Zerohedge Is Wrong

The stench of a well-trodden cow pasture is emanating from the Zerohedge article which tries to blame the decline in the price of gold during 2013 on China’s use of a complicated commodities financing structure.   Long time readers know that I always give ZH credit for digging up a lot of information and news items that we might otherwise miss.   It is invaluable in that respect.  However, Zerohedge has historically missed the boat with respect to knowledge and understanding of the precious metals market.

As everyone knows by now, China imported a record amount of gold in 2013.  As everyone should also know by now, the reason China’s appetite for gold – which put the total amount of gold “consumed” by the world far in excess of the amount of gold produced by all gold mines globally in 2013 – did not send the price of gold soaring was due to unprecedented intervention in the gold market by western Central Banks using the big bullion banks (JPM, HSBC, Scotia, Deutsche Bank primarily) as their agent in the market.

Goldman Sachs issued research which explains how China Commodity  Funding Deals (CCFDs) work.  These are “shadow banking” transactions which use the hypothecation and rehypothecation of physical metal commodities sitting in warehouses as collateral.  You can read the article here:  LINK   Or, in order to avoid the brain damage of trying to understand how the transaction actually works, suffice it to say that the transaction is a complicated way to create cheap funding for banks, hedge funds and wealthy investors in China in much the same way as the shadow banking system functions in the U.S./England/Europe.  All you need to know is that the security interest in the physical collateral sitting in warehouses is rehypothecated several times over in order to “create” cheap capital using the fractional banking system.  It’s MF Global on steroids.  In other words, a Ponzi scheme.

To cut to the chase and keep this post as short as possible, the massive importation of physical gold by China in and of itself is not a function of these CCFDs.  The CCFD’s are a function of the amount of real collateral sitting in Chinese warehouses, from which complicated security interest can be created and rehypothecated.  This transaction does not occur in the U.S. because, for the most part, big U.S. investment entities do not own any physical gold.

At any rate, Zerohedge has tried to connect the price-action in the price of gold during 2013 with the amount of gold futures selling which accompanies the CCFD gold transactions for the purposes of hedging:

it is beyond a doubt that the year in which gold-backed funding deals rose to an all time high, gold tumbled. To be sure this was not due to the surge in demand for Chinese (and global) physical. If anything, it was due to the “hedged” gold selling by China in the “paper”, futures market.

What’s wrong with the statement?   It is predicated on a conclusion drawn by Goldman in its description of CCFDs that the amount of futures sold in relation to the actual underlying commodity was suppressing the market price of the underlying commodity.

Those of us who have been studying and trading the gold market since the inception of the gold bull know that this analysis applied to the gold market is completely incorrect. The amount of gold futures open interest on the Comex has ALWAYS been many multiples of the amount of underlying throughout the duration of the bull market.  This has been documented ad nauseum.   The increase in futures open interest in relation to the underlying that might have occurred out of the hedging of CCFDs is nothing new to the market.

The point here is that any extra futures selling that is related to the use of gold in CCFDs is not why the price of gold was held down in the face of rampant demand from China for physically delivered gold.

The reason that China was able to import over 2,000 tonnes of gold in 2013 without the price being driven a lot higher is because:

1) roughly 1,000 tonnes of gold were removed from all of the physical gold ETFs in 2013

2) it is well-documented that the Bank of England unloaded 1,300 tonnes of gold into the market sometime in April 2013, around the time that the price of gold dropped $200

3) 116 tonnes of gold were removed from Comex vaults.

The “disintermediation” of at least 2400 tonnes of physical gold from custodial vaults which could be physically delivered to eastern buyers is what offset the massive demand from China and several other eastern hemisphere countries, all of whom imported record amounts of physical gold during 2013.

Without this massive supply of physical gold, the price of gold in the face of Chinese demand would have soared in 2013.    While there may have been short-term effects on the market price of gold when a gold-related CCFD transaction was being executed, the use of gold and gold futures in Chinese CCFD transactions for the purposes of creating cheap capital definitively did not cause the price of gold to go lower in 2013.

