Why the fundamental rationale for holding gold is as robust as ever

Guest post by SovereignMan.com

[Editor’s note: Tim Price, Director of Investment at PFP Wealth Management in the UK and frequent Sovereign Man contributor, is filling in for Simon this morning.]

As Ben Graham, the father of value investing, observed, an investment operation “is one which, upon thorough analysis, promises safety of principal and an adequate return. Operations not meeting these requirements are speculative.”

Challenged to distil the secret of sound investing into just three words, he advocated: “Margin of safety”. Unfortunately for all investors today, the margin of safety has all but disappeared.

To appreciate just how far away we are from normality or any remotely normal “margin of safety”, consider the chart below:

Click to view:


Chart 1 US 300x169 Why the fundamental rationale for holding gold is as robust as ever

10-year US Treasury yields are at their lowest levels in more than two centuries. Even stranger is that these low yields exist when the US has never been deeper in debt (nearly $17 trillion for the on-balance sheet liabilities) and thus when the supply of Treasuries has never been as large.

 

Have the laws of supply and demand been repealed ?

If the US bond market is in a bizarre bubble, it is hardly alone. Consider the even longer data series below, a favourite of MoneyWeek’s Merryn Somerset-Webb, via Church House Investment Management.

Click to view:


Chart 2 UK 300x144 Why the fundamental rationale for holding gold is as robust as ever

In the more than three centuries’ history of the Bank of England, the base rate has
never been this low.

 

Right now, these western government bond yields are so low because western governments and their central banks are rigging the market in their own debt.

Governments issue debt, only to have their central banks buy it right back. This creates liquidity for commercial banks that can put that money to more productive use– like artificially inflating their stock markets.

Because market manipulation is normally illegal, the monetary authorities have coined a phrase to give their market rigging an air of technical sophistication: quantitative easing, or QE.

Look back at that chart of US Treasury yields. From the austerity post-war years through the go-go years of the 1960s and the stagflationary disaster of the 1970s, T-bond yields rose from roughly 2% to a grotesque 16% in the early 1980s.

But we are now back to 1945 era yields. Do we think the future outlook is for higher yields, or lower ones ? What does the chart suggest ?

This is a nightmarish environment to be practising Ben Graham-style value investing – because the margin of safety has been destroyed by central bank market manipulation.

Western government bond yields are widely held as the ‘risk free rate’ against which other investments can be assessed. Now there is no longer a risk free rate, only the yield available on hopelessly rigged government bonds.

The manipulation of bond markets has inevitable effects upon stock market valuations too; everything is relative. Cash as a meaningful investment choice has also been destroyed by central bank action (see, again, that chart of the UK base rate).

This means that we – and in turn our clients – are forced to take more risk than we would prefer even if our intention is simply to keep our heads above water.

Investors are now obsessed about the prospect of the Fed “tapering” down its bond
purchase programme.

Having painted itself into such a corner, having become the prime mover behind both bond and equity market momentum, the Fed may never be in a position to taper anything.

Nevertheless, this is the hand we’ve been dealt and which we must play. We think there is now a significant risk that QE ends (whenever it does end) in a currency crisis.

Since central banks can barely afford to let market interest rates rise any time soon, they will keep the printing presses rolling instead– and most fiat currencies will be printed toward destruction.

So the fundamental rationale for holding gold is as robust as ever in this hopelessly distorted world. But as Pimco’s Mohamed El-Erian now asks, are the markets now beginning to lose confidence in central bankers ? We certainly have.

Courtesy of Sovereign Man.

Glenn Greenwald Destroys Bill Maher on Foreign Policy, Interventionism

I don’t think Mr. Greenwald will be a panel member on Real Time again any time soon. But if Maher ever does have Glenn on his show again, I’ll give him some credit. Because Bill capitulated. He crumpled under Greenwald’s arguments on key foreign policy issues (esp @ 8:90, watch til the end), and essentially said “I’m bored with this, we’re moving on.”

Greenwald starts around 1:20, but watch from the beginning if you want the full background (starts w/ Benghazi attack).

And my own New Rule, which Bill should apply to himself:

Scumbag-Bill-Maher-Greenwald

Libertarians & Bitcoins

Today bitcoins surged to at a fresh all-time high of $110 $127. A ridiculous move up since the Cyprus event, when the price was sub-$46.

In the clip below Tom Woods talks with Bitinstant founder Voorhees about the virtual currency, and why libertarians — along with governments — are taking interest. Highly recommended.

End The Fed, Hoard Bitcoins

By Pierre of the Mises Circle

 

The libertarian strategy for undermining fiat currencies has always centered on making gold and silver viable alternatives. This effort has failed because it is impossible to compete against a digital currency, like the dollar, with a physical commodity due to the high transaction costs associated with the latter. The only way metals can succeed is if fiat fails. While it may be the case that fiat currencies inevitably collapse over the long run, waiting for this possibility is unacceptable given the amount of damage that central banks are inflicting on humanity’s accumulation of capital.

The beltarian / Tea Party mantra of passing an Audit the Fed bill, miring it in scandal, and “legalizing currency competition” ignores public choice economics as well as the fact that digital fiat currencies have already won the competition against metals and would win it again. We don’t need another political solution to an economic problem, what we need is a more competitive market currency. Enter Bitcoin.

Low transaction costs make Bitcoin the most competitive medium of exchange in humanity’s history, and it may be the case that a currency with even lower transaction costs is theoretically impossible. To learn more about bitcoins I would recommend our excellent Bitcoin Reader.

Bitcoin is slowly supplanting metallic and fiat mediums of exchange. It is currently transitioning from the “Innovators” to “Early Adopters” phase:

This transition is accelerated by new intermediaries, like Coinbase, that are driving down the cost of selling fiat money for bitcoins. At the same time as demand is increasing, bitcoin inflation slowed considerably due to the block reward halving:

The dollar value of all bitcoins in existence now exceeds $300 million:

This leads us to an interesting question: is the value of bitcoins a speculative bubble?

The price of fiat currencies (and the debts denominated in fiat) is the bubble that will burst; the relevant question is when the purchasing power of bitcoins will peak. The appreciation of bitcoins relative to consumer goods will slow down when the adoption rate tapers off and hoarders will use their gains to buy consumer goods. Simultaneously, fiat currencies will be in a hyperinflationary tail-spin and real interest rates will be spiking. High real interest rates will incentivize hoarders of bitcoin to buy productive investment assets and lend to borrowers now unencumbered by fiat-denominated debts. At that point bitcoin’s purchasing power for capital goods (i.e. interest rates) will decline, but the purchasing power for consumer goods will continue to drift higher due to productivity-fueled deflation.

If you’re interested in getting rid of central banking I would recommend hoarding bitcoins by transferring your dollars to coinbase.com (1% fee) and  sending the bitcoins you buy to a secure computer. This hoarding sets off a virtuous feedback loop that accelerates Bitcoin adoption:

(Flow chart based on Zangelbert Bingledack’s post.)

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