The Golden Chameleon

Is gold a commodity, an investment, or money?

The answer is…

Gold is a chameleon. It changes in response to the environment.

Gold is making an important change right now.

At times, gold behaves like a commodity. It tracks the ups and downs of commodity indices.

At other times, gold is viewed as a safe haven investment. It competes with stocks and bonds for investor attention.

And, on occasion, gold assumes its role as the most stable long term form of money the world has ever known.

A real chameleon changes colour based on the background on which it rests. When sitting on a dark green leaf, the chameleon appears dark green to hide from predators. When the chameleon hops from the leaf to a tree trunk, it will change from green to brown to maintain its defences.

Gold also changes its nature depending on the background.

Right now, gold is behaving more like money than a commodity or investment. It is competing with central bank fiat money for asset allocations by global investors. That’s a big deal because it shows that people around the world are starting to lose confidence in other forms of money, such as the dollar, yuan, yen, euro or pound sterling.

This is great news for those with price exposure to gold. The price of gold in many currencies is going up as confidence in those other currencies goes down. Confidence in currencies is dropping because investors are losing faith in the central banks that print them.

For the first time since 2008, it looks like central banks are losing control of the global financial system. Gold does not have a central bank. Gold always inspires confidence because it is scarce, tested by time and has no credit risk.

Its role as money is difficult for many investors to grasp. One criticism of bullion is that is has no yield. But gold has no yield because money doesn’t either. In order to get yield, you have to take risk.

Bank deposits, and so-called money market funds, have yields, but they are not money. A bank deposit is subject to default by the bank, as we saw recently in both Greece and Cyprus. A money market fund is subject to collapse of the fund itself as we saw in 2008.

Gold does not have these risks.

Lost confidence in fiat money starts slowly, rapidly building up to a crescendo. The end result is panic buying of gold and a price super-spike.

We saw this behaviour in the late 1970s. Gold moved from US$35 per ounce in August 1971 to US$800 per ounce in January 1980. That’s a 2,200% gain in less than nine years.

We may be looking at the early stages of a similar super-spike that could take gold to US$10,000 per ounce or higher. When that happens, there will be one important difference between the new super-spike and what occurred in 1980.

Back then, you could buy gold at US$100, US$200, or US$500 per ounce and enjoy the ride. In the new super-spike, you may not be able to get any gold at all. You’ll be watching the price go up on TV, but unable to buy any for yourself.

Gold could be in such short supply that only the central banks, giant hedge funds, and billionaires will be able to get their hands on any. The mint, and your local dealer, will put up ‘sold out’ signs. That physical scarcity will make the price super-spike even more extreme than in 1980.

The time to buy gold is now; before prices spike and supplies dry up.

At Currency Wars Trader, I use my proprietary IMPACT system to spot indications and warnings of future market activity.

What indications and warnings do we see that gold is now behaving like money?

For one thing, gold price action has diverged from the price action of other commodities. This divergence first appeared in late 2014, but has become more pronounced in recent months.

Gold observers know that bullion, measured in dollars, is down significantly from its all-time high in 2011. COMEX gold peaked at US$1,876 per ounce on 2 September, 2011.

And, on 27 November last year, it traded as low as US$1,056 per ounce. That’s a 44% decline in just over four years. Yet, over the same time period, broad-based commodities indices fell even more. One major commodities index fell 53%.

The contrast between the behaviour of gold and commodities is even more extreme when we narrow the time period. Between 20 June 2014 and 15 January 2016, the broad-based commodity index fell 63%, while gold slumped only 17% by comparison. The recent collapse in commodity prices was almost four times greater than the decline in gold prices.

From mid-January to mid-February of this year, gold has rallied 14% while other commodities still languish at near five-year lows.

Source: StockChartsClick to enlarge

Right now, investors around the world are losing confidence in the Chinese yuan, Saudi riyal, South African rand, and Russian rouble; among a long list of other emerging market currencies. Investor preferences are shifting toward dollars and gold. This accounts for gold’s outperformance against the rest of the commodity complex when measured in dollars.

What is interesting is that, when the price of gold is not measured in dollars — but in roubles, yuan or riyals — the percentage price increase in gold is even more impressive, because those currencies have all declined lately against the dollar.

When you understand that gold is money, and competes with other forms of money in a jumble of cross-rates with no anchor, you’ll know why the monetary system is wobbly.

It’s important to remove your US dollar blinkers to see that the greenback is just one form of money. And not necessarily the best choice for all investors in every circumstance. Gold is a strong competitor in a horse race featuring various forms of money.

In Strategic Intelligence, the Australian-focussed publication I collaborate with Shae Russell on, we normally recommend a 10% allocation of investible assets to physical gold for your permanent portfolio. But, when short term trading opportunities arise, certain gold derivatives, such as exchange traded funds (ETFs), are a great way to get US dollar price exposure to gold; and to potentially book 100% profits or more.

This chameleon has changed colour recently, taking on a distinctly ‘golden’ hue.

This chameleon has changed colour recently. And the new colour is gold.

All the best,

Jim Rickards,

Strategist, Strategic Intelligence

From the Port Phillip Publishing Library

Special Report: The biggest stock gains can come from the least likely places. While the ASX fell 9% in the 12 months to November 2015, one tiny, hated mining stock soared 1,200%. What seemed like an ugly, bad investment quickly transformed every $5,000 worth of shares into $65,000. This is the power of ‘10-bagger’ companies. Where will the next one come from? Read Greg Canavan’s special Crisis & Opportunity presentation to find out…(more)

James G. Rickards is the editor of Strategic Intelligence, the newest newsletter from Fat Tail Investment Research. He is an American lawyer, economist, and investment banker with 35 years of experience working in capital markets on Wall Street. He is the author of The New York Times bestsellers Currency Wars and The Death of Money. Jim also serves as Chief Economist for West Shore Group.

Money Morning Australia