First Gold Dip Since Central Bank Buying Spree

Theme and Background

This chapter focuses on the gold market correction in February 2023 and changes in the macroeconomic environment. The report notes that gold fell 5.26% for the month to $1,826.92/oz, nearly erasing its year-to-date gains, yet still trading 12.61% above the autumn 2022 low and above the 200-day moving average. The core backdrop is a record level of global central bank gold purchases (annualized 1,724 tonnes), while macro-level inflation uncertainty continues to rise, and market expectations for the Fed’s interest rate path have undergone a sharp shift.

Core Thesis

The author’s core investment argument is that physical flows (rather than financial factors) will dominate future gold price movements, and this is still in its early stages. Counterintuitive judgments include:

• Despite the gold price correction in February, the Shanghai gold premium remained persistently high, indicating strong physical demand in Asia rather than selling pressure.
• Macro volatility itself (rather than a single inflation data point) is the root of inflation uncertainty, which may require further significant rate hikes.
• Market optimism for a “soft landing” has shifted to a “no landing” scenario, with rate expectations revised sharply higher (terminal rate expectations rose 50 basis points in one month to 5.42%).

Key Arguments and Data

1. Global Central Bank Gold Purchases: Annualized 1,724 tonnes, more than three times the 10-year average of 512 tonnes. Chinese official sectors (possibly including the central bank, related entities, or state-owned banks) made large purchases before the Chinese New Year at the end of January, and have not resumed since but show no signs of selling.

2. Shanghai Gold Premium: Persistently high, indicating strong physical demand in Asia (see Figure 1). Some profit-taking occurred on Shanghai trading desks, but the scale is far smaller than official sector demand.

3. Macro Volatility: The New York Fed’s inflation uncertainty index shows that the forward spread between 1-year and 3-year inflation uncertainty has been in “backwardation” (1-year > 3-year) since early 2020 and is trending upward. This index has a relatively high correlation with gold prices (R²=0.56).

4. Shift in Rate Expectations: Market expectations for the terminal federal funds rate rose from 4.92% one month ago to 5.42% (+50 bps). The 2-year U.S. Treasury yield rose to 4.82% (a new high), and the U.S. dollar index rebounded to resistance at 104.97.

5. Technical Analysis: Gold prices remain above the 200-day moving average and the 50% Fibonacci retracement level, forming a descending wedge (exhaustion pattern). Gold ETF holdings continued to decline (-0.57%), while silver ETF holdings edged up 0.58%.

Key Comparative Data Table:

Indicator	2023/2/28	2023/1/31	Monthly Change	Monthly % Change	YTD % Change
Gold Spot	$1,826.92	$1,928.36	-$101.44	-5.26%	+0.16%
Silver Spot	$20.91	$23.73	-$2.82	-11.88%	-12.70%
NYSE Arca Gold Miners Index	767.42	897.17	-129.75	-14.46%	-4.73%
U.S. Dollar Index	104.97	102.10	+2.77	+2.72%	+1.30%
10-Year U.S. Treasury Yield	3.92%	3.51%	+41 bps	—	+5 bps
Gold ETF Holdings (Million oz)	92.64	93.17	-0.53	-0.57%	-1.19%

Companies/Assets Involved

• Gold Bullion: Bullish. Despite the February correction, physical demand (central banks + Asia) remains strong, and technical levels hold key support. The author views the correction as a “buying pause” rather than selling pressure.
• Silver Bullion: Neutral to bearish. Down 11.88% for the month and 12.70% year-to-date, pulling back to support levels. However, silver ETF holdings edged up 0.58%, suggesting signs of bottoming.
• NYSE Arca Gold Miners Index: Bearish. Fell 14.46% in February, retracing 50% of the autumn 2022 rally. Underperforming gold itself.
• U.S. Dollar Index (DXY): Bearish. Rebounded 2.72% in February to 104.97, but is overbought and at resistance, potentially facing a pullback.
• Gold ETFs (e.g., GLD): Bearish. Holdings continue to decline (-0.57%), indicating financial investors have not yet entered.
• Silver ETFs (e.g., SLV): Neutral. Holdings edged up 0.58%, potentially forming a base.

