Why the Zerohedge Analysis of China’s Gold Buying is Wrong

tyler-durden-zero-hedge-The stench of a well-trodden cow pasture is emanating from the Zerohedge article which tries to blame the decline in the price of gold during 2013 on China’s use of a complicated commodities financing structure.   Long time readers know that I always give ZH credit for digging up a lot of information and news items that we might otherwise miss.   It is invaluable in that respect.  However, Zerohedge has historically missed the boat with respect to knowledge and understanding of the precious metals market.
Zerohedge has tried to connect the price-action in the price of gold during 2013 with the amount of gold futures selling which accompanies the CCFD gold transactions for the purposes of hedging.
Zerohedge’s analysis of China’s gold buying is fundamentally flawed, and totally wrong.
The REAL reason that China was able to import over 2,000 tonnes of gold in 2013 without the price being driven a lot higher is due to 3 factors:


Submitted by PM Fund Manager Dave Kranzler, Investment Research Dynamics:

As everyone knows by now, China imported a record amount of gold in 2013.  As everyone should also know by now, the reason China’s appetite for gold – which put the total amount of gold “consumed” by the world far in excess of the amount of gold produced by all gold mines globally in 2013 – did not send the price of gold soaring was due to unprecedented intervention in the gold market by western Central Banks using the big bullion banks (JPM, HSBC, Scotia, Deutsche Bank primarily) as their agent in the market.

Goldman Sachs issued research which explains how China Commodity  Funding Deals (CCFDs) work.  These are “shadow banking” transactions which use the hypothecation and rehypothecation of physical metal commodities sitting in warehouses as collateral.  You can read the article here:  LINK   Or, in order to avoid the brain damage of trying to understand how the transaction actually works, suffice it to say that the transaction is a complicated way to create cheap funding for banks, hedge funds and wealthy investors in China in much the same way as the shadow banking system functions in the U.S./England/Europe.  All you need to know is that the security interest in the physical collateral sitting in warehouses is rehypothecated several times over in order to “create” cheap capital using the fractional banking system.  It’s MF Global on steroids.  In other words, a Ponzi scheme.

To cut to the chase and keep this post as short as possible, the massive importation of physical gold by China in and of itself is not a function of these CCFDs.  The CCFD’s are a function of the amount of real collateral sitting in Chinese warehouses, from which complicated security interest can be created and rehypothecated.  This transaction does not occur in the U.S. because, for the most part, big U.S. investment entities do not own any physical gold.

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At any rate, Zerohedge has tried to connect the price-action in the price of gold during 2013 with the amount of gold futures selling which accompanies the CCFD gold transactions for the purposes of hedging:

it is beyond a doubt that the year in which gold-backed funding deals rose to an all time high, gold tumbled. To be sure this was not due to the surge in demand for Chinese (and global) physical. If anything, it was due to the “hedged” gold selling by China in the “paper”, futures market.

What’s wrong with the statement?   It is predicated on a conclusion drawn by Goldman in its description of CCFDs that the amount of futures sold in relation to the actual underlying commodity was suppressing the market price of the underlying commodity.

Those of us who have been studying and trading the gold market since the inception of the gold bull know that this analysis applied to the gold market is completely incorrect. The amount of gold futures open interest on the Comex has ALWAYS been many multiples of the amount of underlying throughout the duration of the bull market.  This has been documented ad nauseum.   The increase in futures open interest in relation to the underlying that might have occurred out of the hedging of CCFDs is nothing new to the market.

The point here is that any extra futures selling that is related to the use of gold in CCFDs is not why the price of gold was held down in the face of rampant demand from China for physically delivered gold.

The reason that China was able to import over 2,000 tonnes of gold in 2013 without the price being driven a lot higher is because:

1) roughly 1,000 tonnes of gold were removed from all of the physical gold ETFs in 2013

2) it is well-documented that the Bank of England unloaded 1,300 tonnes of gold into the market sometime in April 2013, around the time that the price of gold dropped $200

3) 116 tonnes of gold were removed from Comex vaults.

The “disintermediation” of at least 2400 tonnes of physical gold from custodial vaults which could be physically delivered to eastern buyers is what offset the massive demand from China and several other eastern hemisphere countries, all of whom imported record amounts of physical gold during 2013.

Without this massive supply of physical gold, the price of gold in the face of Chinese demand would have soared in 2013.    While there may have been short-term effects on the market price of gold when a gold-related CCFD transaction was being executed, the use of gold and gold futures in Chinese CCFD transactions for the purposes of creating cheap capital definitively did not cause the price of gold to go lower in 2013.

The price of gold was contained during 2013 by official western Central Bank intervention in the gold market.  And it was primarily orchestrated by the  Federal Reserve for the purposes of defending the reserve status of the U.S. dollar and to keep interest rates artificially suppressed for the purpose of enabling the U.S. Government to continue issuing low-cost debt.

Anyone who has been studying the enormous body of work done by GATA, James Turk and a few others over the last 14 years knows the truth about why the price of gold is many multiples below what would be its free market price level.  Apparently Zerohedge has been skipping this crucial segment of gold market research and knowledge.

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