A lot of finance commentators have poked fun at those who own Gold (aka 'Gold Bugs') over the years, likening them to members of a cult or religious group.
One amusing aspect of all this Gold hating is that (when aggregated) much of it ironically resembles the same culture they are criticising. It has the same comradery, the same obsessiveness and the same unwavering faith (just in the opposite of what Gold stands for: fiat currencies, sensible government or other financial assets, with no allocation to those which are tangible).
Many Gold haters spend a great deal of time trying to convince anyone who will listen not to own Gold. They ridicule those who do own it and usually make no differentiation between those who allocate a small or large portion of their portfolio to Gold. They try and mold any argument for or against Gold to their own nonobjective viewpoint while claiming to be "asset agnostic" as if their view doesn't suffer from the same subjectivity as the rest of us.
Here are some recent examples of Gold hating from one of their favourite pulpits (Twitter).
Cullen Roche (speaks for itself):
Joe Weisenthal (retweeted this link to an August 6th article on the Gold crash costing Russia and China $5.4 Billion, when the price had already rebounded to around the pre-crash level.):
John Aziz (suggesting a price drop in Gold should result in investors who own the metal "rethinking the world", does that mean those who don't own Gold should have been rethinking the world when it was at US$1900?):
Stephen Koukoulas (whose Gold commentary over the years has lacked sense, see here and here):
Barry Ritholtz, is another prolific Gold hater who I've written about recently (here and here).
A lot of the Gold hating is less obvious than this (i.e. snarky tweets on Gold, that most would brush off as attempted humour, but a pattern can be identified when watching over time), but evidence of it exists across the feeds of many Twitter finance 'elites'. It also flooded the mainstream media over July and early August (marking a significant bottom?) until the price started to rise again.
I agree Gold is like a religion to some owners (but not all of them as the Gold haters would have you believe), but even though that's the case, wouldn't it be rational
for investors (who recognise this fanatical group of Gold owners and buyers) to hold a position in the metal knowing of this devout participation in the market? Wouldn't it also be rational to own Gold knowing there are billions of people living in a society with deep cultural ties (many based around religion) to
the metal and who are likely to be the same people whose wealth is set to increase the most
over coming decades?
For
me owning Gold is more of an atheistic position (for the most part, among other reasons). Disbelief (or lack of faith) in governments being capable of navigating the excessive debt that's built up in the financial system today to a growth model moving forward without a significant reset, mass default, global crash to restore some resemblance of sustainability. I think Gold will be one of few assets to benefit from such an event or environment so a healthy allocation is warranted.
His comments included claims that Gold was a dud investment, expensive to hold, no different to every other commodity and that it was in a bubble, soon to deflate to less than $1000. I countered these claims in my post and sought further clarification on his bubble and sub $1000 call via Twitter to which he replied an article would be on the way.
Yesterday in Business Spectator he wrote an article on Gold which outlines his views on the metal (would recommend a read through in original form before I cherry pick pieces below):
While I agree with some of his comments, I disagree with most. From the way he writes about Gold, referring to it as useless and a novelty in the first few lines, this talks to the shallow level of analysis the metal is going to get from his article. It reminds me of a quote from Bob Dylan "Don't criticize what you can't understand".
After calling Gold useless in the opening paragraph and openly admitting that he finds it difficult to comprehend why people consider it a viable asset class he writes:
To be sure, gold was first seen as a valuable metal a few thousand years ago when it was used to make coins and thus it became a medium of exchange. This trend has continued to this day where some coins are made from gold although very few of them are in circulation anywhere in the world. In other words, its value is as a novelty, not a medium of exchange.
I agree that Gold is no longer a medium of exchange (for the majority). However, the functions of money are as a medium of exchange, a unit of account and a store of value. While Gold has lost it's place as a medium of exchange, once depegged from Gold (it's link to something of intrinsic value) and after a substantial increase in monetary base, the US Dollar (and other fiat currencies) have lost their place as a store of value (over the long term).
