Central Banks Are Still Buying Record Amounts of Gold

Central banks control the economy through interest rates and money supply. Usually, during higher interest rates, investors choose higher-yielding bonds over gold, causing a drop in gold prices. However, gold prices have been rising rapidly.

Central bankers have been buying record amounts of gold since Q3 2022. If central bankers, the decision makers about interest rates, thought interest rates peaked or were near the top rate, they would be buying bonds. Instead, they are buying record amounts of gold. Everyone should ask why.

Central bank gold demand is the strongest start to the year since at least 2010. Central bank buying reached record numbers in the final two quarters of 2022. In Q4 2022, central banks bought twelve times as much physical gold as in Q4 2021. The price of gold has increased 21.24% (at the time of writing) since October 1, 2022, when central banks increased their buying.  

The basics of bonds are that higher interest rates will cause previously purchased bonds to decrease in value. Suppose you bought a bond that pays 3%, but interest rates have increased to 5%. Why would someone buy your bond? The only way someone would buy the 3% bond when 5% is available is by lowering the bond price to offset the difference in yield. It works the other way too. Suppose you purchased a 5% bond, but rates were reduced to 3%. People would be willing to pay more for the higher yield, so the price of your bond would go up. 

Central bankers understand bonds very well. If central bankers start buying record bonds, a rate pivot is on the horizon. If we see crazy central bank bond buying, you should follow their lead. The central bankers decide the exact moment when interest rates change. It's a nice monopoly that central bankers have, knowing when and where to invest money. Not to belabor the point, but "the smartest guys in the room" are buying record amounts of gold while everyone else is talking about a possible slowdown of rate hikes. The two ideas are incongruent. Either the market or the central banks need to be corrected about the actions the central banks will take. 

Central banks are limited in which assets they can hold. Central banks traditionally have most reserves in U.S. Dollars since it is the primary reserve currency. The central banks could buy other currencies or debt instruments like bonds, but gold is the more attractive option. Why? James Steele, a veteran precious metals analyst at HSBC, said, "Portfolio diversification is the main reason" that the central banks are buying gold.

Several  nations are moving away from the Dollar, which is dangerous on their balance sheets. The central banks are rebalancing their portfolios away from the Dollar into gold because they recognize a significantly growing risk. As Dollar usage decreases, the risk is high inflation and loss of purchasing power. There are dozens and dozens of examples of friendly and enemy countries moving away from the Dollar since the implementation of Russian sanctions last year. The following five examples were in the news in the previous week or so.

If the heat turns up slowly, the frog will not take action to save itself. The frog only realizes it is in danger when it is too late. Please notice that the water is getting much warmer much faster. It may be time to jump out of the pot while that is still an option.

Some people will ignore the central banks buying record amounts of gold. Maybe they will tell themselves that people are overreacting and being dramatic. The problem with that assessment is that central banks know the exact moment when the economy will improve because they set the policies. Central banks have teams of analysts, artificial intelligence, access to the best data, and have witnessed every market condition over the last hundred-plus years. Central banks don't panic buy. Central banks buy because they know something is coming. If central banks thought the economy would improve soon, they would buy bonds. However, central banks have gold fever and a sense of urgency to fill their vaults.

Tick tock.

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