Why is a lump of useless metal smashing the market?

I first bought gold bullion from the Perth Mint in 2003. From memory, it was from Jaggards on Pitt Street.

I’ve followed the gold sector closely ever since. I’ve made and lost money from gold stocks…numerous times. But I’ve always done well buying bullion when it’s out of favour…and holding it for years.

Throughout that time, I’ve realised that the majority of investors — both pros and amateurs — don’t really understand gold.

I don’t either, mind you. But I know it well enough to know I don’t understand the complexity of one of finance’s oldest markets.

Gold — the original decentralised asset

From a big picture perspective, the gold story is easy to understand. Prior to World War One, gold was legal tender. Importantly, it was distributed in the hands of the individual.

This constrained the State’s ability to spend freely. The war, and the emergence of democracy in its aftermath, saw the need for politicians to spend freely on arms and votes.

Maintaining a classical gold standard was, therefore, incompatible with the objectives of a growing State.

Gold bugs tend to romanticise the classical gold standard. Yes, it constrained government spending and bureaucracy. But its rigid function meant that any economic adjustment fell largely on the labour force. That was usually through high unemployment.

Gold was an uncompassionate hard-arse.

This culminated in The Great Depression and the confiscation of gold from the people via Roosevelt’s Presidential decree in 1933.

The post-WWII system, where gold was tied to the US dollar at $35 an ounce, didn’t last long either.

Everyone knows that Nixon closed the gold window in 1971, and by 1980 gold spiked to $850 an ounce.

But in the background, following that event and throughout the 80s and 90s, the ownership of most of the world’s bullion found itself in the vaults of the central banks.

In short, the trend of the 20^th century saw gold move from a very decentralised asset in the hands of the common people to a centralised asset under the watchful eye of global central banks.

It’s not surprising that in response to this, the free market devised a new decentralised currency in the form of Bitcoin. It’s done quite well since…

So has gold, a much larger market. It’s now approaching US$3,000 an ounce. And there are rumours that the US Treasury is considering revaluing its gold reserves.

Earlier this month, US Treasury Secretary Scott Bessant said the US could ‘monetise the asset side of the US balance sheet’ and create a sovereign wealth fund.

Was he talking about gold, which sits on the Fed balance sheet at $42.22 an ounce? A revaluation would create about $750 billion in spending power without having to issue new debt.

An official role for gold?

Would a revaluation mean a larger official role for gold in the global monetary system…a return to a type of gold exchange standard?

Could the recent exodus of physical gold from London be related to this?

Who knows?

I’d say it would be a long shot. But with the current US administration, long shots aren’t as long as we might think.

The return to a form of gold exchange standard would attempt to impose discipline on government spending. Governments usually don’t impose this discipline on themselves. They are more intent on muddying the waters to obscure their profligacy.

However noble the idea, the reality of the financial system is that everything is relative. You can’t fix the price of anything without it causing problems elsewhere. That’s why all price-fixing attempts in history have gone pear-shaped.

So, any ‘return to gold’ would have to be within a target band. Gold rising to the top of that band would require the government to curb its debt growth. A decline to the bottom of the band would give it leeway to increase it.

Imposing fiscal discipline via gold is a low probability outcome. Which is why, over the long term, gold will continue to be a good hedge against the growth of the State.

Gold trouncing the market over five years

Just look at Australia. The gold price in Aussie dollars is up just over 100% since the start of 2020. That’s a compound annual growth rate of just over 16% in five years.

I imagine this closely aligns with State and Federal Government debt growth, over the period, along with consumer price inflation.

Yes this includes the ‘one-off’ pandemic debt surge.

But over the same time frame, the ASX200 Gross Total Return Index has increased by around 53% - just half of gold’s performance.

Which just goes to show surging inflation isn’t good for the market.

An inert lump of metal has smashed the market return of a collection of supposedly productive companies.

What does this tell you about the fiscal and monetary management of this country?

What does this tell you about our system of wealth creation and distribution?

The ‘performance’ of a useless lump of metal tells you that it’s broken. And people know it.

A recent article in The Australian stated:

‘…if there is a common thread today it is a profound sense of disillusionment and perception of failure in political leadership. This appears to go beyond just cost of living in an acute sense and exposes a longer-term problem in response to what appears to be deep structural change in the community.

‘For younger Australians, it is the end of hope. Many feel they exist in order to keep the “machine running” for others.

‘Middle aged Australians feel they are slipping down the ladder, or at best spinning their wheels. The lack of vision from both sides of politics is a chief concern. They believe neither has a credible or meaningful plan.

‘For older Australians, there is a sense of loss and insecurity. Security, financial and personal, is critical. But this is crumbling. There is a consensus that the current political leadership at a federal level lacks the skills to manage a crisis.’

Elsewhere, we read about Australia’s highly paid bureaucrats and plentiful public servants.

The latest numbers from June 2024 show Australia had over 2.5 million public servants across all three levels of government.

That’s nearly 10% of the population employed by government. There’s your productivity problem.

Do we really need this much bureaucracy and regulatory administration?

Again, for anyone who thinks this is a good thing, look at gold’s performance over the past five years compared to the market.

When you turn huge growth in government debt into unproductive jobs and renewable boondoggles, and leverage those newly created dollars into the property market (boosting the banks), you know something has gone badly wrong.

Gold is telling us this loud and clear.

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