Gold may fluctuate in price wildly at times, but when measured over the long term we can see that Gold tends to retain a similar amount of purchasing power. Of course there is the overused "fine suit" example:
"With an ounce of gold a man could buy a fine suit of clothes in the time of Shakespeare, in that of Beethoven and Jefferson, in the Depression of the 1930s." Forbes
But one of the better examples I have encountered was the Australian weekly wage measured in Gold (see my post here) which shows it oscillating from overvalued to undervalued, but staying within a reasonably tight range (over 100 years and perhaps longer).
This divide we've seen in money where fiat currencies are no longer a store of value and where the ultimate store of value (Gold) no longer plays a role as a medium of exchange lends quite nicely to the theory that we might one day have a more officially recognised dual monetary system such as Freegold where the two functions are split (fiat currencies are used transactionally and Gold used as a store of value by the people and it's flow between nations to settle balance of trade).
If Koukoulas thinks Gold only has value as a novelty, I would love to hear some more serious thoughts on why he thinks that some of the most powerful nations on earth keep a majority of their foreign reserves in the metal (for example United States and Germany who both hold greater than 70% in Gold)? Perhaps he can explain why China, world's largest Gold producer, is not only hoarding their mined Gold, but are also a net importer? Perhaps he can explain why Russia has been aggressively adding Gold reserves over the past 5 years?
Koukoulas continues:
The price of gold is underpinned because it is reasonably scarce or rather, it is currently difficult and therefore expensive to mine. The price is also supported by the demand from people who want to buy it and lock it up in a vault or an exchange traded fund, hide it in their undies drawer or bury it in a biscuit tin in the back yard. It serves no purpose in this form.
To suggest hoarded Gold doesn't serve purpose (because it sits unused) is like saying building and contents insurance for your home serves no purpose. It serves purpose, you just hope you never have to use it in a practical fashion. The person burying their tin in the backyard probably holds it as last resort insurance. It's probably a stretch to consider needing something like this in Australia, but in less stable countries, hidden & portable wealth which could be dug out of the ground or drawer and relocated easily obviously could have purpose.
Gold serves purpose in different ways depending on who owns it and in what form:
"If
we could get everyone in the West to vote in this poll, I think "gold
is an investment" would win in a landslide. If we could get everyone in
the precious metals blogosphere to vote, then "gold is money" would
probably win. So, to most Westerners, gold is an investment. To the gold
bugs and HMS crowd, gold is money. And to the bullion banks, gold is a
currency (ISO code XAU) upon which credit is issued and traded. So what
did A/FOA mean by the statement that gold is wealth, not any of these
other things? I mean, surely gold is whatever its users think it is,
subjective use value and all, right?
Actually, that's exactly right! Gold is whatever its users think it is.
And the point A/FOA was driving at was that the vast majority of the
above-ground gold, today somewhere around 165,000 tonnes, is held by
people who understand it as wealth."FOFOA
Koukoulas continues:
The
massively inflated price for gold is a reflection of it being
fashionable on the one hand, which seems legitimate, but in recent years
there has been the ongoing perception that it is a store of wealth and
while enough suckers believe this, its price is likely to stay high.
Koukoulas
talks about Gold's role as a store of wealth and says it's a recent
development, but in his earlier paragraphs has already talked about the
many thousands of years that Gold has played a role as money... so which
is it?
Dropping labels such as "suckers" to those who hold some Gold in their portfolio is just childish. I guess all the Central Banks and prominent billionaires who've bought Gold are all suckers.
Koukoulas continues:
As with any item, the price of gold is determined by demand and supply. It is just another commodity and to that extent, it is little different from soya beans, tin or other commodities.
Gold acts more like a currency than a commodity (and it's attributes such as high stock to flow support this likeness, even if it's not used regularly as a medium of exchange).
Koukoulas continues:
One issue the gold bugs rarely if ever deal with is what happens to its underpinning, hedge against inflation or store of wealth if there is a massive discovery of cheap and easy to mine gold?
Even if such a discovery were made it would take years before the resource was properly defined through extensive sampling and drilling programs, following which it would take years and many resources (energy, labour, money) to build the infrastructure required to dig it out of the ground. Let's fantasize a massive discovery which once developed manages to double annual Gold production within 5 years. New Gold mine production is but only a small addition to the Gold market each year so even a doubling to around 5000 tonnes mined per year is only adding around an additional 3% to the existing 170,000 tonne stockpile which already exists. Compare that to Japan who has recently announced they will be doubling their currency supply within the next couple of years... should our investment actions be swayed by the highly unlikely or from the events that are taking place now?