Investment Implications

• Physical gold allocation should take priority over gold ETFs: Central bank and Asian physical demand are the core drivers of current gold prices, while ETF holdings are still flowing out. Investors should focus on physical gold bars, coins, or products linked to physical holdings.
• Beware of interest rate risks from rising macro volatility: If inflation uncertainty persists, the Fed may be forced to push rates well above current market expectations (5.42%), which would pressure risk assets but could indirectly support gold by raising inflation expectations.
• Silver may offer higher elasticity: Silver ETF holdings have begun to stabilize. If gold breaks through resistance, silver’s industrial attributes (e.g., solar demand) and low inventories could amplify gains, though short-term volatility is greater.
• Caution is warranted for mining stocks: The gold miners index fell far more than gold in February (-14.46% vs -5.26%), reflecting cost pressures (energy, labor) and operational risks. If gold prices do not recover quickly, mining stocks may continue to face headwinds.

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Theme and Background

This chapter focuses on the distorting effects of the surge in global money supply on financial markets, and the fundamental shift in gold pricing logic driven by central banks' record-breaking gold purchases. The report notes that the rebound in risk assets since autumn 2022 has been largely fueled by a short-term surge of 7.5% (approximately $7.5 trillion) in global M2 money supply (around $102 trillion). However, this liquidity source—China and Japan—may be on the verge of reversing.

Core Thesis

The author's core judgment is that physical gold flows will dominate future gold price movements, rather than traditional financial factors (such as real interest rates). The counterintuitive aspects are:

• The liquidity-driven rebound in financial assets fueled by the global M2 surge is unsustainable. Once monetary expansion in China and Japan reverses, financial assets may decline, while physical assets (gold) will decouple from them.
• Central bank gold purchases have surged from an average of 512 tonnes per year over the past decade to an annualized 1,724 tonnes, with their share of global gold demand jumping from 11% to 34%. This structural shift has changed gold's pricing logic from "financial speculation" to "physical supply and demand."

Key Arguments and Data

1. Short-term Nature of the Global M2 Surge and Reversal Risk:

• Since early October 2022, the 13-week change rate of global M2 has risen sharply by 7.5% (approximately $7.5 trillion), mainly driven by China (stimulus in response to the zero-COVID policy) and Japan (bond purchases under the YCC policy).
• China has reopened its economy and undergone a change in central bank leadership. Bank of Japan Governor Haruhiko Kuroda will step down in April, and his successor, Kazuo Ueda, may gradually exit the YCC. The report believes the risk of reversal for these two liquidity sources is significant.

2. Record Central Bank Gold Purchases:

• In Q4 2022, central banks purchased 417 tonnes of gold, while Q3 was revised upward from 399 tonnes to 445 tonnes (the quarterly average since 2013 was only 128 tonnes).
• The annualized purchase volume of 1,724 tonnes is 3.4 times the average of 512 tonnes over the past decade.
• Central bank gold purchases as a share of global gold demand have risen from 11% in recent years to 34%.

3. Historical Performance of Gold in Central Bank Reserves:

• Since 2000, gold priced in SDRs has outperformed the SDR itself by 6.7 times and the global government bond index by 3.4 times.
• Central bank gold reserves have risen to a 50-year high (approximately 36,782 tonnes), with their share of foreign exchange reserves continuing to increase (see Figure 5).

4. Macro Environment:

• The sharp rise in the expected terminal rate of the Federal Reserve poses a greater risk to financial assets than to the real economy (which has shown resilience to rate hikes so far).
• Geopolitical tensions, deglobalization, de-dollarization trends, and inflation uncertainty support central bank gold purchases.

Companies/Assets Involved

• Gold (Physical): Bullish. The report argues that physical flows will dominate pricing, and the current stage is early, driven by Asian physical demand.
• Financial Assets (Stocks, Bonds, etc.): Bearish. If liquidity reverses, speculative financial assets may decline as M2 contracts.
• People's Bank of China and Bank of Japan: Key players as sources of liquidity; their policy shifts are core risk variables.
• Federal Reserve: The rising expected terminal rate poses greater risks to financial assets.

Investment Implications

• Go Long on Physical Gold and Related Assets: The structural trend of central bank gold purchases (annualized 1,724 tonnes) and Asian physical demand (Shanghai premium) will drive gold prices, independent of interest rates or dollar movements. Consider gold ETFs (e.g., GLD, IAU) or gold mining stocks (e.g., Newmont, Barrick Gold).
• Beware of Liquidity-Driven Financial Asset Pullbacks: If monetary expansion in China and Japan reverses, a contraction in global M2 could trigger periodic declines in stocks and bonds. Recommend reducing exposure to high-valuation speculative assets.
• Focus on the De-dollarization Theme: After Russia's foreign exchange reserves were frozen, central banks accelerated gold purchases to diversify dollar risk. This trend may persist for years, supporting gold's long-term allocation value.