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News & ResearchThe Responsibility of Tomorrow

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"You cannot escape the responsibility of tomorrow by evading it today." 
―  Abraham Lincoln

 

I have written before that, at the time I was asked to help establish and run BULLIONROCK, I was neither a gold bug nor an expert in precious metals by any stretch of the imagination.

My new venture into the land of gold, silver, platinum and palladium in early 2012 was more about filling a market need (to provide a regulated financial services business approach to dealing in, and with, unallocated, exchange-traded and physical bullion for other financial services businesses and high-net-worth clients) rather than a burning belief that precious metals were the best asset class in the universe.

Since then, and having looked at financial markets for a living as a stockbroker and investment manager for pretty much all of my working life, I have to admit that I am at present totally overwhelmed by the argument for having, at the least, an allocation to gold for diversification or insurance purposes within investment portfolios - quite simply, the reasons for doing so has never been clearer in my mind.

Let's have a little look at what is going on in the world, shall we?

 

1. The US Debt Ceiling

The absolute number of public debt, now more than $17 trillion, is terrifying. The rate of change is more so. The matter is clearly cause for concern - not many agenda items cause governmental shutdown, after all. The day that normal service was resumed saw a rise in the debt of $328 billion in one day.

Can anyone really get their head round the numbers? $100,000,000 per hour, every hour, 24 hours a day. If we presume Jesus was born in 0AD and was still alive today he could have spent $1 million dollars a day, every day up until now and he would not have spent $1 trillion dollars yet - never mind $17 trillion.

So what will happen 'tomorrow'? How can this situation be sorted? What possible solution or outcome to these numbers will cause the price of gold to fall?

 

2. QE Infinty

The stimulus measures, including a spend of $85 billion a month on bonds, seem likely to continue as the Fed requires more eveidence that US economic growth is real, confidence is rising and unemployment falling.

With interest rates at next to zero, inflation (as the Fed reports it) less than 2.5% and 10-year borrowing at under 3% - for now, the balance is knife-edged. But for how long will this moment in time last? 

Most scenarios of change that I can think of (particularly rising inflation and longer-than-expected QE) would historically suggest a rising gold price.

 

3. Excess Liquidity 

If you think there is far too much money sloshing through the global financial system and causing unstable asset booms, you are not alone.

A recent report by JP Morgan says the bank's measure of excess global money supply has reached an all-time high. "The current episode of excess liquidity, which began in May 2012, appears to have been the most extreme ever in terms of its magnitude," said the report, written by the bank's global asset allocation team.

They said the latest surge is far beyond anything seen in the last three episodes of excess liquidity: 1993-1995, 2001-2006, and during the Lehman emergency response from October 2008 to September 2010, all of which set off a blistering rise in financial asset prices.

The bank says there is enough juice to keep the boom going for several more months, but it really is storing up bigger problems for later:

"It could be a warning if fundamentals are out of whack. [Equity and bond] Markets could be vulnerable next year if that liquidity starts to disappear... "

 

4. US dollar

How can the US dollar withstand SO MANY potentially dangerous pitfalls in its way? We have already seen a weakening dollar, almost deservedly so during and after the government shutdown and can-kicking debt ceiling raise ...

And, of course, historically, a weak dollar has been good news for gold. 

 

5. The Drive for Repatriation

Germany, Poland, FInland, Switzerland, Ecaudor and Venzuela are some of the nations that have suddenly woken up to the potential benefits of holding their gold in own their country, thanks all the same to Fort Knox and London et al! 

The truth is that nobody really knows how many times the physical gold safeguarded in Western vaults has been leased, lent, pledged and repledged as collateral.

One thing seems logical: if nations are lining up to ensure that they won't be the ones left chairless when the music stops; institutional investors will most likely follow and they, along with the wiser individual investors who stash their own physical bullion away (perhaps on a twenty-five square mile island in the sea with a regulated financial services business which holds it in the exact form, purity and weight requested?) may one day be the envy of the world.