Koukoulas gets downright silly when he writes:
It is hard to say how much the price would fall if the US Fed sold even half of its 8,133 tonnes of gold, or if the Bundesbank in Germany sold half of its 3,391 tonnes of gold holdings. It would be a bursting a bubble that would make the Nasdaq tech-bubble crash look like a picnic.
Sure, if the Fed or Bundesbank dumped half of their Gold onto the market (or even threatened to) it would likely result massive downward pressure on price, but equally if China decided to dump half a trillion worth of US Treasuries onto the market it would probably be the end of the USD unless the Fed was able to step in and buy the lot and many more being sold in the resulting panic... such fantasy scenarios are best left to ones imagination than written in an article we are supposed to take seriously.
Koukoulas would do himself a favour by trying to understand why those Central Banks still hold their Gold and why Central Banks have turned into net buyers from sellers over the past couple of years:
Click Chart To Enlarge - Central Banks Buying Gold, Just For The Novelty?
Late in the article Koukoulas does make a case for holding physical (although probably without realising he's done so):
Making the gold price issue all the more complex, is that much of the turnover in gold is on paper – its traded in a futures market where the turnover is many multiples of all the gold ever mined. Its price can be influenced and distorted by derivative traders and punters and has nothing to do with its true value.
Does that sound familiar with other derivatives blowing up from time to time?
Mentioned is the futures market, which not only turns over huge volume, but operates in a similar way to the fractional reserve banking system. The COMEX doesn't have enough physical in the warehouse to cover a situation where all open longs sought delivery. The below are comments from Kyle Bass in 2011: "And then we went and looked at the COMEX. The COMEX at the time they had about $80 billion in open interest between futures and futures options. In the warehouse they had $2.7 billion of deliverables. So $80 billion in open interest — $2.7 billion in deliverables. We're gonna own it a long time. You're on the board, as a fiduciary, what do you do? That's an easy one. You go get it. So you go take a billion of $2.7 billion and you let them worry about the rest." "When I talked to the head of deliveries at COMEX NYMEX, I was like, 'What if 4% of the people want deliveries?' He said, 'Oh Kyle, that never happens. We rarely ever get a 1% delivery.' And I asked, 'Well what if it does happen?' And he said, 'Price will solve everything' and I said, 'Thanks, give me the gold.'"
If we were ever to see the paper or derivatives Gold market "blow up" as Koukoulas speculates, it would be beneficial for the physical price of Gold as everyone scrambled out of their "paper Gold" and into the real stuff. Perhaps unbeknown to Koukoulas, such an event is the wet dream of many Goldbugs.
Koukoulas finishes on this note:
If you want to buy gold and hold it – go for it!
I would say the same for those wanting to buy soya beans, pork bellies, iron ore, wine or fine art. Good luck to you – I hope you make lots of money. But for me, I’ll be sticking to something that has a stronger underpinning and is an important part of the real economy.
While I concentrate on Gold and Silver mostly in a speculative fashion on this blog, the investor with a diversified portfolio should perhaps only hold a maximum of 5-10% in the metals. The more adventurous might consider a 25% position in Gold as part of a Permanent Portfolio or similar. It's not necessarily about making lots of money, but ensuring that you have exposure to an asset class which plays an important role in various types of portfolios.
The other night on Twitter we agreed to a little wager, with Gold at roughly $1500 (now more than $100 lower!), if the price drops to US$999.99 (before reaching $2000.01) then I will send him a bottle of Mount Mary Cabernet or alternatively if it reaches $2000.01 before US$999.99, then he will owe me 3 ounces of Silver. No need for headline grabbing $100m bets or dropping of pants, just a gentleman's agreement which will be kept (as all my bets are). While there is the possibility that Gold could drop to US$1000 (briefly) and remain in a secular bull market (the price of Gold halved in the middle of the 1970s decade) it would certainly challenge my belief that it remains so. Perhaps Gold above $2000 will challenge Mr Koukoulas' view that Gold is just a useless lump of metal with only novelty purposes (but probably not).
