Global central banks driving force behind gold demand

"There is no sensible reason not to own gold. I think gold should be a portion of everyone’s portfolio to some degree because it diversifies the portfolio,” said Ray Dalio, the investment manager of Bridgewater, in 2012.

Let me unpack what gold is. It is a rare precious metal, yellow in colour. It is distinctively different from other precious metals like platinum, silver or palladium in the sense that is predominately used for both as consumable goods and as investment.

It has symbolic value that has almost created global obsession for it. In many cultures, gold is associated with glory, wealth, and power, according to Umea School of Business and Economics.

The biggest buyers of gold since 2010 have been the central banks across the globe, especially those from the emerging markets and that trend had continued until Q4 of 2019.

In fact, 2019 was when we saw record purchase by central banks as global official gold reserves continued to grow at a rapid pace. In Q2 of 2019, central banks bought 224t of gold, according to the World Gold Council. But why?

Last year was when the global economy began to show some negative signs, resulting in uncertain global markets.

Typically, central banks are tasked to respond to such economic situations, and they had to establish a portfolio of reserves that are robust and resilient, and which can survive the ravages of times. Such portfolio should have a well diverse asset classes, constructed to embody the principles of safety, returns and liquidity.

In the past, asset classes such as government bonds of the developed economies likes the EU and US dominated the central bank reserves.

But the recent global economic challenges required they re-evaluate the role of gold in their portfolio of reserves to respond efficiently. We have seen Russia and China leading the charge on that front. Russia went as far as reducing its exposure to US treasuries to almost zero.

Early this year, institutional investors also followed, becoming the largest buyers of gold, breaking purchase records. The activities of large institutions acquiring more gold could be traced to none other than the global gold ETFs.

Holdings of gold by global gold ETFs have grown to a record high. As investors look to hedge the economic risks caused by ballooning government budget deficits, geopolitical concerns and high valuations for both stocks and bonds among other factors, collective holdings of gold ETFs surpassed Germany’s official gold reserves and exceeded the official gold reserves of every country except for the US, according to the World Gold Council.

The SPDR® Gold Shares ETF and iShares Gold Trust ETF were leading the charge from all fronts in terms of attracting more money from investors. In May 2020, both ETFs collectively attracted more than 50 percent of the inflows in the US alone, the world’s largest markets for ETFs by all measures.

The story of ETFs drawing more capital to help investors to achieve their investment golds in 2020 cannot be completed without mentioning the African giant ETF called NewGold.

Though NewGold has worn the crown of being the largest ETF in the JSE and being the first and the only ETF in some of the markets of secondary listing like Kenya for many years, it has benefited from global inflows driven by investment in gold.

It has grown by more than 60 percent in the last 12 months, representing more than 20 percent of South Africa’s entire ETFs industry, according to Nerina Visser from ETFSA. It has grown to become two and half size of the next biggest ETF in JSE, the NewPlat ETF which is also originated and sponsored by Absa Bank Limited.

Locally, the ETF has outperformed the NSE indices with current NewGold indication at KES 1970/2010. Year to date, the ETF has posted a 35.71 percent positive performance while the NSE Share Index and the NSE 20 Share Index have fallen by 15.71 percent and 29.48 percent respectively over the same period. It has also outperformed the derivatives market in Kenya, shoring up four times in turnover what the derivatives space has done year to date.

The success of the NewGold in the continent is underpinned by amongst other things, being the investment company that gives investors the easy and safe access to gold while on the other side the relevance of gold as a strategic asset by large institutional investors has seen them using gold both as the effective diversifier and for long-term sustainable returns.

It is expected that a product with such success will draw more attention and scrutiny from the investment communities which I believe is aimed at improving the product so that investors can derive more benefits from it. Some of the common misconceptions include claims that holding gold through NewGold is not safe and that it is not cost-effective.

Investors should, however, note that NewGold issues securities that are physically backed by gold and each security is equivalent to 1/100 ounce of gold less annual fee of 0.30 percent, which is 25 percent lower than the cost of the largest ETFs in world. The gold backing NewGold securities must meet the London Delivery Bar Standard, which specifies the weight, size, and purity.

Investors who are licensed dealers in gold can exchange NewGold securities held by them for the delivery of physical gold by NewGold, and this trade is well documented in the NewGold prospectus.

The gold backing NewGold is stored in a safe vault in London with a custodian called ICBC Standard Bank. The gold stored with the custodian is adequately insured and it is also audited annually by NewGold external auditors with an annual insurance certificate issued to NewGold.

The fact that central banks and large institutions have grown to become the biggest consumers of gold through direct acquisition or through the gold ETFs tells us something. We need to consider having gold in our portfolio as insurance and to improve our risk-reward profile.

Mgwaba is Head of Absa ETP business and CEO, NewGold Issuer (RF) Limited