 

6. The US Isn't Selling Gold and The ECB Isn't Selling Gold Either, FYI

a. Selling gold would undercut confidence in the U.S. both here and abroad," a US Treasury department spokeswoman said, "and would be destabilizing to the world financial system."

b. The head of the ECB head himself Mario Draghi says:

"I never thought it wise to sell [gold], because for Central Banks this is a reserve of safety ... [and] in the case of non-USD countries, it gives you good protection against fluctuations of the USD."

 

7. China is Buying Gold 

In an article by ZeroHedge in which it reported that China has imported over 2,000 tonnes of gold in the last two years, it commented, "China is seemingly unaware that all expert hedge funds in the US have been capitulating on gold because the momentum trade is no longer there, and because it somehow makes more sense to buy gold when the price is high rather than low. Indeed, in a 'shocking' turn of events, China actually buys more physical gold when the price is lower than higher."

By the way, before someone comments that they have heard that the Russians have turned sellers of gold (all 12,000 ounces out of a holding estimated at 31 million ounces) they should check the story behind it. I understand that in order to comply with US currency controls, President Putin was required to deliver gold contracts in physical in New York in return for US dollars.

 

8. Short Sellilng and The Rise of The Mysterious Trade

First of all, we didn't need the Finnish government to point this out to us, did we readers?

"The gold markets are leveraged so much that if all people who hold contract claims to gold decided to convert their contracts into physical gold, there would not be enough gold to go around. There are far more claims to gold than there is gold itself."

So secondly, who might want to keep the gold price down by entering into short contracts in the futures markets to spook the buying public away? Anyone want to hazard a guess?

Think I'm making it up? Let's have a look at the events of, say, 11 October:

At 8:42 a.m. US ET Friday morning, a firm appeared to sell 5,000 gold futures contracts 'at market' meaning at whatever price was available. The massive order was more than the market could take at once and led the Chicago Mercantile Exchange to automatically halt trading for 10 seconds. 2,700 contracts were sold, which triggered the halt, and then a remaining 2,300 were sold once the market resumed trading.

Since one futures contract controls 100 troy ounces of gold, and each troy ounce was worth $1,285 at the time of the sale, this party was selling some $640 million worth of gold in one shot. It overwhelmed the liquidity in the market and forced the price per ounce down $25 in minutes.

This doesn't happen for no reason. If it was a mistake, it wouldn't have happened without the party responsible hanging out the trader to dry in public. I have worked in this industry and this sort of trade is not normal. Not normal at all.

What is pleasing is that the event did not stop gold rising past this level thereafter - so whoever went short might well be hurting. What a shame.

 

9. Physical Gold is Holding a Premium

There is now, and has been for some weeks, a premium for immediate delivery of gold. The persistant "negative gofo" (gold forward lease rates) are essentially a backwardation - people paying more than gold 'is worth' (according to the screen price) for bars they can hold in their hand. When I say people, the buyers who are willing to pay a premium to the "spot price" tend to come from overseas: China, the Middle East and India in particular.

This is all fine and dandy, you might think. If Eastern investors want to pay up for gold - that's their perogative. The issue comes when Western investors want the gold back, however - as the stuff just doesn't tend to come back, I'm afraid.

So, are we about to see the screen-traded gold bluff being called? We have seen how fiat currencies fare and now we could see the fiat gold system for what it really is ... and I find the possible outcomes of this interesting. Will we see a two-price gold market: one for men in pinstripe suits to play with and one for physical bullion?

 

10. It's Not Just Gold

Silver Eagle bullion coin sales increased 194,500 last month to take the a year-to-date total to approx. 39,175,000 coins. This means saless are on track for a new annual record - surpassing the record seen in 2011, when it took until the middle of December that year to reach the levels seen this.

Some investors are clearly getting the message then!

 

Of course, if you are still unconvinced then that's what makes the investment world go round. I cannot tell you today whether this will have been a great time to buy precious metals when we look back from the future with our 20:20 hindsight.

I can tell you, for the record, that I did toy with taking the words out of Benjamin Franklin's mouth and calling this article, "You may delay, but time will not."

 

 

Debt

 

Saturday November 2, 2013 by Robin Newbould