For those not familiar with Stephen Koukoulas he is an economist who has (in the past) worked as an economic advisor to the Prime Minister (of Australia) as well as Chief Economist for two major banks and currently runs his own advisement firm Market Economics. I believe he also makes regular appearances on business news and mainstream media channels. He is quite active on Twitter as @TheKouk. His articles promote/support a Keynesian approach to resolving the crisis we face today and he has been quite vocal (negatively) on Gold over the last half of this year. Here are some tweets on the subject:
Summary: Gold has zero yield and is expensive to hold.
Summary: Gold as a security asset is the equivalent of a can of beans.
Summary: Gold is a dud investment in AUD terms taking into account yield and cost to hold.
Summary: Republicans are freaks (or perhaps just those advocating a Gold standard?). Gold standard is equivalent of burning witches. A soya bean standard would be better. Gold is like every other commodity.
Summary: Gold has no fundamental basis as a store of wealth.
Summary: Moving to a Gold standard will not solve any fundamental problems.
Summary: Gold a bubble. Iron ore rises 60% in a couple of months and no mention of bubble.
Summary: Gold is in a bubble because it's sold out of vending machines.
So let's take a look at these sound bites one by one.
Gold has zero yield and is expensive to hold.
Well from a personal investment perspective Koukoulas is correct, Gold doesn't pay a yield if you buy and hold the physical metal. At least not in Australia. Up until recently those depositing Gold with banks in Vietnam were paid interest, however that has recently changed. Central Banks and institutional Gold owners may be able to lease their holdings for a small return (Gold Lease Rate). Last financial year the RBA returned approximately $200k from leasing Gold, however they don't advise the cost to store it with Bank of England (99.9% of Australia's Gold stored with the Bank of England is a story I broke a week ago).
As for expensive to hold... that is debatable as it depends on whether you want to hold and store the metal yourself and cost may vary depending on scale and investment size. Someone with only a small amount of Gold may feel comfortable holding it at their home and it may be covered under their contents insurance (e.g. CGU covers cash & bullion up to $1500). Assuming we are talking a larger (investment sized) amount, safety deposit boxes with local banks can be rented for various prices, some for as little as $15-20 per month could store half a million in Gold bars quite easily (+ insurance on top if you want). Alternatively various storage options are available with bullion dealers these days at low cost, for example Bullion Money's basic allocated storage is $11 per ounce per year, this works out to around 0.7% holding cost per year with Gold at AUD$1600. It's not a lot to spend for peace of mind. Last I checked my superannuation account was hitting my pocket for more than this in fees when they don't even manage my allocations (most invested in direct equities). So if Koukoulas thinks that Gold is "expensive to hold", perhaps he can clarify, in comparison to what?
Gold as a security asset is the equivalent of a can of beans.
When Chris Becker (The Prince from Macro Business) suggested Gold was a security asset, Koukoulas said so is a can of beans which has doubled in price over the last 10 years. He then suggests that you could eat them if the price goes down. I think Koukoulas misunderstood what Becker meant by a security asset, in a past post this was the explanation provided: I treat physical gold as a “Type Zero” security asset, a small insurance hedge against financial instability – a “Minsky Metal”. Do beans rise in value during periods of financial instability? Probably only in the case we saw a complete melt down of the financial system, resulting in a breakdown of society. For the record Becker's treatment of Gold is not for everyone. As recently pointed out by FOFOA, Gold plays many roles depending on how it's used by those buying it:
If we could get everyone in the West to vote in this poll, I think "gold is an investment" would win in a landslide. If we could get everyone in the precious metals blogosphere to vote, then "gold is money" would probably win. So, to most Westerners, gold is an investment. To the gold bugs and HMS crowd, gold is money. And to the bullion banks, gold is a currency (ISO code XAU) upon which credit is issued and traded. So what did A/FOA mean by the statement that gold is wealth, not any of these other things? I mean, surely gold is whatever its users think it is, subjective use value and all, right?
Actually, that's exactly right! Gold is whatever its users think it is. And the point A/FOA was driving at was that the vast majority of the above-ground gold, today somewhere around 165,000 tonnes, is held by people who understand it as wealth. FOFOA
Not all buyers/holders of Gold are holding it as the end of world apocalypse ticket that Koukoulas seems to imply in his comments.
