Market observers were baffled by the record rise in gold this year, as the price of gold continued to rise in the face of headwinds that should have been blocked. The reason for the fall in gold prices this week is probably due to China.

After weeks of debate over whether mystery buyers are driving the gold rebound, several prominent figures in the global gold market have concluded that the main new driver is the Shanghai Futures Exchange (SHFE) retail investor corps.

In just a few weeks, SHFE went from being a deserted futures trading venue to the center of the global gold market. Although trading volume in financial centers such as London and New York is also rising, the fact that SHFE's trading volume has soared from a low base is a convincing indication that a new wave of Chinese investors has helped drive the sharp rise in gold prices.

Shanghai's gold trading volume is growing at an accelerated pace

Since this year, the price of gold has soared, breaking through $2,000 per ounce since the beginning of March, ignoring the rise in US Treasury yields and the rebound in the US dollar caused by weakening expectations of the Federal Reserve's interest rate cuts. In addition to this, India, as the second-largest consumer country, has also experienced an actual “buyer strike”. Western funds are not interested in gold, and exchange-traded funds (ETFs) are in a net state of sale. However, SHFE's trading volume began to soar, and the price of gold continued to rise.

Ross Norman, a former trader at Credit Suisse Group and Rothschilds & Sons. (Rothschilds & Sons.), believes that “the only thing that can drive the price of gold to skyrocket like Bitcoin is large-scale speculation.” He said that given rising interest rates and the strengthening of the US dollar, these funds are unlikely to come from US hot money, so the most likely buyers are highly leveraged Chinese investors.

Gold has a long history as a savings tool in China, which is the largest consumer and major producer of gold.

For several months, Chinese consumers and institutional investors have been snapping up physical gold, and the central bank of China has been buying for 17 consecutive months. These two forces have driven the rise in international gold prices, which have now been further intensified by a surge in speculative demand.

The numbers prove this theory. SHFE's gold trading volume surged, and the average daily trading volume in April was almost three times that of the previous 12 months. Before gold prices began to fall this week, trading volume peaked at around 1,200 tons on April 15, the highest value since 2019.

John Reade, chief market strategist at the World Gold Council, said, “This is another sign that emerging markets, particularly Chinese traders, are taking price discovery rights from Western markets. We have learned from other commodity markets that Shanghai traders are the most important players from time to time. This has never been the case in the gold market, but I think the situation may have changed now.”

For those who have been bullish on gold for a long time, this could be worrying if the rally turns out to be fragile. The media recently called for caution in pursuing the rise, while SHFE raised margin requirements to prevent excessive risk-taking.

Notably, while SHFE's trading volume soared, there was little change in the number of open contracts. This indicates that participants are trading in the short term rather than in the long term. The price of gold fell 2.7% on Monday, and the decline deepened on Tuesday. Reade attributed this to a return in profits from short-term investors.

Marcus Garvey, head of commodity strategy at Macquarie Group, said, “This is a characteristic of China's onshore market, albeit just a relatively extreme example.” “There are more short-term speculative transactions,” he said.

But not everyone sees Chinese investors as the main driving force behind the rise in gold. Jeff Christian, Managing Director of CPM Group, said, “It's not just small to medium traders, it's not just China. It really is a broad-based thing. Today, the trading behavior of large institutions is not much different from that of ordinary people.”

Christian believes that gold may be favored because the US maintains high interest rates to curb inflation, which could plunge the economy into recession. “They are all beginning to believe that interest rates won't fall too fast,” he said. “The negative impact on other assets is likely to be greater than the impact on gold.”

Samson Li, an analyst at the Commodity Discovery Fund (Commodity Discovery Fund) in Hong Kong, thinks the situation is more delicate. He said that China's crazy demand was not the direct driving force behind the rise in gold prices, but rather encouraged Western speculators to increase their bets on the New York Stock Exchange.

The debate over how long Chinese investors can keep up is closely related to why they first entered the market. SHFE's institutional and retail traders may be buying gold to protect against short-term market fluctuations. This year, night trading on exchanges was the most active, as a series of hot US economic data boosted the dollar.

Shanghai gold traders are most active at night
Trading volume soared before and after the release of key US economic data

Daniel Ghali, a senior commodity strategist at TD Securities, has also been searching for mysterious buyers of gold. He still believes that the dominant forces are probably well-off buyers in the so-called official sector (including state-related institutions such as central banks and sovereign wealth funds).