Gold Doesn’t Care If It’s INflation or DEflation
Commodities / Gold & Silver 2009 Jun 24, 2009 - 12:05 PM GMTBy: Graham_Summers
Gold doesn’t care if it’s inflation or deflation.
One of the central arguments for financial commentators right now is whether the US is currently facing inflation or deflation. Everyone (at least everyone with a functioning cortex) is aware that the US (and the rest of the world for that matter) will face more difficult times ahead. However, whether it will be an environment of increased inflation or increased deflation is up for debate.
Personally, I have been in inflation camp for some time now. However, when it comes to investing, it never pays to grow complacent with one’s thinking. So I did some research into how gold performed during inflationary vs. deflationary periods. The results were rather shocking to say the least.
According to Scott Reamer of Vicis Capital, gold and the dollar index has shown an inverse correlation of -.28 over the last 17 years. Now, a correlation of -1 would be a perfect inverse correlation, meaning that every move the dollar index made would be mirrored to the inverse by gold (the dollar falls 1, gold would rise 1).
As Reamer points out, a correlation of -.28 is not a strong correlation at all. So to claim that gold will simply spike if the dollar rolls is an overly simplistic assumption. Indeed, during the last gold bull market in the ‘70s, gold soared years before the dollar took a dive. So, a far more reasonable assumption for gold bullishness would be to say that should the dollar collapse, gold will rally due to safe haven seeking by investors.
Indeed, it is gold’s status as a safe haven of wealth (the ultimate currency if you will), NOT its inverse relationship to the dollar that makes it so special. Gold has been the ultimate storehouse of wealth going back thousands of years. But what’s truly remarkable is that is has maintained this quality even during periods of DE-flation.
The ultimate text on this matter is Roy Jastram’s The Golden Constant. I don’t recommend looking for or reading this book because a) it’s out of print b) it’s a very dense read.
To summarize, Jastram performed a study of gold’s performance over a 416-year period in England’s history (from 1560 to 1976). He found that historically gold has acted like a storehouse of value throughout wars, plagues, and the like. However, what’s most striking is that gold actually INCREASED its purchasing power during periods of DE-flation.
Deflationary Periods in England |
Purchasing Power of Gold |
1658–1669 |
+42% |
1813–1851 |
+70% |
1873–1896 |
+82% |
1920–1933 |
+251% |
This last point is absolutely extraordinary when you consider that the thought pattern “gold rises in inflation and falls during deflation” is one of the most commonly believed investing mantras out there. Indeed, gold has undergone a seismic shift in the last year, largely due to inflationary concerns.
Consider the following… global gold demand jumped 38% in the 1Q09. Three years ago, demand for gold as an investment only comprised 10% of global gold demand. Today it’s over 30%. That’s an unbelievable increase in investment demand.
From an anecdotal standpoint, I’ve begun hearing numerous “we’ll pay cash for gold” radio advertisements. And just yesterday at the gym I saw G. Gordon Liddy on TV touting gold as king and the dollar as garbage (he actually crumpled a dollar bill up on camera). When a guy like Liddy (central architect of the Watergate break-in) becomes a spokesperson for distrusting the government, then you know the general public is growing anxious about the currency.
It’s not just in the US either.
Globally, entire gold markets that didn’t exist in 1980 are now beginning to buy the precious metal. Vietnam started trading gold futures in June 2007. Already the exchange trades around $100 million in gold futures a day.
China’s Shanghai Futures Index started trading gold futures in early 2008. The latter country has already surpassed the U.S. as the second largest consumer of gold behind India. On top of this, both the Russian and the Chinese governments have begun increasing their gold reserves.
In simple terms, the world believes inflation is coming, regardless of whether or not the current data supports it (this is a topic for another essay). Consequently, they’ve begun piling into gold based on the belief that gold is an inflation hedge.
However, the reality as Jastram’s book demonstrates, is that gold’s primary benefit to investors is not as an inflation hedge but as an alternate currency. Gold cannot be printed ad infinitum, so it’s the most stable, dependable currency in history. And if the dollar rolls over, gold will benefit from this status.
But gold ALSO performs well during periods of deflation. As Jastram’s book shows, if deflation takes hold (as credit and household wealth contracts further) gold will ALSO perform well just as it did during numerous deflationary periods between 1560 and 1976.
But my main point is this: gold will perform will in ANY investment environment going forward whether it’s inflation OR deflation.
However, those who simply buy the gold ETF are missing out on the truly incredible opportunity in gold. I’ve recently put together a FREE special report detailing this unusual opportunity in the precious metal.
It’s a single investment sitting atop 713 million ounces of gold. Today, the market values this mountain of wealth at a measly $188 an ounce. There’s easily the potential for triple digit gains here. To pick up a FREE copy, go to www.gainspainscapital.com.
Graham Summers
PS. I’ve put together a FREE special report detailing how to play the coming agriculture boom as well as other inflation hedges that can protect you portfolio from the Fed’s money printing. You can pick up a FREE copy at: www.gainspainscapital.com.
Graham Summers: Graham is Senior Market Strategist at OmniSans Research. He is co-editor of Gain, Pains, and Capital, OmniSans Research’s FREE daily e-letter covering the equity, commodity, currency, and real estate markets.
Graham also writes Private Wealth Advisory, a monthly investment advisory focusing on the most lucrative investment opportunities the financial markets have to offer. Graham understands the big picture from both a macro-economic and capital in/outflow perspective. He translates his understanding into finding trends and undervalued investment opportunities months before the markets catch on: the Private Wealth Advisory portfolio has outperformed the S&P 500 three of the last five years, including a 7% return in 2008 vs. a 37% loss for the S&P 500.
Previously, Graham worked as a Senior Financial Analyst covering global markets for several investment firms in the Mid-Atlantic region. He’s lived and performed research in Europe, Asia, the Middle East, and the United States.
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Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.
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