Gold is a dud investment in AUD terms taking into account yield and cost to hold.
Hmmm... Gold priced in AUD is a dud investment? Over what time frame?
Over 3, 5 or 10 year periods Gold has performed exceptionally well, priced in Australian Dollars and basically any other currency. Granted it has performed better in USD and some other currencies than in the AUD, but a 10.9% annual return over 10 years is nothing to sneeze at. Even if we threw in a cost to hold at 0.7% (tax deductible) it's still a great return and comes with taxation advantages that put it ahead of cash (50% CGT discount if held longer than 12 months). Koukoulas, please explain?
Republicans are freaks (or perhaps just those advocating a Gold standard?). Gold standard is equivalent of burning witches. A soya bean standard would be better. Gold is like every other commodity.
Koukoulas likes to complain when others use labels or names, but he seems to do it quite regularly with the Gold crowd (and for other "fringe" groups such as the Tea Party movement), calling them "freaks" and "loonies".
I'm not sure what he meant by equivalent to burning witches, but I assume he simply meant that it was an outdated practice with no relevance in today's modern society. Those advocating a return to sound money are generally just looking for monetary policy which is based on a stable and sustainable foundation. Gold is not a perfect solution, but if it had continued post 1971 it's likely to have restricted governments from running massive budgets deficits, which has (several decades later) resulted in many countries with unsustainable debt to GDP levels. It's scary that suggesting we return to sound monetary policy today is compared by Keynesian economists such as Koukoulas to burning witches, rather they would prefer to have the same men and policies that got us into this mess try and get us out.
Gold is like every other commodity? I think not. It's Golds unique properties which have seen it used as money or a store of value for thousands of years, it's durable, divisible, consistent, convenient, and has value in and of itself.
Apart from it's physical attributes Gold is very different from commodities in another way... most mined and refined Gold in history is still in an easily retrieved form, where other commodities are generally consumed and above ground supply remains minimal (or where there is ample above ground supply it suppresses the price):
Of course there are other difference as well, but this post is starting to turn from long post into thesis in size. Bottom line is that suggesting Gold is the same as other commodities is showing ignorance of facts and history.
Gold has no fundamental basis as a store of wealth.
Gold has been used for thousands of years as a store of wealth. Many of Gold's unique physical qualities make it the perfect store of wealth/value (see YouTube clip posted in the last section). Individuals, institutions and banks have used it as such throughout history. If not being used as a store of value (in the form of reserves) to protect from currency debasement, perhaps Koukoulas could explain why there are many central banks adding to their positions today? The below from Wikipedia:
A gold reserve is the gold held by a central bank or nation intended as a store of value and as a guarantee to redeem promises to pay depositors, note holders (e.g., paper money), or trading peers, or to secure a currency.
Perhaps Koukoulas could provide an example of ANY other asset which transcends both time and geographical location as a store of value in the same way that Gold has and does?
Moving to a Gold standard will not solve any fundamental problems.
As pointed out by @ShervinD (and discussed above), it would have made it difficult for governments to issue excessive amounts of bonds had we remained on a Gold standard. A return to a Gold standard today by the United States would probably not be feasible, but a change to the monetary system whereby Gold was used as a point of reference (such as discussed in my recent post on Freegold) or to restrict the amount of fiat issued globally would solve many fundamental problems. Koukoulas appears to believe that infinite money in a world restricted by finite resources isn't a fundamental problem worth solving...
Gold a bubble. Iron ore rises 60% in a couple of months and no mention of bubble.
I found it amusing that Koukoulas referred to Gold as a bubble and in the next breath was talking about another commodity which has risen much higher than Gold (in percentage terms) over the past decade (as well as a 60% spike in recent months), that is iron ore:
As an asset with no yield it becomes difficult to substantiate whether Gold is over, under or fairly valued at any one point in time (in hindsight one can draw a conclusion from what the price has done, e.g. Gold in 1980 was clearly a bubble, which was made obvious after the peak when it collapsed roughly 50% in 3 months).
