Tano Capital Research: World Gold Supply and Demand

“Gold is going to trade more and more like a currency instead of like a commodity”  -  CEO Richard O'Brien of Newmont Mining

 

 

I. SUPPLY

 

In the first two quarters of 2011 the total supply of gold slipped by 4% YOY.

 

The gold supply flow comes from:

 

(A)  MINE PRODUCTION: 

 

• The overall level of global mine production is relatively stable. Supply has averaged approximately 2,497 tons per year over the last several years

• Gold production – long lead times (10 years for a new mine to come to stream) - inelastic output 

 

Industry Challenges/Price Supportive:

 

• Resource nationalism (windfall taxes, royalties, indigenous ‘empowerment’, mining license review)

• Development project constraints

• Higher input costs 

• Water shortages (competition for water in arid areas, cost of alternatives / desalinization)

• Growing legislation/regulation

• Environmental/Climate change regulation and impacts

• Competition for access to new resources (new ‘strategic’ and commercial acquirers)

 

 

• Since 2001, gold price is up approx. 350% but mine supply has only increased by 2% - supply has not

   kept pace with the rising gold price 

 

 

• World gold mining production forecasted to decline according to GMFS’ 10 year outlook on gold

   (December 2010) 

 

 

• Mine production experienced a positive growth rate of 7% YOY in the first two quarters of 2011.  The distributions of gains were geographically widespread. Mine production growth reflects a combination of new project start-ups, expansion of existing projects and re-starting of suspended operations

• Production was up in Australia, China, Mexico, Russia, Africa in Q1, and in Africa, Canada, North America, Australia, Russia, Kazakhstan, Turkey, Papua New Guinea, Mexico, Chile in Q2

• Mine production is just one of the two elements of the total mine supply, the second element being net producer hedging. Net producer hedging and de-hedging  were relatively negligible in the first two quarters and according to World Gold Council the impact on supply from hedging activity is likely to remain insignificant over the coming quarters

 

 

(B)  OFFICIAL SECTOR PURCHASES & SALES

 

• Central banks and multinational organizations (i.e. IMF) currently hold just under one-fifth of global above-ground stocks of gold as reserve assets 

• The official sector began buying gold again in the second quarter of 2009 (for the first time in 20 years)

• Q1 2011 – sharp increase in purchases of gold among central banks and official sector institutions. Total purchases exceeded the combined total of net purchases during the first three quarters of 2010

• Q1 main purchaser – Mexico (gold accounts for 3.6% of total reserves), followed by Bolivia (15%), Russia (total of 22.5 tons Q1 purchases), and Thailand (110 tons gold reserves total)

• Q1 - Sales virtually non-existent 

• Q2 2011 – Central banks remained net buyers but below Q1 levels

• Q2 – purchases remain concentrated among emerging markets’ central banks 

• Q2 purchasers include Russia, South Korea, Thailand, and Mexico

• The central banks of emerging countries remain largely underweight in their holdings of gold

• Central banks will play an increasingly supportive role in demand as they continue to diversify their reserves 

• A small shift in gold reserve ratios causes a significant impact on demand

• IMF sale of 403 tons in 2010 was easily absorbed by the market 

 

 

 

 

(C)  RECYCLED GOLD

 

• Recycled gold ensures there is a potential source of easily traded supply when needed which helps cater for an increase in demand and keep the gold price stable

• Between 2005 and 2009, recycled gold contributed an average 32% to annual supply flows

• Recycling activity abated in the first quarter as consumers across the globe deferred their decision to sell existing holdings of gold in anticipation of higher prices

• The supply was 6% below year-earlier levels and 24% below the previous quarter and it was only marginally above the average quarterly figure since Q1 2006

• In both Q1 and Q2, the supply among western markets was broadly stable whereas it declined in the non-western markets.  In the Middle Eastern markets the near-market supplies have been severely depleted – a notable increase in price would be required in order to draw out further supplies for recycling

• Q2 – the activity was down 3% YOY 

• Decline in recycling activity – contribution factors: increasing acceptance of higher price levels which drive bullish price expectations; the depletion of near-market stocks; and improving economic conditions in a number of those countries in which recycling is prevalent (most notably India)

