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A geopolitical insurance

The more President Trump pressures (or even sanctions) countries like China, Iran, Turkey and Russia, some of them historical US allies, and neglects international forums such as the United Nations or World Trade Organisation, the more investors could be expected to run to gold as a safe haven. Or so we thought – but what did we miss?

GoldminersEtf(Source : Bloomberg)

Digging into gold fundamentals reveals that supply currently exceeds demand. In the second quarter of this year, supply amounted to ca. 1,120 tonnes, of which 835 tonnes came from mining and the rest from recycling. Demand was on the low side at 964 tonnes, leaving the market oversupplied and pushing the price down.

Demand for jewellery (about half of aggregate demand), for bars and coins (ca. 25%) and for technology (just shy of 10%) tends to be pretty stable over time. While generally highly unpredictable, central bank demand has also proved quite steady over the past couple of years. At the margin then, and despite the fact that it accounts for only ca. 5% of aggregate demand, investor ETF demand has been driving the gold price, alongside hedge and commodity funds (that mainly trade futures – so-called “paper gold” – and speculate on the basis of technical analysis).

The fact that US investors sold gold ETFs over the last few months, and that the aforementioned funds made record sales of futures following gold’s several failed attempts to breach the USD 1,350/ounce level during the January to April period, sent its price reeling. Several explanations have been put forward as to why US investors disposed of (part of) their gold ETF holdings, notably rising interest rates that make Treasuries more attractive. Most likely, investors simply got scared when the gold price started to correct on heavy technical-based short selling and then followed the herd.

There is, however, a hard floor to the gold price: its production cost, which lies in the USD 900-950/ounce range for the larger mines. At ca. USD 1,200/ounce, gold remains well above that floor.

Last update : September 2018

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