21 June 2009

The death of gold

While I have only been blogging for a short while, I have been following goldbug chatter since 1998 when I took up a position in the Depository division of the Mint. At that time it was all doom and gloom with the price in a downward trend, helped along by Gordon Brown with his auction.

This unheard of method of selling central bank gold (usually it was done on the quiet and announced later) was not endorsed by anyone and really only left two conclusions: either he was stupid or it was a conspiracy. For an example of the latter, see this 25 May 1999 posting by GATA: "A political decision was made by the British to make sure the price of gold did not rise above the key $290 gold carry trade borrowing point of the bullion dealers and to make sure that the price would tank when the first pre-gold sale announcement in more than 20 years was made."

Since that time the the gold price has risen from $250 to $1000, which implies a very unsuccessful manipulation. In some sense this is true. Consider that around 2001/02 the total amount of gold leased out was estimated between 10,000 and 16,000 ounces (see this Golden Sextant commentary) compared to approximately 30,000 oz of central bank holdings. One could conclude the increase in gold from 2002 to 2009 is proof the manipulators ran out of firepower (ie gold to lease to support short selling) over that time.

If indeed central banks have leased all they can, then one would assume that the market is finally poised at the crucial tipping point that the commentators from those early days have been waiting for, where further physical buying that is already in excess of mine and scrap supply will overwhelm supply from short sold leased gold, resulting in a parabolic rise in the gold price as the shorts are broken, scrambling to cover their positions being unable to post sufficient collateral to cover the huge rise in gold.

This is the 1980 spike revisited, but at a much higher inflation adjusted price. How high? There are as many guesses as their are commentators - $2200, $5000 or more? This is the end game that many goldbugs have been waiting for, when they can shout "we won"!

But will they have won? I would argue not. I would argue that such a scenario would actually be the death of gold.

Those who welcome a 1980s spike have lost sight of the real war. There are others who are driven by base greed. They have fallen into the trap of seeing gold as an investment. It is no such thing. It has no power to create wealth - it is an inert thing. It is only the entrepreneur and inventor who create wealth. Hawking gold as an investment is bubble behaviour, no different to the debt fueled bubbles in stocks and real estate. Such people are no friends of gold.

Gold is money. Often stated, but what does it mean? Gold is for storing wealth, not making it. I can only suggest reading Whither Gold? by Antal Fekete if you want to get what I am talking about. Those who understand this understand that the real war is gold as money versus fiat as money. The winner is the one that can demonstrate an ability to store wealth.

One may argue, how can fiat win when it has lost 95% of its value since the Federal Reserve came into power in 1913? This is too broad a sweep of time for the average person. They look only year to year, and single digit inflation looks stable to them. There is some vague understanding that money loses value, but it is not dramatic and anyway, the way to deal with this is to "invest".

To beat gold in this war, all you have to do it make it look unstable. This is why a parabolic rise in the gold price is counterproductive. It makes the average person see gold as a speculative investment, worst still, one that does not pay a dividend. Parallels to 1980 will be drawn, focusing on the bust after that bubble. This does nothing for gold's image as a stable store of wealth.

From this point of view, the theory of suppression of the gold price misses the point. To kill gold you don't manipulate its price, you manipulate its volatility. If gold looks unstable, it is unlikely that a gold standard will ever be accepted.

Therefore, at the one moment in time when people may lose faith in debt based investing as a way to beat inflation and preserve wealth, when they are looking for something else more stable, gold will fail to win them over.

I mentioned earlier about a tipping point. I would like to conclude with one last idea: one other advantage of manipulating volatility rather than price is that your firepower lasts longer. All you need to do is start a trend, or help a trend along. Herd behaviour and chartist momentum will do the rest. Bullish or bearish, it doesn't matter. As long as the price moves wildly, your ends are served. For those that believe in manipulation this thesis means we are not at a tipping point and the manipulation has many more years to run.


  1. Could you produce a graph of the gold price over the last decade in Zimbabwe dollars?

    I understand what you are saying but surely at some point the perception of volatility in gold prices must turn to a perception of volatility in value of the dollar i.e. downwards, otherwise there couldn't be runaway inflation, which there can be Zimbabwe being the most recent example.

    Where is that tipping point?

  2. and another thing, I note that 1 month gold lease rates at LBMA have been negative since March. Looking for backwardation in GOFO, when lease rates can go negative would seem to be pointless.

    Or do negative lease rates not mean that gold lenders are swapping less cash (or equivalent securities)for their gold in repurchase agreements?

    Any ideas?

  3. Good point, but I'd say that it is very hard for people to switch from seeing the world in dollars to ounces. The problem may be that they would perceive ounces are unstable and therefore opt for some other more stable fiat.

    On negative lease rates, I left a comment at http://silveraxis.com/todayinsilver/2009/06/15/smoking-guns-and-banks-that-smoke/ on this very point:

    negative lease rates may just reflect problems with LIBOR, see the article On The Uselessness Of LIBOR http://zerohedge.blogspot.com/2009/06/on-uselessness-of-libor.html

  4. Let me just say this, no one is offerring to lend us gold and pay us to do so!

  5. and one more thing, the June-July basis on COMEX gold has been zero for a week, after being negative for one day.

    Negative lease rates, backwardation on COMEX, is all this just coincidence?

  6. and does it mean anything?

  7. Backwardation needs to be sustained before anything can be read into it.

    I posted this blog on Kitco, follow the comments at https://www.kitcomm.com/showthread.php?t=44835

  8. Very good article.

    In my opinion, it is all a matter of market timing. It does not matter if it is gold, oil, or Microsoft, if you have access to good market timing signals, they will help you get in and out at a profit.

    No guarantees in this business, but if they are right most of the time, you can still make $s.

    There are may web sites providing them out there (search Google). Just find one that works and use it! Check out http://invetrics.com as an example.

    Its Dow Jones timing signals are up 43% as of 6/23/09 while the Dow is up just 29% off its March lows.

    Following a market timing system works!

  9. I wonder whether your focus on volatility is more a function of recent volatility, while the commentators of the late 90's/early 2000's were a function of the lack of volatility. As first anonymous said, the underlying volatility of your measuring stick (dollars)would need to be questioned, rather than gold. However, I take your point that joe public will probably see it the way you describe. Personally, I have my doubts that joe public's further involvement is needed, given that significant holdings are already in private hands. The Chinese and the Russians seem to be emerging as the mainstays of the market. They probably wouldn't like to see too much volatility. I guess we will have to wait and see who wins.

  10. You article misses the real purpose of investing in precious metals which involves trading the gold and silver ration. In this way one might even say tha PM's investing pays heftier bonuses than any stock I know.

    If you had only traded the gold/silver ratio back and forth over the last 12 years, your return right now (with gold @ 1220 and silver at 17.30) would be upwards of 1100%.

    Here's a brief rough-sketch example: ( my dates and numbers may be slightly off but I hope you'll get what I mean)

    Would've bought silver in Feb '03
    Would've traded the silver for gold in Jan '07
    Would've traded the gold for silver in Oct '08
    Would've traded the silver for gold in Feb 2011

    Anyone can do the math with the above dates and figure out how your ounces of metal would have grown four-fold while the prices of gold have practically tripled over that period of time even with gold at 1220 today.