Goldman Sachs on Gold v Bitcoin – Defensive v Risk-On Safe Havens
We suggest today is a MUST READ. Goldman Sach’s recent Commodities Research Group piece by Jeff Currie gives a very bullish analysis for the prospects of gold which (given it was written before this bounce) the last few days’ price action certainly reinforces. They also provide an insightful view on the gold v crypto debate which is worth considering. Lets have a look at a few key components and draw in some other inputs for balance.
As inflation fears have subsided somewhat off the Fed assuring us this is just ‘transitory’ and a growing view that the ecomomic recovery will soften in H2, we have seen gold follow those expectations down.
This aligns with the falling bond yields telling us there is trouble ahead. Raoul Pal tweeted last night, this will likely continue irrespective of inflation. Again, it’s the Fed’s trap.
That of course has set real rates firmly in the negative. However until this recent reversal, but still with a long way to go, gold has fallen well below its tight historic inverse correlation with real rates. Indeed, Goldmans think the current gold price is consistent with a real rate of +10bps, dramatically different from the -87bps that is currently priced by the market.
However this ‘goldilocks’ scenario relies on controlled inflation. Where Godmans see huge upside for gold is if inflation moves materially above expectations. If you missed yesterday’s article, we shared 13 Reasons Why inflation could do exactly that. Goldman note that current relatively low allocations of gold by portfolio managers mean it may be a “good strategic purchase here for portfolio managers looking to hedge against tail risks of macro volatility”
That gap in the chart above implies over US$2200 gold and Goldmans believe it will go there if confidence in the global recovery were reversed by either a larger than expected economic growth slowdown or the effects of new virus mutations. As we sit here today we have very clear signs of a material slowdown in China, data out of the US is showing the same coming there, and we have the Delta and now Lambda variants wreaking havoc around the world.
Combining higher inflation and the Fed’s inability to materially tighten (as Raoul points out) their model shows 40% gains for gold from here with just 4% inflation (remember the last print was 3.9%).
In their own words they summarise both scenarios and give their view on the gold v crypto debate:
“With that in mind, we view gold as a relatively cheap debasement hedge offering modest upside in our base case scenario but potential to rally significantly in the event the global recovery is hampered or inflation picks up strongly and the Fed under-reacts.
Both scenarios would likely hurt risk sentiment and incentivize a shift to more defensive assets.
In our view, this implies gold can outperform cryptocurrencies, which we view as more risk-on inflation hedges.
Overall we see crypto still far from becoming a defensive long-term store of value like gold.”
They go on to expand:
“Together with gold, cryptocurrencies came to be seen as hedges against excessive money printing by governments. Some, like Bitcoin, have fixed supply, while others, like Ether, have limited supply growth. This, together with some regulatory & infrastructure improvements, fueled a large rally in crypto at the end of last year exactly as gold began to underperform, leading to concerns that crypto is pushing out gold.
Things changed over the past three months as gold rebounded while the crypto rally came to an abrupt halt. This then led to the opposite view that flows have reversed and are coming out of crypto and back into gold.
In our view, gold is competing with crypto to the same extent it is competing with other risky assets such as equities and cyclical commodities. We view gold as a defensive inflation hedge and crypto as a risk-on inflation hedge. Indeed, looking at Bitcoin vs gold ratio, one can see that it is correlated with the performance of our strategy team’s risk sentiment indicator.”
They also share a fascinating reverse correlation of private gold demand versus fabrication and central bank demand for gold (see chart below). It’s this reverse correlation, they argue, that helps give gold its stability and defensive store of value properties.
“The major reason why crypto so far remains a speculative asset and not a defensive inflation hedge like gold is its high volatility. For gold, the volatility is smoothed due to the presence of a large non-investment demand component. In our view, development of some alternative non-investment uses would also help crypto decreases its volatility and therefore become more appealing as stores of value.”
And so they look to Ethereum (Ether) as their preferable crypto vehicle given it has that real use case that Bitcoin currently doesn’t.
“Within the crypto space, Ether currently looks like the cryptocurrency with the highest real use potential as Ethereum, the platform on which it is the native digital currency, is the most popular development platform for smart contract applications. We would therefore not be surprised if in coming years Ether, or some other cryptocurrency with more real use, overtakes Bitcoin as the dominant digital store of value.
This competition among cryptocurrencies is another risk factor that prevents them from becoming safehaven assets at this stage.”
Let’s remember this is a commodities unit of a Wall Street investment bank and seemingly not across the new unlocked possibilities with the new Bitcoin protocol update we discussed here. We’d also point out that silver arguably has more real world uses at a higher percentage of demand than gold yet is the more volatile of the two leading precious metals. But that chart above intuitively does make a lot of sense and the risk-on safe haven and defensive (risk-off) safe haven observation does appear to have considerable merit.
And so, yet again, we remind you of our tag line – Balance your wealth in an unbalanced world. That this ‘unbalanced’ economic setup is deserving, indeed demanding of a sizeable safe haven allocation in your portfolio is surely beyond question. So we have the alternatives of a stimulus fuelled risk-on scenario as has been playing out, and the move to defensive or risk-off when, or you may even argue ‘if’ that fails. That is the beauty of choice of appropriate assets and the prudence of owning both.
Ainslie of course can help you with both. Ainslie Bullion has been providing trusted bullion trading and storage services to customers for over 45 years. Ainslie Wealth does the same for crypto and takes all the ‘scariness’ out by allowing you to deal directly with a human consultant, ask all the ‘dumb questions’ (PS there aren’t any, we’re here to help), conduct high value trades ‘live’, and have us look after the storage for you in secure, fully allocated and completely ‘cold’ (unhackable) wallets. Alternatively you can walk out of either our Brisbane or Melbourne stores with your own cold Ainslie Crypto Wallet at no charge or we sell you a hardware wallet (with help to set up if needed) or simply send it to your existing address.
To finish off, the amount of negative yielding debt in the world is again on the rise and everything discussed above would indicate it is a trend that will continue. Gold has predictably followed but BTC remains caught in this complex bottom. Both, however, have a lot of catching up to do – the broader financial environment will decide which goes harder. So are you risk-on or defensive? We’d respectfully suggest you don’t really know and hence some of each is always prudent.