Gold has surged dramatically to major breakouts since its usual summer-doldrums lows. That’s naturally rekindled interest in this leading alternative investment, despite the record-high stock markets. Investors are starting to return to gold again to prudently diversify their stock-heavy portfolios. That’s very bullish for gold, as investment capital inflows can persist for months or even years. This shift is most evident in GLD.
The American SPDR Gold Shares is the world’s leading and dominant gold exchange-traded fund. Since its birth way back in November 2004, it has acted as a conduit for the vast pools of stock-market capital to migrate into and out of physical gold bullion. The marginal gold investment demand, and sometimes supply, via GLD can be big and varies wildly. Thus GLD-share trading is often gold’s primary short-term driver.
The definitive arbiter of global gold supply and demand is the venerable World Gold Council. It publishes highly-anticipated quarterly reports called Gold Demand Trends. They offer the best reads available on global gold fundamentals. At first glance, it’s not apparent why gold-ETF demand plays such a massive role in driving gold’s price action. But digging a little deeper makes this crucial-to-understand relationship clearer.
According to the WGC, over the past 5 years from 2012 to 2016 jewelry demand averaged about 54% of overall global gold demand. Total gold investment demand including physical bars and coins in addition to gold ETFs averaged just 26%. Breaking that category down further into bars and coins separate from ETFs, they weighed in at averages of 28% and -2% of world gold demand respectively over the past 5 years.
The key to ETFs’ outsized impact on gold prices is in the extreme variability of their demand. Across that same span, total gold demand only varied 10% from the midpoint of its worst year to best year. For jewelry that variance ran 27%, as gold’s largest demand category is relatively inelastic to gold’s price. Variability for bar-and-coin investment was higher at 49%. But that’s still nothing compared to ETFs’ wild swings.
Global gold-ETF demand between 2012 to 2016 varied radically from a low of -914.3 metric tons in 2013 to a high of +534.2t in 2016! The percentages don’t work with a negative number, but that 5-year variance of 1448.6t is vast beyond belief. Despite global gold-ETF demand averaging just -2% of total world gold demand over that span compared to 54% for jewelry, in raw-tonnage terms ETFs’ variability ran 2.2x jewelry’s!
Gold prices are set at the margin, and capital inflows and outflows via gold ETFs dwarf changes in every other gold demand category. The extreme volatility in gold investment demand through ETFs from stock traders overpowers everything else. When stock investors are buying gold-ETF shares faster than gold itself is being bought, gold rallies. That investment buying fuels major uplegs and entire bull markets in gold.
The mission of gold ETFs including GLD is to mirror the gold price. But the supply and demand of ETF shares is independent from gold’s own. So when stock investors buy gold-ETF shares faster than gold is being bid higher, those share prices threaten to decouple to the upside. Gold-ETF managers only have one way to prevent this tracking failure. They issue new gold-ETF shares to offset that excess demand.
Selling new gold-ETF shares to stock investors raises capital, which is then plowed into physical gold bullion held in trust for shareholders that very day. This process effectively shunts excess demand for gold-ETF shares into the underlying gold market, bidding gold higher. Gold ETFs including GLD could not track the gold price if this mechanism for equalizing differential capital flows between them didn’t exist.
The opposite happens when gold-ETF shares are sold faster than gold itself is being sold. That forces the shares to disconnect from gold to the downside. Gold ETF managers avert that failure by stepping in to buy back those excess shares offered. They raise the capital necessary to sop up this excess supply by selling some of the gold bullion underlying their ETF. Gold ETFs are a capital conduit between stocks and gold!
Because of the massive size of the US stock markets, GLD capital flows are more important to gold than all of the other gold ETFs around the world combined. GLD’s managers are very transparent, publishing its physical-gold-bullion holdings daily. That offers a far-higher-resolution read on what’s going on in gold investment than the WGC’s quarterly fundamental reports. GLD’s holdings are the key to gold’s fortunes.
When GLD’s holdings are rising, that means American stock-market capital is flowing into the global gold market. When GLD’s holdings are falling, investors are pulling capital back out of gold. There is nothing more important for gold’s overall price trends than these GLD capital flows. From extremes gold futures speculators can overpower GLD’s influence on gold from time to time, but these eclipsing bouts don’t last long.
I’ve actively studied GLD’s dominating influence on gold prices for many years now. The hard data on this is crystal-clear, as we’ll discuss shortly. But unfortunately many if not most speculators and investors in gold, silver, and their miners’ stocks still don’t understand this. You can’t really grasp what’s going on in gold, and therefore the entire precious-metals complex, if you don’t closely follow GLD’s holdings daily.
This week’s chart looks at GLD’s physical gold bullion held in trust for its shareholders superimposed over the gold price since 2015. When American stock-market capital is flowing into gold via differential GLD-share buying, gold rallies. When that capital heads back out, gold falls. These gold-investment trends often take many months to play out, and a major new GLD-share buying spree is just getting underway.
