Gold as the “Love Trade”?

Regular readers of this blog know that I try to stay away from statements like, “there is going to be hyperinflation in America so gold is going to $10,000.” There is a much more reasonable case to be made for gold that doesn’t rely on a currency collapse. As I’ve said before, I’m never going to invest a significant portion of my net worth in an investment that requires a currency collapse.

In the following interview, Frank Holmes, CEO of U.S. Global Investors, makes a more balanced case than you normally see for gold. Holmes doesn’t focus on inflation; he focuses on the relative underownership of gold. The interview is embedded below:

One of the bullish arguments I’ve made for gold is that it is actually underowned on a global basis. According to Holmes, the value of gold as a component of financial assets has actually fallen since 2000. If global GDP grows year after year, the implied value of global assets like gold rises. It is foolish to ignore relative value when making price forecasts.

Holmes also argues that imbalances in monetary and fiscal policies lead to price increases in gold. Monetary imbalances, according to Holmes, are negative real interest rates. In other words, inflation rates are higher than nominal interest rates. Fiscal imbalances relate to deficits. Holmes makes a distinction between deficits that go to build infrastructure and deficits that fund entitlements. The latter, according to Holmes, lead to increases in the price of gold. Holmes notes that 60% of the $1.5 trillion in deficits are in entitlements.

I agree with Holmes that all deficits are not created equal. Deficits used to build infrastructure lay the foundation for future economic growth. Entitlement spending, on the onder hand, is a net drain to the economy. This negative economic effects of entitlement spending are magnified because we are paying interest on what we borrow to fund entitlement programs. This is a downward cycle that has no happy ending unless you are an investor in gold. 

Gold at $1450 is still a bargain relative to other assets. What would you rather own, Treasuries? The dollar? Real estate? A 0.25% yielding savings account? Which of the aforementioned assets provides insurance in case of a defict-induced disaster? This is still a misunderstood investment.

Gold as the “Love Trade”? is a post from: Expected Returns

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