 

 

 

 

II. DEMAND

 

• East Asia, the Indian sub-continent and the Middle East accounted for approximately 70% of world demand in 2009. India, Greater China (China and Hong Kong), U.S., Turkey, and Saudi Arabia represented over half of world demand
• Demand in China doubled from 2005-2010 to 400 tons in 2010 (Kinross Corporation)
• Q2 2011 gold demand – the second highest quarterly in value on record. India and China were the major contributors to growth in both jewelry and investment demand
• In volume terms – demand was 17% below the Q2 2010 levels. In value terms – 5% increase
• YOY solid growth in jewelry and technology demand in the second quarter was offset by a decline in ETF demand from the high levels of Q2 2010

 

 

 

Gold demand flow comes from: 

 

(A)  JEWELRY 

 

• Consistently accounts for over two-thirds of gold demand

• 2009 – gold was one of the largest categories of consumer goods

• 2009 – India was the largest consumer in volume terms

• Q2 2011 – gold jewelry demand rose by 6% YOY (India being again the key market – demand accounted for 32% of the world total)

• Indian gold coin buyers – intent to convert the coins to jewelry in the future

• Q2 2100 – demand 16% above year-earlier levels in China. The predominance of 24 carat gold in this market suggests more of an investing motive, given its higher purity

• Hong Kong – the strongest growth market globally for the second consecutive quarter (tourists from mainland China accounted for the majority of this demand – jewelry designs & tax advantages)

• Demand slipped in Taiwan, Japan and in the rest of the south east Asian region, Middle East during the Q2

• Vietnam and Turkey – increased and robust demand

• In US – an 8% drop in demand YOY but in value terms it showed a 15% increase

• In Europe, Russia is the only country with a slight increase in demand in Q2

• Gold jewelry experienced a stiff competition from sterling silver while the rising price of diamonds also proved detrimental to demand for gemset gold jewelry

 

 

(B)  INVESTMENT

 

• Comprised of all bar and coin demand as well as demand for gold-backed ETFs and similar products

• A significant portion of investment demand is transacted in the OTC market – not easily measurable

• Since 2003, investment has represented the strongest source of growth in demand

• 2003-2009 – increase in value terms of around 119%

• 2009 – net inflows of approx.. US$41bn

• Q2 experiences a 37% YOY decline in investment demand (almost entirely driven by ETFs and similar products – 82% YOY decline {Q2 2010 was the 2nd highest quarter on record}) although 18% above the previous quarter

• Q2 – physical demand for bars and coins – growth of 9% (Turkey 90% and India 78%, were the two strongest markets, and China 44%)

• Japan – negative investment demand for the 10th consecutive quarter

• Turkey – the strongest rate of investment demand growth globally in Q2

• Western markets – demand unexpectedly weak. However, the absolute level of investment demand for gold bars and coins across the US and Europe remains very high on a historical basis

• Comparing Q2 demand numbers with average second quarter demand from Q2 2006 to Q2 2009, growth rates for the US and Germany are almost double the historical average, while the magnitude of growth for Switzerland and Other Europe is 154% and 133% respectively

 

 

(C)  TECHNOLOGICAL

 

• Industrial, medical, and dental technology accounts for around 12% of gold demand (and annual average of over 434 tons from 2005 to 2009)

• Gold offers high thermal and electrical conductivity, along with outstanding resistance to corrosion (over half of all industrial demand comes from its use in electrical components)

• New uses of gold: catalyst in fuel cells, chemical processing and pollution control

• Potential: nanoparticles in advanced electronics, glazing coatings, and cancer treatments

• Q2 – 2% growth YOY in volume. In value, demand surged 28% to a quarterly record of US$5.7bn

• Global electronics demand – the strongest segment, 4% YOY (East Asia driving much of the change) {tablets, smartphones, e0readers, industrial processors that enable devices to harness renewable energy like solar panels, and electronic components in vehicle production}

• Dental use – 12% fall YOY

• China – 20% demand rise YOY