Record gold purchases by central banks might signal a peak—what's really driving the market?
Before moving to the current events on the markets, I’d like to once again (as this is one of the “boomerang questions” that come back over and over again) discuss the link between the gold price and the central bank net purchases.
The central banks are buying record amounts of gold, which supports the bearish case for the yellow metal.
Surprised? Does it seem to go against common sense?
Maybe if one assumes that the governments are great investors and that they (in general) have a long-term plan (instead of moving from one crisis management to the next). In my view, most assumptions are unlikely to be true.
You don’t have to take my word for it, though. It’s right on the charts.
It’s clear that the official purchases skyrocketed in recent years. That’s true, but what does it tell us? What happened when the purchases soared previously?
Well, they previously soared in 2011 and then peaked in 2013. What does that tell you? They skyrocketed the year that gold topped, and then they continued to climb as it consolidated at high levels, and they peaked in the year when gold formed it’s final medium-term bottom – before sliding.
This is bearish – no doubt about that.
Let’s zoom out for more context.
The additional takeaway is that when gold prices were declining and low in general, the official sector was selling, not buying gold.
The link is pretty clear:
When gold price is low (it’s a good idea to buy at low prices, wouldn’t you agree?), the official sector is selling.
When gold price is high (it’s a good idea to sell at high prices, wouldn’t you agree?), the official sector is buying.
Oh, and yes, there was a dip in the purchases in 2020, but that was when there was the covid-based buying opportunity in gold, which kind of confirms the above points.
Let’s zoom out even more.
The peak in the late-1960s doesn’t count as when the gold price was allowed to float instead of being fixed.
What’s the thing that really stands out?
The official sector purchases soared right before and when gold formed its multi-decade (1980) high! …Which is a perfect confirmation of the points that I already made before. The official sector rushed to buy… At and around the top.
The existence of the Brown bottom in gold is another confirmation. In short, the name is not based on color; it comes from Gordon Brown, who was the UK Chancellor of the Exchequer, and who sold gold right at the bottom (even announcing the sale beforehand, which made the price decline even before the sale).
Gold might rally for a number of reasons, but the official sector’s purchases is not the cause of the rally but rather it’s consequence. Sure, there is some positive impact on gold’s price in the near term, but this is not a major force driving gold higher.
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Przemyslaw K. Radomski, CFA
Founder, Editor-in-chief