The price of gold was contained during 2013 by official western Central Bank intervention in the gold market.  And it was primarily orchestrated by the  Federal Reserve for the purposes of defending the reserve status of the U.S. dollar and to keep interest rates artificially suppressed for the purpose of enabling the U.S. Government to continue issuing low-cost debt.

Anyone who has been studying the enormous body of work done by GATA, James Turk and a few others over the last 14 years knows the truth about why the price of gold is many multiples below what would be its free market price level.  Apparently Zerohedge has been skipping this crucial segment of gold market research and knowledge.



39 thoughts on “Zerohedge Is Wrong

    1. Because this class of buyers does not care about the reference price in fiat currency. What’s important to them is measured in ounces and kilograms, not dollars or euro.

    2. Wrong. The price of gold rose almost $50 in March in conjuction with Chinese volume. It crashed shortly there after in conjuction with Bank of England selling.

      1. Chinese leaders also understood that the crisis brewing in Cyprus was boiling over in March, 2013. There was no certainty that the crisis wasn’t going to serve as a trigger for a EU-wide bank run, which would make further cheap gold accumulation quite difficult. So, it was no surprise to see China buying very aggressively in March, 2013.

  1. So, 2400 tonnes out of western vaults, 2000 tonnes into China. Got it. Thanks.

    The straightforward narrative always works best. I read zh daily, but that article looked like a pent up emission from Bernanke’s lawyers. The graphs reminded me of Rube Goldberg, only his contraptions worked.

    1. LOL. They plagiarized Goldman’s cover story for the view that the gold market isn’t manipulated by the Fed and its agent banks. Funny how ZH either blasts Goldman’s views or worships them. Zerohedge is egregiously guilty of NIH-syndrom (Not Invented Here) with respect to gold. They didn’t even really follow gold until their blog was seasoned for a couple years.

      For some reason they refuse to publish GATA’s work, which is seminal and definitive. NIH is the reason.

      They are great for a lot of things but they are complete Goombah hacks when it comes to gold market insight and understanding. Probably because they refuse to look at and understand GATA.

      Just recently they posted an article about the big bank OTC gold derivatives and presented it like they had discovered plutonium. Little did they know that the GATA crowd has been discussing the OTC gold/silver derivatives issue for over a decade.

  2. Great work Dave… I was intuitively uncomfortable with the conclusions being drawn in the referenced ZH article, but was unable to counter them myself. Your article really helps to cut through the BS and see it all plainly… Thank you! 1Kg Lunar Dragon.

  3. “why their highest import month (224 tons) was in Mars, so before gold crashed 200 points ?”

    Cause and effect as explained in the highlighted paragraph and the 3 previous items.

    Cause – East buys large tonnage of physical in March.
    Effect – West Bankers unload physical in April to offset.

    What will the Western Bankers do now, since they depleted their physical? Knock off another country and take the gold?
    Like they did in Iraq, Libya, and the Ukraine?

  4. I’m not sure this is not a GS sponsored article, but I don’t know.
    One thing I do know is, that the gold market is seriously skewed by paper gold.

    Once the physical becomes scarce, things will heat up. And with 125 claims on paper, for each unit available physically, there is going to be some nifty footwork, some sharp increases and about 124 unhappy punters per 125, as they go.

    I will sit back, relax and watch this movie unfold.!

  5. What will the Western Bankers do now? There is nothing left for them to do. At the G20 in a couple of weeks, the wheels will be set in motion to drop the USD as the primary global reserve currency and to implement the transition to a new financial system based on the IMF’s Special Drawing Rights. After six years of kicking the can down the road, “they” are now ready to grasp the nettle of monetary reform. There will be wholesale global sovereign debt re-structrurings/consolidation, bank resolutions and massive devaluations of paper currencies to put the global economy back on a sustainable footing.

    1. If a stinking, dirty garbage scow passed by the Titanic 10 minutes before it hit the iceburg, would you have gotten on the scow?
      If the same scow came by 10 minutes after the Titanic hit the iceburg, would you have gotten on the scow?

      They have to crash the Titanic in order for you to WANT to get on their scow.
      …and they might even give you 10cents on your dollar to board.

      full speed ahead….
      right on schedule.

