more than S&P: -0.4%, Stoxx: -0.5%, crude oil: -1.5% and even the VIX: +0.6%. Gold futures dipped to $1,595.50 during trading on Tuesday and trending lower on Wednesday in Asia.

As our CEO Ross Norman mentioned yesterday, gold is overreacting to bad news and ignoring good news. Gold immediately reacted badly to news that Alexis Tsipras, head of Greece's second largest Syriza Party, is forming a left coalition government and could renegotiate all bailout and austerity promises possibly stopping all multilateral aids. Euro/dollar dropped to a three-month low at 1.3. A new Greek election in June also is likely, which leaves a distinct possibility of Greece defaulting and exiting the euro. That will have contagion on Spain, Portugal, Italy, etc. In addition, the uncertainty would further aggravate Eurozone economic contraction, which is deflationary, something gold traders do not like to see.

Calmer heads may want to focus on the good news that physical demand from Asia is improving in the case of India and exploding in the case of China. India has just rolled back the 1% excise duty on jewelry, which would improve imports going forward, expected to reach about 700 to 750 tons in 2012. Chinese imports of gold via Hong Kong went up 600% in the first quarter to about 135 metric tons. The Chinese has bought MORE each month as price went lower. Chinese gold import is about 45 tons more per month or 540 tons annualized in the last eight months compared to a year ago, pointed out by Eric Sprott, CEO of Sprott Asset Management; annual gold supply is 2,200 tons excluding China and Russia, whose gold are internally consumed. Recent central banks (non-G6) data shows that they are buying gold at an annualized rate of about 700 tons.

The weakness in the paper gold market may continue because of technical selling or investor fatigue as our CEO remarked. But this weakness is masking the massive activities going on in the physical gold market, especially among Central Banks who may be happy at a lower purchase price.

About the Author
Austin Kiddle

Austin Kiddle is a director of the London-based gold broker Sharps Pixley Ltd.

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