Wednesday, May 6, 2009

The Lonely Gold Bug

Holders of physical Gold in the United States are a lonely bunch. What percentage of the population in this country do you think holds actual physical Gold relative to the number of people who own stocks, bonds and CDs? We collectively worship Warren Buffett and shun the asset that pays no dividend and has no growth prospects.

This is all starting to change in a big way. The turn has been slow and subtle, but it is starting to pick up steam. The next leg down in the bear market for general stocks, which will start any day now, should really start to turn people towards Gold. As the bank failures start to accelerate and the woeful underfunding of the FDIC becomes clear, people who take their money out of the market won’t all trust banks to keep their money safe.

Since the yield on cash is laughably low and set to decline again, the arguments for not holding Gold are all starting to drop like dominoes. Growth is dead for now and any yield left in the private sector means little when your principal on corporate bonds can get wiped out overnight by some harebrained government scheme/decree. Many will run to their nanny state to protect them with government bonds, but others are getting worried about the astronomical debt load our country has now pledged to carry.

The role of Gold as money and a store of value will help fuel the next leg of the secular Gold bull market. Yes, we are “printing” money like crazy, but deflationary forces are still quite powerful right now and inflation is unlikely to be a problem in the U.S. until the greatest real estate market crash of the last 100 years starts to slow down. We are not close to this point yet - housing doesn’t have a snowball’s chance in hell of bottoming before 2011 and a housing crash is a highly deflationary event.

So we are left with Gold in the setting of a deflationary banking and credit crisis due to a real estate crash. But doesn’t Gold do poorly during deflation? And aren’t Gold bugs always looking for hyperinflation? We are actually finding out in real time how Gold does during a deflationary implosion, as it is happening right in front of our eyes. So far, so good.

As trust in banks and the government breaks down, not everyone will turn to the pieces of paper that currently function as money right now. Paper dollars are created in the United States by a private, for-profit corporation that is run in total secrecy with no oversight and every paper dollar created is born as a debt. Now that the federal reserve is “monetizing” our debt, this means that dollars requested by our government obligate the next generation to pay interest directly to the federal reserve. More and more people are starting to realize this for the scam it is.

While a deflationary crash may not make Gold bugs rich in nominal terms, it will make them relatively rich if Gold reverts to its function as money. You see if stocks go down 80%, real estate falls by 50-75%, and corporate bonds default, those in cash (such as Gold) who avoid these losses are actually becoming rich! While fiat paper money (i.e. the U.S. Dollar) can also function in this role, it provides no hedge against a currency crisis, which is no longer a trivial risk. To blow out a deflationary collapse, our government and their private, for-profit central bank corporation would have to become much more reckless than they have been to date. However, a geopolitical event could easily dethrone the U.S. Dollar as the reserve currency of the world and this would rapidly devalue the Dollar. Holders of U.S. cash therefore do not have the built-in insurance policy that Gold provides.

That insurance policy Gold provides is growing more valuable by the day. In the meantime, Gold holders are rapidly accumulating wealth by not losing what they have. Patience, Gold bugs. You’re in the only sustainable bull market out there, so sit tight and be right. If Gold “only” goes to $1500/ounce but the Dow Jones Industrial Average goes down to 2,000, will you really be sorry that you bought physical Gold and kept that money out of the stock market? I won’t.

And please don’t accept paper substitutes for physical Gold. This defeats the purpose of owning Gold in times like these. Does it make people feel secure to know that JP Morgan and Goldman Sachs are a few of the custodians behind the GLD ETF?

The lonely Gold bug is about to be the toast of the financial world. Soon, holding Gold will be all the rage and everyone will be telling stories of how they bought physical Gold when it was only $250, $600 or $1000 an ounce. Sadly, this is about the time I will be quietly leaving the party and selling my Gold to the new and frenzied retail investors that just don’t get it. You see, investing in a bull market is supposed to be lonely until the very end. Once everyone’s on board, the bull market will be just about over.

Maybe being lonely ain’t so bad after all when it comes to investing...

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