Should Gold Bugs Be Worried About Global Demand?

Since hitting all-time nominal highs above $1,900 an ounce, the price of gold has suffered an ugly correction. The precious metal recently logged its second consecutive quarterly loss, and remains stuck in a downtrend. Some investors have become discouraged, but demand is not as bearish as one might think.

In the first quarter of 2013, total gold demand reached 963 tonnes, representing a 13 percent drop from a year earlier, according to the latest report from the World Gold Council. Heavy selling pressure and outflows from exchange-traded funds accounted for the majority of this decline. For example, shares of the SPDR Gold Trust, the largest gold fund, declined 4.7 percent in the first quarter. Total outflows in ETFs and similar products amounted to 176.9 tonnes.

However, strong demand in gold jewelry, bars, and coin helped to offset the outflows in ETFs. Total jewelry demand jumped 12 percent year-over-year to 551 tonnes in the first quarter, easily topping the five-year average of 500.5 tonnes. Meanwhile, total bar and coin demand increased 10 percent to 377.7 tonnes, compared to a five-year average of 281.3 tonnes.

Once again, China and India dominated jewelry demand by accounting for 62 percent of the global share. The Chinese New Year and India’s good spring harvest were cited as positive developments driving demand in the regions. The U.S. jewelry market posted its first year-over-year gain in more than seven years. Overall, global jewelry demand reached a record $28.9 billion in the first quarter.

The World Gold Council notes a difference between retail and institutional investors. Demand for bars and coins throughout the first quarter increased at the retail level, as the fundamental reasons for holding gold are unchanged. However, institutional investors had more reasons to sell.

The report explains, “In contrast, some institutional investors have a very different rationale for holding gold, adopting a shorter-term, more speculative approach. Among this group, a proportion of more opportunistic and ‘event-driven’ investors reacted to the Q1 price drop by selling their ETF holdings. This reaction may have been driven by several factors; profit-taking on long-held positions; loss-limitation on more recently initiated positions; a switch to other investment channels etc.”

With the major central banks around the globe still practicing easy-money policies, other central banks are loading up on assets that cannot be printed. In the first quarter, total central bank demand reached 109.2 tonnes, 5 percent lower than a year earlier, but still the ninth consecutive quarter of net purchases. Over the past four quarters, central bank demand has jumped 21 percent.

“The steady level of buying confirmed that central banks and institutions continue to favor gold’s diversification benefits, as they reduce their portfolio allocations to U.S. dollars and euro,” the WGC states. Again during the first quarter, the central banks adding to their gold reserves were distributed widely around the globe, with volumes concentrated in emerging markets.”

Central banks purchased 145 tonnes of gold in the fourth quarter of 2012, the highest quarterly haul since the sector became net buyers just a few years ago. Last year, central bank buying surged 17 percent to 534.6 tonnes, the highest annual total since 1964. In comparison, central banks bought 456.8 tonnes in 2011.

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Disclosure: Long EXK, AG, HL, PHYS