With the price of our favorite metal fluctuating so strongly last week, we’ve had a lot of good questions sent our way. Without further ado, let’s have a look at them…
Question: If you’re right about possible deflation, won’t the gold price fall?
Initially, probably so. But it won’t stay there. One reason is because the Fed and other central bankers won’t sit idly by—they’ll print even more money, and will keep doing so until they get the inflation they want.
But it isn’t just inflation vs. deflation; it’s crisis. And crises usually bring fear. Look how gold has responded whenever fear—as measured by the VIX—has been high and the broader stock market fell.
During these eight periods of high systemic risk, gold rose every time but one. This doesn’t mean it won’t sell off in the next one, especially in the initial phases of a downturn, but it does show that gold is strong when fear is high.
Question: If the Swiss Gold Initiative passes, won’t the gold price explode higher?
It will almost certainly impact the price, but probably not as much as some articles project. The initiative, among other things, would require the Swiss National Bank (SNB) to hold at least 20% of its total assets in gold (it’s currently around 7%). The referendum was brought forth by Luzi Stamm, a representative of the Swiss People’s Party, which is concerned that current Swiss monetary policy (a quintupling of its balance sheet since 2009) is potentially disastrous for the country. The vote is November 30, and if it passes, Switzerland would need to purchase roughly 1,500 tonnes, or 48+ million ounces.
That’s a lot of gold, and it would surely be positive for the price. Perhaps it could be the spark that turns the industry around. It could even have a ripple effect and influence other countries to pursue similar requirements.
However, the SNB would have five years to meet the 20% requirement, so the buying wouldn’t occur all at once. With the demand spread out, the effect on the price would probably be limited to the initial news of its passage. It would definitely add support to the market, though, as 48 million ounces is nearly two-thirds of annual global production.
The Swiss government could also reduce its balance sheet to help meet the 20% requirement, which would lower the amount of gold it would need to purchase, though we wouldn’t hold our breath on that. And if the referendum doesn’t pass, gold could potentially dip, but we’d expect it to be minimal since there hasn’t been much of a run-up in the price from the initiative.
Polls give a slight edge to the initiative passing, though many politicians vehemently oppose it. One stipulation is that the Swiss National Bank would “not have the right to sell its gold reserves.” This and the limit it would impose on its ability to print money are restrictions the Swiss government desperately doesn’t want to adhere to.
Which is exactly why it should pass. I like this chart our friends at Miles Franklin put together:
Not what you’d think from the Swiss, eh? Stay tuned on this…
Question: How much gold do you think China has?
Bud Conrad recently returned from speaking at a conference in Tianjin, China, and among other things shared this chart from Koos Jansen with the audience.
Combining jewelry holdings, domestic mining, known imports, and likely reserves, China probably has somewhere around 15,000 tonnes of gold inside the country. This equates to almost a half billion ounces, and is almost triple what it had not 10 years ago.
This is just an estimate, but either way that’s a lot of bullion—and I think it leads to control of the gold market in the very near future.
Question: If interest rates rise, won’t gold fall?
I tire of this claim from mainstream economists. The argument goes that as rates rise, the demand for gold decreases because you can get a high rate of return on your money elsewhere, and because it costs money to store gold.
But history clearly shows that it’s not the interest rate per se that influences gold, but the real rate. The real rate is the return after inflation—generally regarded as the 10-year Treasury minus the CPI. If that rate is negative, then the atmosphere for gold is bullish, regardless of how high interest rates may be. Some of the highest rates in modern history occurred in the late 1970s—and gold recorded one of its biggest bull markets on record. The real rate was negative because inflation was higher than interest rates. Gold has shown that it clearly responds more to inflation indicators than interest rates.
This mainstream view is shortsighted for other reasons. The influence of interest rates overlooks consumer demand for gold. The World Gold Council reports that 58% of global gold demand is linked to consumption and grows when GDP increases, a situation that generally coincides with rising interest rates. Also, monetary tightening and easing cycles are not the same everywhere. If the Fed raised interest rates, other countries with a strong affinity to gold may maintain or even lower their rates.
Question: Can’t you admit you’re wrong about gold? It’s been falling since 2011, and now your 2014 Crash Report says it could fall further!
Yes, it has taken longer than we thought. No, it isn’t any fun. We’re investors too, so we have some of the same feelings and reactions others do.
Someone is on the wrong side of the gold trade—the gentleman who wrote this question, or me. Nouriel Roubini, or Casey Research.
It feels like we’re the ones who are wrong. But that’s normal; bear turns in the markets never “feel” good. Investors should be guided by reason, not emotion, and the reasons for owning gold right now are bigger than just persevering until the start of the next bull phase.
Central bank actions—historic money printing, runaway debt levels, interest-rate suppression—were initially positive for gold, but their impact has faded. There are multiple reasons why that’s the case, but I think our investment in precious metals is now based less on those actions and more on the risk those actions have introduced into the system. And those risks are expanding, not shrinking, despite some positive economic indicators. In other words, the need for insurance has escalated.
Here are some questions that shed light on the multitude of risks we’re exposed to right now…
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What if banks begin lending out the money the Fed has loaned them?
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What if the Fed decides it needs another round of QE, regardless of what it calls it?
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What if interest rates rise, whether initiated by the Fed or pushed higher by the markets?
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What happens when—not if—the stock market enters a correction and mainstream investors begin losing money? What if the average investor remembers 2008 and decides to bail? How will the Fed react if this coincides with the end of QE?
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What will be the mainstream reaction if the real estate market goes flat or reverses? How would the Fed respond?
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What happens if the economy does grow—and kick-starts inflation?
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What happens if the debt load overwhelms the Fed’s printing efforts? Will it give up or double down?
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What if a developed country selectively or fully defaults on its debt?
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What if we reach a tipping point where other countries tire of the nonstop currency dilution and slow or reverse their treasury purchases?
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What happens if the markets lose confidence in the Fed or other central banks’ abilities to manage their respective economies and markets?
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What if politicians don’t institute serious fiscal reforms, and Fed interventions are reduced to nothing more than monetizing deficit spending by causing inflation?
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How would global central bankers respond if deflation takes root?
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What happens if the geopolitical conflicts deteriorate and lead to war?
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What happens when—not if—control of the gold market shifts to China, away from North America and the Comex?
The point is that we face increased systemic risk. The concern is that central bankers have painted themselves into a corner, and there is no easy exit from their policy mistakes. Since these issues have not been dealt with effectively and political leaders show no sign of doing so, systemic risk has greatly increased. Sooner or later there must be a reckoning—the math doesn’t work, and history has demonstrated the outcome of such fiscal crises numerous times.
Even if precious metals prices temporarily slip further, keep in mind that it’s less about the exact price and date of the bottom for this market and more about how you will protect yourself against the risks outlined above—they are real, in spite of what we read in mainstream headlines. If any transpire, they will wreak havoc on your investment portfolio and your ability to maintain your current lifestyle. That’s worth insuring.
This is the major reason why I haven’t given up on gold, and why you shouldn’t, either. It’s not a speculation on rapid gains, but essential wealth insurance. In fact, the need to own gold is greater now than it was in 2008.
Invest accordingly.
