Gold – Doing The Math

An interesting thing happened last night…  The US Fed minutes from the last meeting were fairly hawkish (pro raising rates / tightening monetary accommodation).  That would normally weigh down on gold.  Last night however the gold price increased on the news.

Maybe, just maybe, markets are starting to do the math.  All this hullabaloo, this market fixation, is about whether or not the Fed will raise rates by just 0.25%, up to just 0.75%.  Also the Fed minute language was clearly of needing to raise rates for credibility and ‘enough is enough’ rather than ‘everything is so awesome we can do it’.

A common gold thesis is that gold performs better when rates are low as people are less concerned by the lack of yield or return.  If rates go up, in theory, cash and bonds look better.  However this ignores the real rate equation arising from subtracting inflation.  That still puts us firmly into negative real interest rates even if they hiked a full 1%.  Amid all the talk of deflation, inflation is on the rise.  The game is changing.

But it is the other reason people buy gold, and we’d argue right now the MAIN reason are buying gold, that needs greater consideration and the aforementioned application of maths.  People are buying gold because they see we are getting perilously close to a financial crash.  Gold has proven time and again it is uncorrelated to financial assets.  It tends to go up when they go down.

So…  if the Fed puts rates up by 0.25% in December you may miss out on 0.25% better returns if you had your money parked in a financial asset.  That’s probably not a big deal on the value of your total worth.  0.25%, however, IS a big deal when there is over $200 trillion in global debt, or say the US government with $19.6 trillion. 0.25% is also a big deal to the nearly $300 trillion financial assets market inflated on cheap money and accommodative monetary policy. What happens when that turns to tightening?

And that last question is the key. If we have a financial crash after all this unprecedented stimulus, how big could that fall be?  Even if it were "just" 50% like the GFC that 0.25% you missed out on looks completely irrelevant. Remember if you lose 50%, you need to make 100% on that resulting wealth just to get back to even.  Meanwhile gold would likely have gained, or at least held in value.  It’s pretty simple math.

Keep in mind too it is only the US talking of tightening.  Every other country has the monetary easing foot firmly to the floor.

So what does the world’s top precious metals forecaster have to say?  From Bloomberg:

“Rising inflation and sagging confidence in the ability of central banks to revive global growth will drive up gold, according to Incrementum AG, which says bullion could climb to a record in the next two years.

‘Consumer prices are set to rise as oil rebounds, while low or negative interest rates and bond buying by central banks have failed to boost economies, said Ronald Stoeferle, managing partner at the Liechtenstein-based company, which oversees 100 million Swiss francs ($101 million). Incrementum was the top precious metals forecaster last quarter, Bloomberg-compiled data show.”