Gold: moving from sceptic to a (mild) enthusiast

1st December 2020 

Welcome to the inaugural post for this blog.

While I am completely new to blogging, I have almost twenty five years of experience in the financial world and so sincerely hope that you find my summaries and observations of some interest.

When people mentioned investing in gold, I'd always thought of line that Warren Buffet apparently gave during a speech to Harvard business students in 1998 : 

“It gets dug out of the ground in Africa, or some place. Then we melt it down, dig another hole, bury it again and pay people to stand around guarding it. It has no utility. Anyone watching from Mars would be scratching their head.”

Similarly I'd always ignored analyst speculation as to what the price "should be". They never seemed to be even close to what it turned out to be.

The other central reason given for investing in gold never seemed to be borne out in reality either.  

It's an "inflation hedge". So you while it doesn't pay you interest or dividends, you need it to preserve the value of your wealth against the ravages of inflation.

While anecdotes such as the claim that a nugget that bought a Roman toga can now buy a suit on Saville Row, implied that the metal did indeed retain its purchasing power, actual analysis implied otherwise.

For example a study by Laurence Blose in 2005 (Study) concluded:

".... that surprises in the CPI (inflation index) affect interest rates but do not affect gold prices. 

The paper concludes that speculation strategies based on changes of expectations regarding inflation can be successful in the bond markets but not the gold markets."

So why my change of heart now?

Really just two words: Quantitative easing (definition). The reaction of central banks around the world, first to the Global Financial Crisis of 2008/9, and more recently the COVID pandemic, has led to an explosion in the amount of money in the financial system.

Initially it was feared that this would cause a huge rise in the inflation rate. So far, such inflation has only occurred in the investment markets (equities, bonds, property).

Way back in 2003 the Bank of Japan started buying equities (as well as Government bonds), a move that only a few years before would have been unimaginable. While this seemed to assist in their aim of resurrecting modest inflation, it crossed something of a rubicon and so another acceptable tool of monetary policy was borne.

This year has seen an increase in QE and the and talk of taking the next step: Modern Monetary Theory (definition), in other words directly funding Government expenditure with newly created money.

As QE evolves and the unthinkable becomes accepted, so the likelihood of significant inflation must surely increase.

Finally (and perhaps must crucially) there are the actions and statements of policymakers.

In recent years, Central Banks have started to horde gold (with the notable exception of the UK of course story!). With the historically high price this year, this has abated somewhat: Central banks net buyers of gold

There is talk of "de-dollarisation", meaning the intention of replacing the US dollar as the world's default currency. In 2018 the World Gold Council calculated that the dollars share of foreign exchange reserves (held by central banks around the world) fell from 71.5% in 2000, to 61.7% by 2018 (source: Bloomberg/World Gold Council 31/12/2018).

As far back as 2009 Zhou Xiaochuan, Governor of The Peoples Bank of China commented:

"The goal would be to create a reserve currency that is disconnected from individual nations and is able to remain stable in the long run, thus removing the inherent deficiencies caused by using credit-based national currencies" (source: Merian De-dollarisation presentation 2018). 

In 2010 Robert Zoellick, president of the World Bank stated:

"The G20 should complement this recovery with a plan to build a co-operative monetary system .... should also consider employing gold as an international reference point" (source: Merian presentation) 

So hinting at a return to the Gold Standard (definition)

Conclusion:

So what does this mean? 

As far as I can tell, there are significant risks to almost any asset class that you care to mention right now. Nothing, not even cash in the bank, is safe. Doing nothing is not an option. 

You need your money to be somewhere. All things considered, I am looking to maintain ten percent of my liquid assets in gold now. 

I am not particularly concerned by the current price (the likes of Amazon has always been too expensive, yet still its price rises) as I am not looking to make a capital gain here. The buy low / sell high concept does not apply.

The point is diversification and capital preservation. 

Where once I was cynical, now I am something of a convert. 

Dunotter disclosures

Disclaimer: This communication is purely meant as information for general interest. It is in no way to be taken as financial advice or relied upon in any way for investment decisions.