One of the valuation methods I have used on this blog is comparing it in a ratio with other assets, such as to oil, houses or stocks. Another interesting measurement is to compare an ounce of Gold with Australia's weekly wage, which results in a ratio today around middle of the road. Other methods of identifying whether Gold is in a bubble is to compare the value of Gold assets as a percentage of all financial assets to previous peaks, this chart only shows to 2009, so the percentage would be higher today, but still well below any previous peaks:
In the tweet that Koukoulas said Gold was in a bubble, he also said that it would deflate to less than $1000. I hope for Australia's sake that it does not as cash costs for many Australian Gold producers are not much lower, it would put a lot of marginal producers out of business:
Mr Holland said industry cash costs in Australia were about $US800 to $US850 an ounce, which was 20 per cent to 25 per cent higher than the average across the global gold industry.
"It is probably also one of the reasons you've seen gold production go down 30 or 40 per cent. Australia used to produce 450 tonnes a year; it's now down to 300." The Australian
And Gold is an important export for Australia:
Australia’s major export – iron ore (22% share) – and third biggest export – gold (7% share) – rose by $882 million and $158 million respectively, whereas Australia’s second and fourth biggest exports – coal (15% share) and gas (5% share) – fell by -$300 million and -$29 million respectively over the month (see below chart). Macro Business
I followed up asking for the reasons that Koukoulas thought Gold was in a bubble to which I had the response...
Gold is in a bubble because it's sold out of vending machines.
Anecdotal increases in Gold's visibility to the public can point toward a bubble like mentality, but is the Gold vending machine really anything more than a convenient (albeit expensive) way to buy Gold? By the same logic should we make the presumption that stocks are in a bubble because I can buy them via an App on my mobile phone? Or cash is in a bubble because I can draw it out of an automatic teller machine in a similar way to drawing Gold out of a vending machine?
This is certainly a point of view I didn't understand and when I questioned Koukoulas for some substance to his comments that Gold was a bubble he responded that he would "Get back to me". Granted it's the holiday season, so I'm not expecting a response tomorrow, but a post or article from Koukoulas on why Gold is a bubble and perhaps to clear up some of the ambiguity around his other comments (if he feels he has been taken out of context) above would make for some interesting reading...
------------------------------
It's concerning to see that popular economists who have led our banks and country still have such a poor understanding of Gold. At least that seems to be the case in many western economies. Economists and finance officials in China and other eastern countries clearly have a grasp on the importance of Gold:
In 2009, State Council advisor, Ji said that a team of experts from Shanghai and Beijing had set up a task force to consider expanding China’s gold reserves. Ji was quoted as saying "we suggested that China's gold reserves should reach 6,000 tons in the next 3-5 years and perhaps 10,000 tons in 8-10 years”. Zero Hedge
Even Koukoulas can see that emerging economies/policies will have a greater impact on Australia and the rest of the world in the future:
These are extraordinary changes. They reinforce the scenario that in the next 10 to 20 years, trends on the Shanghai or Mumbai stock exchanges will be as important, if not more important, that what happens on Wall Street. It means that in the not-too-distant future, policy changes in Indonesia will be more important that in the UK, France and even Germany.
As a demonstration of the rising living standards and the closing of the gap between developing and developed countries, the OECD estimates that average GDP per capita will grow by around 3 per cent per annum over the next 50 years, a stark outperformance relative to the average 1.7 per cent in the OECD area.
The bottom line of this, according to the OECD, is that “GDP per capita in the poorest economies (in 2011) more than quadruples … whereas it only doubles in the richest economies. China and India will experience more than a seven-fold increase of their income per capita by 2060.”
It is Asia, so very clearly, where Australia needs to maintain and build its economic, investment and cultural engagement. It seems so obvious.
Let’s hope that government, business and the general population of Australia warm to these trends. Europe, the US and the UK will still be nice places to visit, but the economic future is at our doorstep, a point confirmed by the OECD report. Stephen Koukoulas, Business Spectator
So why shouldn't the west also warm to the importance that China, India, Russia and other countries place in Gold?
Given all the above comments from Stephen Koukoulas and little facts provided to backup his presumptions, assumptions, rhetoric and opinions about Gold I was pleasantly surprised to see that he would be turning a new leaf and sticking with the facts in the new year:
That is assuming he was looking to take this approach himself as well as hold others to the same account... that's a good New Years resolution that @TheKouk will be sticking with, I look forward to this as well as his comeback post on why Gold is in a bubble at $1665.