Like always in the markets, understanding what’s going on today requires perspective. If you don’t know where we’ve been and why, you’re not going to be right on where we’re going. I broke the performances in gold and GLD’s holdings into calendar quarters here for easier analysis. Back in late 2015, gold was pounded lower heading into the Fed’s first rate hike in nearly a decade in the terminal phase of a brutal bear.
In Q3’15, gold fell 4.8% on a 3.4% or 24.0t GLD draw. American stock investors continued jettisoning gold via GLD shares in Q4’15. In that bear-trough quarter, gold fell 4.9% on a 6.6% or 45.1t GLD draw driven by heavy differential selling of GLD shares. The resulting 7.3-year secular low in GLD’s physical-gold-bullion holdings held in trust for shareholders drove gold to a parallel 6.1-year low on the very same day.
Overall between late-January 2015 and mid-December 2015, gold plunged 19.3% on a 14.9% or 110.3t GLD draw. When American stock traders are paring their gold exposure by dumping GLD shares faster than gold itself is being sold, gold is going to head lower. Per the WGC, total 2015 gold demand slumped just 0.8% or 35.6t year-over-year. That was entirely due to total ETF demand falling 128.3t, led by GLD’s 66.6t drop.
But everything changed dramatically in early 2016 because the lofty US stock markets plunged sharply in their biggest correction since mid-2011. Stock investors generally ignore gold until stock markets start to sell off materially. Then they rush to redeploy in this ultimate alternative investment. Gold is effectively the anti-stock trade, a rare asset that moves counter to stock markets. So gold investment demand soars in selloffs.
After being universally despised in hyper-bearishness just a couple weeks earlier, gold investment demand started to return in January 2016. The leading S&P 500 stock index suffered a series of dramatic down days, including separate 1.5%, 2.4%, 2.5%, 2.2%, and 1.6% losses within weeks. So scared stock investors remembered gold, and started to flood back into GLD shares far faster than gold itself was being bid higher.
Their differential GLD-share buying single-handedly ignited a new gold bull! In Q1’16, gold rocketed up 16.1% on an epic 27.5% or 176.9t GLD build. According to the latest WGC Q2’17 GDT, total global gold demand in Q1’16 only rose 179.2t YoY. That means American stock investors’ heavy GLD-share buying alone was responsible for a staggering 98.7% of global gold demand growth! GLD’s gold-price influence is huge.
Q2’16 was similar, with gold powering another 7.4% higher on another big 16.0% or 130.8t GLD build. The WGC reports that worldwide gold demand only grew 134.7t YoY that quarter, so the GLD holdings build driven by stock investors’ differential share buying accounted for 97.1%! Love or hate GLD, the hard truth is gold’s new bull market never would’ve existed if stock investors hadn’t rushed into gold via that ETF.
In essentially the first half of 2016, gold had powered 29.9% higher on a stunning 55.7% or 351.1t GLD-holdings build. That gold surge naturally fueled much more investment buying, both in physical bars and coins and other gold ETFs around the world. But without that American stock-market capital flowing into gold through the GLD conduit, odds are little of that parallel buying would’ve happened. GLD is the key to gold.
Gold then stalled out in Q3’16 because new record stock-market highs slammed the door on GLD capital inflows. Stock investors generally want nothing to do with gold when stocks are soaring. And they did in the wake of the Brexit surprise on hopes for more central-bank easing. So gold just consolidated high that quarter, slipping 0.4% on a 0.2% or 2.1t GLD draw. Gold’s bull halted the moment differential GLD buying did!
GLD’s dominance reasserted itself in Q4’16, but going the other way. Opening up a direct gold conduit for the vast pools of stock-market capital is a double-edged sword. GLD’s holdings started plummeting in the wake of Trump’s surprise election victory. The resulting Trumphoria on hopes for big tax cuts soon fueled surging record stock markets. So investors once again felt no need to prudently diversify with gold.
That quarter gold plunged 12.7% on a 13.3% or 125.8t GLD draw. The WGC’s latest data shows global gold demand fell 117.3t YoY in that quarter. So the heavy differential GLD-share selling was responsible for more than all of it! For better or for worse, the rise of ETF investing to market dominance has made GLD the overpowering driver of gold’s fortunes. Nothing else has wielded such huge price influence in recent years.
Unfortunately many traditional gold investors and speculators still ignore GLD’s holdings. Many don’t like GLD because it’s paper gold, inferior to physical bars and coins held in your own immediate possession. I certainly empathize with that. I’ve been continuously recommending physical gold coins to all investors since May 2001 when gold was at $264. I’ve never recommended GLD shares to our subscribers as investments.
But regardless of whether you think GLD is an anti-gold conspiracy or a great new way to entice stock-market capital into gold, this behemoth can’t be ignored. Following GLD’s vast impact on gold prices has nothing to do with making a statement on its fitness. To be successful traders, we have to set our own emotions and opinions aside. All that matters is what’s driving the markets and why, not whether we approve.
Between gold’s early-July-2016 initial bull peak and its mid-December-2016 trough, gold plunged 17.3% on a 14.2% or 138.9t GLD draw. While that was a massive correction, it technically wasn’t a bear market because it didn’t cross that -20% threshold. This means gold has remained continuously in a young bull market since early 2016. And that bull has reasserted itself this year just as I predicted at its post-election bottom.
