Why Global Investors Want Access to China’s Gold Market

At a Glance

  • The Shanghai Gold Exchange has become the world’s largest physical gold exchange less than 20 years after launching
  • China mines 11 percent of the world’s gold, making it the world’s largest gold producer
  • Two new futures contracts connecting CME Group gold futures to Shanghai Gold Exchange launched in October

China has grown to become one of the biggest gold-trading markets, just behind New York and London, and more international investors want access.

Much of the rise of China’s gold market comes from the development and growth of the Shanghai Gold Exchange, founded in 2002 by the People’s Bank of China, the nation’s central bank. In its almost 20 years of existence, the SGE has become the world’s largest physical gold exchange.

China’s Gold Exchange

China’s government and policy makers created the SGE to be the only official platform for gold in the country, says Samson Li, senior metals analyst, GFMS Refinitiv. All gold imports, domestically mined gold and recycled gold trade through the exchange.

That edge helps the SGE platform become a force in global gold trading, Li adds.

“In order to push the dominance of the SGE further, the Chinese government has also implemented several other policies, including no VAT (value-added tax) on gold purchases, unless a profit is made, versus silver’s 13 percent VAT which is price inclusive. It is also adding more gold contracts like Shanghai Gold, International Board, etc,” Li says.

The World Gold Council, an industry group, said in a 2018 report about the development of China’s gold markets, that the Asian nation’s financial sector is enjoying more liberal policy measures, and as the renminbi gains traction, more overseas investors are taking interest.

“It is on course to become one of the richest countries with one of the largest populations,” the WGC said in its report.

The World’s Top Producer

Supply and demand factors are behind China’s growth to become one of the world’s top gold markets. According to Metal Focus, China mines 11.5 percent of the global gold output, making it the world’s largest gold producer, with 404.1 metric tons produced in 2018. China is also the global leader in using the yellow metal in jewelry fabrication, accounting for 30.6 percent of worldwide demand. In 2018, China’s jewelry consumption was 686.5 metric tons, up 3 percent from the previous year.

Investment and Central Bank Purchases

Investment demand for gold in China is also strong, Metal Focus notes. Investors in the Asian nation bought 308 metric tons of physical gold, representing 28.6 percent of worldwide physical gold buying in 2018. Central bank gold buying also contributes to China’s gold appetite. According to the WGC, as of September 2019, the People’s Bank of China’s official gold reserves totaled 1,936.5 metric tons, making it the seventh-largest gold-holder, just behind France and Russia.

Since it consumes significantly more gold than it produces, China is a net-gold importer, and it imports the metal both through the mainland and through Hong Kong.

Chinese gold prices follow the prices discovered in both the COMEX gold futures market and the London bullion market, although local supply and demand factors also influence prices. Chinese gold prices often have a premium to attract gold to the country.

The Benchmark Price for China

To better reflect local supply and demand factors, the SGE created its own benchmark price in 2016. The Shanghai Gold Benchmark price is based on 1 kilogram of gold, with a fineness of 999.9 purity and is deliverable to SGE certified vaults, denominated in renminbi per gram. The price is determined twice daily through electronic auctions, in the morning and afternoon sessions.

Li says it’s hard to say how much influence SGE has on the global gold price because of the way Chinese prices fluctuate compared to London’s values. Li says so far this year, the average daily Chinese gold price has traded at a $10 per ounce premium over the LBMA gold price and throughout 2018, the average daily premium was $6.22 per ounce.

New Futures Contracts

On Oct. 14, CME Group launched two new gold futures contracts based on the Shanghai Gold Benchmark PM price. The new contracts will be financially settled, one denominated in U.S. dollars, Shanghai Gold (USD) futures, and one denominated in renminbi, Shanghai Gold (CNH) futures. The new contracts provide access to arbitrage with the 100-ounce COMEX gold futures contract and captures the margin offset benefits between the COMEX gold futures and other CME Group products.

Trading interest in metals in general is rising, as the CME Group’s COMEX metals contracts saw record volume in August, with the average volume at 885,000 for precious and base metals, up 41 percent from August 2018.

In its 2018 report, the WGC said trade volumes on the SGE have boomed in recent years. When the Shanghai Free Trade Zone was created in 2014, it allowed overseas market participants to trade on the exchange, letting non-Chinese banks import gold into China and to trade on its platform. That platform is known as the Shanghai International Gold Exchange, usually referred to as the International Board.

Li says while International Board trading volume is limited compared to local contracts, it offers hedging tools and investment option for international speculators. Traders can go short or long the Chinese gold contracts to express a view not just on the gold price direction, but also if they see the yuan rising or falling against the U.S. dollar.

“The Whole Story” About Gold Demand

This currency aspect of gold trading attracts investors, Li adds. He notes gold’s price in non-U.S. dollar terms are already at historical highs. “The strength of the dollar has hindered the upside in the dollar gold price, which has not been telling the whole story on the global demand for gold,” he says.

Being able to trade gold on the International Board is one way international investors can hold yuan-denominated assets, something they cannot do with many other traditional investments since the yuan doesn’t float freely, Li says.

Gold often acts as a safe-haven investment for Chinese nationals, too, Li says. Legitimacy of many domestically-listed company’s financial statements remain problematic, and the Chinese government has put heavy regulations on its property market because it fears another potential bubble there. “It allows gold to become one of the most logical investments for the Chinese community,” he says.

Debbie Carlson has focused on commodities for much of her writing career. She spent more than a decade at Dow Jones covering the Chicago-based futures exchanges. As a Dow Jones editor, she worked closely with The Wall Street Journal and Barron's in planning commodities coverage.

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