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China equities crash won’t benefit gold

Metals Focus thinks the Chinese equity market meltdown will not see investment move into gold, as it will have taken liquidity out of the market.

LONDON – There has been a fair amount of speculation, including by ourselves, that the disastrous slump in the Chinese equity markets might prompt investors to switch to gold as a safe haven. Indeed we have seen physical gold flows into China already at record levels this year – with the half-year figure for withdrawals from the Shanghai Gold Exchange hitting a new record of approximately 1,180 tonnes – beating the previous 2013 record by around 90 tonnes plus. And 2013 is so far the record year for Chinese gold demand with full year SGE withdrawals of close on 2,200 tonnes.

However, although the earlier strength in Chinese equity markets has been seen by mainstream analysts as diverting investment from gold into stocks and shares, the reverse may well not be true according to the latest Precious Metals Weekly from major global specialist consultancy, Metals Focus. (It will be recalled that Metals Focus has recently taken over from GFMS as the primary supplier of statistical data on precious metals for the World Gold Council.) And they may well have a point. Certainly continuing weakness in the gold price despite the current global financial turmoil does not seem so far to be being nipped in the bud by increased Chinese retail demand. Indeed gold hit a 3.5 month low in yesterday’s trading and silver dived by even more percentage wise. Other commodities suffered even more than gold, though, with some severe falls. (Gold only fell back around 1% by the end of the day whereas copper fell more than 4%, nickel was the worst loser falling 9% and other base metals around 2-3% or more).

Metals Focus points out that it sees the Chinese turning from equities to gold scenario as unlikely. In its view, and those of its China specialists, Chinese retail investors are seen as being mainly motivated by the prospect of capital gains, rather than wealth preservation – somewhat in line with the national propensity to gamble.  It was probably that which pushed them into the equity markets and they did have a good run. The Shanghai Composite Index for example soared 154% in under a year before it came crashing back down again. The Shenzhen index managed even stronger gains, of 200% over the same period.

Metals Focus thus reckons that a rotation from equities to gold is unlikely. Indeed the consultancy reckons there is more the likelihood that weak equity prices may end up adversely affecting physical gold demand. Losses generated by the impact of the stock market crash may well hit jewellery and gold artefact purchases, while the scale of the fall is such that potential investors nursing big losses may well not have the liquidity to move back into gold.

There are obvious parallels here in Metals Focus’ thinking from the 2008 global financial meltdown which saw gold – as well as virtually all metals commodities – fall almost as sharply as the markets did themselves as there was a struggle for liquidity and many investors and funds needed to sell so-called safe assets to stay afloat. What might provide some comfort for the gold supporters is that it was then the first to recover and then went on for some spectacular gains over the following four years.

While the recent strength in SGE withdrawals noted above may lead some to feel that there could have already been a switch from equities into gold, Metals Focus disagrees in that it is not convinced that these flows are going into the retail sector. Gold used in finance and collateral may account for a good proportion of this as being linked to lack of other liquidity in a need to raise cash to cover losses in the markets.

 

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