  6. Re : the Zerohedge article and the mechanics;
    One thing that I am not clear on is why the multiple round tripping transaction would cause multiple forward sell hedges (multiple as in one for every iteration).
    If the subsequent iteration are essentially between subs or related parties only the first leg needs a hedge. Every subsequent iteration is incestuous (between related subs) and hence there on commodity price risk as the longs and short exposures net out. Correct ?
    If so, notwithstanding the inherent leverage for raising finance – i.e. the same stored commodity is collateral for many separate LC’s the borrower needs only one forward cover for his commodity exposure as the rest are a wash.
    Of course the lending institution may choose to hedge their underlying collateral but that is another story….

  7. When you have a highly levered market, you don’t need to manipulate the price lower…you just need to remove the underlying collateral and the price will drop. China removed a lot of collateral.

    Classic bank run.

  8. You really should read Koos Jansen’s work.

    There are 2 kinds of trade in China: general trade and processing trade. The gold trade that GS described is processing trade. The gold imported through processing trade can NEVER be sold on the domestic market (the SGE) and is unrelated to the domestic demand for gold in mainland China.

  9. Thank you Dave. Zero Hedge may in fact have staff authors harboring views not aligned with readership interest, such as those recently seen in articles flogging copper or Tesla. Savers with maturity and patience will be rewarded if they will consider these antics for what they are, crude attempts by the purveyors of fiat to bolster confidence in the longevity of their product.

    Speaking of which, I had another piece of the future-musk mental jigsaw puzzle fall into place this week regarding his battery swap stations. They’re probably going to be solar powered, and who could hate that?

    Dave, James Turk endorses your latest Investment Research Dynamics essay in his reasoning that what China is doing in the gold market will shock the world. Good on you.
    Fiiting that as a final flight to safety has begun, the cabal safety valve is backfiring. Discontinuity in Asian currency markets will spread until knee-jerk, sensational media no longer masks the smoke and mirrors monetary system.

  11. Using some of the words from ” President Xi Jinping ” (China) in The Netherlands,– and hearing between the words, Quote, “This year is the year of the Horse” Like the Horse we will be galloping – running then racing this year.” Anyone how can keep up will be racing in tune with prosperous end results” Unquote.
    Remember China will never forget how the West has treated China, especially when Nixon dropped the gold standard, with severe damage resulting for China being set back some 50 years back in time. China old culture, new ideas.
    China does not make war on gold, others do…

  12. “…well-documented that the Bank of England unloaded 1,300 tonnes of gold…”

    Please tell me that you are not relying on the claim that a web tour app with approximate figures is worth taking as the official holdings of the BoE… Otherwise please share what the “well documented” evidence consists of!

  13. I reckon you might be a bit hasty in slamming ZH on this one with the angle you have taken.
    ZH’s position is not to deny that the western powers are supressing the price of gold
    this is a classic false either/or proposition
    ZH purports that both factors/theories contribute to gold price supression: smackdowns in illiquid markets by the west (and on Fed speaking events) take down the price, while the price fails to rise when china buys because its rehypo hedge-selling mutes the demand that would otherwise see the price appreciate

    and from what i understand, ZH is with you guys in beleiving that an unmanipulated gold price is likely to be some multiples of what it is today

  14. I tell ya with Dave’s analysis and a couple other things I’ve read and watched in recent days I so realize big changes sometime in the future are on the way. The US overrun by psychopaths that can’t think or realize the what result actions will have 1, 5 or 10 years out have doomed the US to collapse at some point. The petrodollar is going to go down and the BRIC nations are preparing for a new future. Goodness I really have to re-think longer term plans.

    I read this book about the impact of pathology on society a few years ago.

    Recently read this piece that gave me so many aha moments in terms of past history of oil, gold, etc.

    Then watched and read this this morning and I was like things just became so obvious in terms of how close things could be for the US to be heading for collapse – just a matter of when really.

    So thanks Dave for regularly bringing truth out and pointing out what the probable future of the US is going to be. Hopefully it won’t get as bad as ‘The Road,’ but only a fool would ignore the huge elephant in the room.

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