Hold gold: insuring your portfolio could prove lucrative

Gold has had a grim year, but the backdrop for the traditional safe haven and store of value remains auspicious. There is scope for the price to jump by 30%-40%, says Dominic Frisby

“Put 10% of your portfolio in gold and hope it doesn’t go up,” says a Wall Street adage. Never has the advice seemed more apt than during the past 12 months. Stocks have been almost unstoppable. America’s benchmark S&P 500 index is about 40% higher than it was a year ago. The UK mid-cap FTSE 250 has done almost as well. Even the FTSE 100 blue-chip index has jumped – and by nearly 1,000 points.

And yet gold, at around $1,790 an ounce, is down by 15%, and silver by more. A year ago, gold was north of $2,000/oz. Silver was testing $30/oz. Today gold is at $1,790/oz; silver, $23/oz. Find me another asset that has fallen in price with all the quantitative easing, or money printing, that is going on – there aren’t many. 

They say a rising tide lifts all boats, but gold and silver have both been bypassed in the broad commodities rally. The brutal truth is this: over the past year precious metals have been outshone by virtually every other asset in the world. 

But if you followed the wisdom of the adage, you’ve done well. Your gold was your insurance premium. Everything else went up. Better that than the other way round. That gold hasn’t been appreciating means all other sectors are doing just fine. 

You can argue that the growth is illusory – it might well prove to be – but for now markets aren’t buying it. Gold’s problem, says Charlie Morris of The Fleet Street Letter, is that “the economic recovery is going too well”. But to us gold speculators, insurance is boring. We want gold going to $2,500 and gold stocks trebling and quadrupling. Still, we should be careful what we wish for. The inflationary reality of that scenario may not be so pleasant.

An analogue asset?

Is there even any point in having gold anymore? Now we have bitcoin: digital gold in a digital age. Gold’s beauty may not have been replicated, but its scarcity has – and that is what gives it value. The digital economy is where the growth is. You don’t have to go through ten years of hell to get a mine producing. You can code an app and get it to market in months. Investors get a quicker return and so the sector attracts more capital. Gold, meanwhile, this most analogue of assets in a digital world, plods on. 

Last weekend saw the 50th anniversary of President Richard Nixon taking the US off the gold standard. It is ironic that it should occur as the US bails out of Afghanistan, another of its disastrous foreign interventions (see page 8). The US abandoned gold to finance its war in Vietnam. In August 1971 French president Pompidou sent a battleship to New York to collect its gold holdings; the British asked the US to prepare $3bn worth of Fort Knox gold for withdrawal; and President Nixon told the citizens of the United States in a televised address that the United States would no longer honour its promise to redeem dollars for gold. 

When asked about the impact this would have on foreign nations, Nixon’s answer was, “I don’t give a s**t about the lira”. Nixon floated the greenback because he did not have the gold to pay for the military infrastructure the US had built to drop four million tonnes of explosives on Southeast Asia. Like income tax, quantitative easing and masks, floating the dollar was touted as a temporary measure.

For the first time in history gold played no part in the monetary system. “What a tragedy for mankind,” said US Federal Reserve chairman Arthur Burns. He was right. Purists – of which I am one – will trace so many of the world’s problems, from spendthrift governments and their bloated states to house-price inflation and inequality, to that decision. 

Gold bugs have always maintained that a return to gold is inevitable. History shows the fiat-money systems inevitably die. An inflationary collapse is all but unavoidable. Yet here we are 50 years on and a return to gold hardly seems imminent. The only people talking about it are nutters on chat boards. The fiat-currency system may be a mess and its consequences verging on the despicable, but it is surviving and functioning.

Inflation has arrived

It’s clear that inflation is here. House prices are displaying double-digit inflation. A pint of beer that 18 months ago cost me £4 now costs me £6.50. Materials costs are through the roof. School fees are up. Wages are rising. Heck, even the Bank of England admits there is inflation. And yet gold is down.

Last week, at 11pm on Sunday night, when markets were particularly thinly traded (Japan and Singapore were on holiday), somebody dumped 100 tonnes of gold on the global market – $4bn worth. Gold miners typically sell $10bn on a given day, and during normal working hours, not when markets are at their least liquid. Some reports are that it was a margin call, others that it was somebody trying to manipulate the price lower. Who knows? But who wants to take on a market like that? 

Gold analyst Ross Norman, CEO of metalsdaily.com, argues that “all things considered gold actually fared well with such an onslaught”. Ross constantly tops the London Bullion Market Association’s annual forecasting competition, so we should heed his advice. Despite the gloom of your author, he is bullish. 

“Investors’ confidence has been shaken by the rapid take-down in gold prices, but the market is building a base. Don’t expect runaway prices; this is seasonally a weak period. But, having ground out a bottom, the path of least resistance should be higher. Some will point to burgeoning debt [or] inflationary expectations and question why it’s not much higher.”

“The reality is the market has had to absorb a steady outflow of institutional sales amounting to about 200 tonnes so far this year, coupled with weak demand from India and... China. Retail buying in the form of coins and bars is one of the few positives. I suspect [that this episode] has shaken weaker hands from the market leaving gold to perhaps now surprise to the upside, but as always, patience is required.” 

Ah, patience! Ten years ago gold was $1,920, higher than it is today. Think of all the money that’s been printed. There is pretty much no other asset, certain commodities aside, trading below where it was ten years ago. Particularly the asset you buy to hedge against money printing. 

You can cite all the arguments you like about fiat money, inflation, debt, suppressed interest rates, money printing, unsustainable spending, misleading government statistics. I agree with them all. The gold price “should” be going up. It “should” be two or three times higher. But it isn’t. 

To read the whole of this article, subscribe to MoneyWeek magazine

Subscribers can see the whole article in the digital edition available here

Recommended

Why are energy prices going up so much?
Energy

Why are energy prices going up so much?

UK energy prices are going through the roof, with electricity the most expensive in Europe and gas at its highest for 13 years. Saloni Sardana explain…
16 Sep 2021
What really causes inflation? Here’s what prices since 1970 tell us
Inflation

What really causes inflation? Here’s what prices since 1970 tell us

As UK inflation hits 3.2%, Dominic Frisby compares the cost of living 50 years ago with that of today, and explains how debt drives prices higher.
15 Sep 2021
Should you defer your pension and stay in work?
Pensions

Should you defer your pension and stay in work?

The pros and cons of deferring your pension and staying in employment beyond 66 are finely balanced.
15 Sep 2021
I wish I knew what a marginal tax rate was, but I’m too embarrassed to ask
Too embarrassed to ask

I wish I knew what a marginal tax rate was, but I’m too embarrassed to ask

Your marginal tax rate is simply the tax rate you pay on each extra pound of income you earn. Here's how that works.
14 Sep 2021

Most Popular

Should investors be worried about stagflation?
US Economy

Should investors be worried about stagflation?

The latest US employment data has raised the ugly spectre of “stagflation” – weak growth and high inflation. John Stepek looks at what’s going on and …
6 Sep 2021
Two shipping funds to buy for steady income
Investment trusts

Two shipping funds to buy for steady income

Returns from owning ships are volatile, but these two investment trusts are trying to make the sector less risky.
7 Sep 2021
How you can profit from the power of the grey pound
Share tips

How you can profit from the power of the grey pound

Higher life expectancy and surging asset prices have proved a boon for the baby-boomer generation, which has accumulated vast wealth. Younger generati…
10 Sep 2021