COMMODITIES ● PRECIOUS METALS
7 January 2019Executive summary 3
Investment case for gold 6
Investment market trends 12
Trends in demand 16
Trends in supply 22
Disclosure appendix 27
Disclaimer 29
ContentsCOMMODITIES ● PRECIOUS METALS
7 January 2019
Executive summary
Gold is benefiting from greater financial volatility and equity declines;
a perceived end to Fed tightening later in 2019 may be gold friendly
Gold’s main obstacle to a rally is a firm USD; mine and scrap supply
limited; there is room for more Comex short-covering and ETF builds
We see upside for gold and raise our average price forecast for 2019
to USD1,314/oz; EM buyers to set a floor on prices
Investment demand key to prices
The flows may go back to gold
After rallying to USD1,365/oz in April 2018, gold prices slumped to USD1,160/oz in August.
After bobbing up and down around USD1,200/oz thereafter, gold then began a sustained rally in
mid-November, trading up to USD1,284/oz by year-end. Gold’s poor performance in much of
2018 occurred against a backdrop of many ostensibly bullish developments. These included
mounting global trade frictions, frequent bouts of investor risk aversion, elevated geopolitical
risks, and stock market and currency dislocation. These events generated safe-haven flows
which, due in part to firm US growth, were attracted into US assets and buoyed the USD to the
detriment of gold. Investors either shunned or liquidated bullion as a result. In other words, the
dominance of the USD as a safe haven undermined gold’s status as a sheltering asset.
The situation has since turned around. There tends to be an inverse correlation between
equities, notably US equities, and gold. After posting record highs in 2018, US equities have
shown signs of a reversal. Further equity weakness would likely help sustain a gold rally, we
believe. Low financial volatility in 2018 also helps to explain gold’s weakness. Volatility is back
up, and even if it stays only around historical norms, this could be expected to buoy gold.
Although they did not support prices for much of 2018, trade and geopolitical risks have had a
more visibly positive impact on gold in recent months. There is historical evidence to show that
should trade flows contract, gold prices tend to rally, albeit with a lag. Currently trade flows are
positive but relatively low, and global trade tensions persist. Similarly, the historical empirical
evidence shows that over the longer haul, elevated geopolitical risks are gold supportive.
Should geopolitical risks remain elevated, safe-haven flows may further aid gold. These factors
are gold bullish, but we expect that rallies will be modest and held in check by a still
strengthening USD in 2019 (as forecast by the HSBC FX research team) and late-cycle
tightening Fed policies (see the Investment case for gold section of this report on page 6).
Investor demand set to improve
Gold Exchange traded Funds (ETFs) rose 206 tonnes, in 2017 but then after falling for much of
2018, were up modestly at end-2018, rising to 71.06moz at the year-end from 68.49moz at the
beginning for a net increase of 2.57moz, or 80t. While there is potential for fresh declines, we believe
ETF demand is more likely to be positive in 2019 and 2020. Some forms of risk aversion may
stimulate gold ETF demand, notably equity market weakness or an increase in financial market
volatility. Also the shakeout in gold prices in 2018 cleared a lot of near-term players out of the ETFs,
leaving buy and hold investors with longer term horizons who may look to hold gold ETFs for their
diversification properties. We see ETF investors accumulating 120t this year and 100t in 2020. We
illustrate changes in ETF holdings since 2007 in Chart 2. Net long positions on the Comex essentially
collapsed in Q3’18. Gross short positions surged in reaction to a strong USD and strong paper
Gold prices fell in 2018 as
safe- haven flows went
primarily into US assets
Gold is now benefitting from
renewed safe-haven flows
Financial market volatility is
especially supportive of gold
COMMODITIES ● PRECIOUS METALS
7 January 2019markets. The Comex went net short in mid-October for the first time since 2001. This explained much
of the weakness in gold in 2018. Many of these recent shorts proved to be easily shifted out of their
positions. Rapid short-covering later in 2018 and some builds in gross long positions occurred in
reaction to financial market weakness, notably equities, and a perceived end to Fed tightening in
2019. The Comex moved back to being net long by 9.27moz as of 21 December 2018. The US
government shutdown prevented data from being collected for the final days of 2018 and to date in
January. We believe there is scope for longs to build in 2019 and for shorts to fall further, thus
supporting prices.
Firm USD and Fed policy to present headwinds
The HSBC FX strategists forecast a stronger USD against most currencies for the rest of 2019
with EUR-USD expected to end the year at 1.10. USD strength is the main threat for gold and is
likely to present powerful headwinds to rallies. Tighter monetary policies in the US are also a
negative for gold, but this impact may be limited. While tighter monetary policies are traditionally
gold-bearish, another two Fed rate hikes are already widely anticipated and may already be
partly factored into current prices. The gold market may begin to look beyond 1H 2019 and
anticipate an end to the Fed’s tightening cycle. Thus, Fed policy after being a possible
headwind in 1H’19 may turn more supportive of gold later in the year. Also a flattening yield
curve may prove price supportive. Gold’s best chance for gains in 2019 and 2020 may come
from greater equity market volatility as shown by the VIX and the possibility of further equity
weakness, which may increase safe haven and hedge demand for bullion.
Physical buyers to the rescue
We are positive on gold prices in 2019 and expect underlying physical markets to determine the
extent of any rally. Physical gold demand appears to be beginning to recover after long running
weakness. For the first three quarters of 2018, total demand reached 2,936t, which was 111t
lower than the same period in 2017, but Q3’18 demand improved slightly on Q3’17. While no
comprehensive hard data is yet available for Q4’18, we believe physical demand increased
further based on price movements and our conversations with physical participants. Looking to
2019, gold bar demand should be supported by relatively attractive prices and greater portfolio
demand as investors may seek gold for its safe-haven and diversification properties. Coin sales
have been historically very weak but are improving, and we see further scope for gains in 2019,
albeit from low levels.
While we expect overall retail investment demand to improve, it may still be low by historical norms.
Jewelry buying is the single-biggest demand source of gold and is the cornerstone of the physical
market. After several years of declines, it appears to have made a mild recovery in 2H’18. Even
though adverse FX moves have limited demand in key consuming EM nations, we expect increased
offtake in 2019 and 2020. Our expectations are based on the widespread market forecasts for rises
in income and economic growth in China, India, the US and other key gold consumers as well as the
relatively low gold prices in USD terms. We believe EM gold demand has effectively put a floor on
prices and is helping to jump start a modest rally.
2. Gold and exchange-traded funds
Source: Bloomberg, HSBC
A firm USD represents a
potential headwind to
higher gold prices
Gold in ETFs (LHS)Gold price USD/oz (RHS)。