In Q1’17 gold indeed powered 8.5% higher out of those deep Trumphoria lows. But interestingly GLD capital flows weren’t a material factor, as this ETF only experienced a minor 1.2% or 10.2t build. Asians had stepped in to buy gold aggressively, usurping the gold-driving helm from American stock investors. It was remarkable gold climbed so much, as overall global demand fell 212.7t YoY. Q1 was something of an anomaly.
Some of that was unwound in Q2’17, the last quarter for which comprehensive gold fundamental data is now available. Gold slid 0.5% despite a 2.4% or 20.2t GLD build. That compared to overall world gold demand falling 102.3t YoY. Despite the record US stock-market highs driven by Trumphoria, American stock investors were bucking the global trend of selling gold-ETF shares. Overall ETF demand dropped 181.4t YoY.
But despite GLD apparently exiting gold’s driver seat, the red gold-price line above continued to generally mirror GLD’s holdings. The only reason GLD’s influence faded in the first half of this year is there wasn’t much differential buying or selling of GLD shares by American stock investors. The major Trumphoria stock rally left them largely indifferent to gold. That made room for other gold drivers to temporarily eclipse GLD.
Last year the absolute value of GLD’s quarterly holdings changes averaged 108.9t. But so far in the first couple quarters of 2017, that has collapsed 86% to a mere 15.2t average! Realize when stock investors start buying or selling GLD shares much faster than gold itself again, GLD’s dominance of gold’s price will come roaring back with a vengeance. Its extreme volatility overwhelmingly drives gold at the margin.
And that brings us to the current quarter where things are really getting interesting. Following that huge post-election draw, GLD’s holdings finally bottomed at 799.1 metric tons in late January. That low held until late July, when they started falling to a new post-election low of 786.9t by early August. That was the result of very-bearish sentiment fueled by gold’s usual summer-doldrums lows, its weakest time of the year.
Despite this summer seasonal lull being well-known, it inevitably freaks out traders. So they succumb to their fears and sell low at exactly the wrong time, right before gold’s major autumn rally. That started to power higher out of the early-July low right on schedule. But stock investors didn’t take notice until gold had already surged 6.4% higher to $1290 in just 5 weeks. Then they finally started buying GLD shares again.
GLD’s holdings initially bottomed on August 7th before stalling there for an entire week. The day after gold challenged $1290, August 14th, stock investors started to return. Their differential buying drove a 0.5% holdings build that day, the first in 7 weeks. That GLD-share buying pressure really accelerated in late August and early September, where separate major build days of 1.1%, 1.8%, and 1.1% were witnessed.
By September 5th, GLD’s holdings had powered 6.8% or 53.2t higher in less than a month! That helped drive a parallel 6.5% gold rally, catapulting it from $1257 to $1339 over that short span. These new gold capital inflows from stock investors via GLD are very exciting. This is the biggest and sharpest GLD build seen since well before the election, since back in Q2’16. Something big and very bullish is afoot in gold investment demand.
American stock investors are starting to return to gold despite the stock markets remaining near or at all-time record highs. There’s certainly been no correction or even series of major down days. Investors are returning to gold without that typical stock-selloff catalyst. And once swelling gold investment demand starts driving gold higher, its rally tends to become self-feeding and run for months on end before petering out.
Investors love chasing winners, nothing drives buying like higher prices. The more investors bid up gold through differential GLD-share buying, the more its price rallies. The more gold rallies, the more other investors want to join in to ride the momentum. Buying begets buying. To see this starting to happen in these euphoric stock markets is extraordinary. The inevitable overdue major selloff will supercharge gold buying.
These lofty Fed-goosed stock markets are long overdue for a major correction or more likely a new bear market. Once they roll over sooner or later here, gold investment demand is going to explode just like it did back in early 2016 during the last correction. That stock selling could start soon, as next week the Fed is widely expected to unveil quantitative tightening. That’s every bit as bearish for stocks as QE was bullish!
Resurgent gold investment demand will once again almost certainly propel gold dramatically higher, as it did in the first half of 2016. This bull market’s latest growing upleg can be played with GLD, but that will only pace gold’s gains. Far greater upside can be found in the gold miners’ stocks, where profits amplify gold’s gains. The gold stocks recently enjoyed major breakouts, but remain deeply undervalued relative to gold.
The bottom line is gold investment demand is resuming after its massive post-election slump. Differential GLD-share buying, the dominant driver of gold’s young bull, just enjoyed its biggest and fastest surge in over a year. American stock investors are starting to prudently diversify back into gold, despite the stock markets still near record highs. Worries are mounting that the long-delayed major stock selloff is looming.
When that fateful event inevitably arrives, gold investment demand is going to explode again just like it did in early 2016. That will catapult gold, silver, and their miners’ stocks dramatically higher. Seeing gold investment demand surge recently even without a stock-selloff catalyst highlights the big latent interest in gold. Usually moving counter to stocks, it remains the ultimate portfolio diversifier every investor needs to own. – Adam Hamilton
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