LBMA 2010: Back to the Future
"Haven't we seen this before, in 1923...?"
The BIG MONEY flows from the biggest trends, of course. But even the brightest people, and with the best of intentions, can struggle to see today what hindsight will say you could have banked on.
By the summer of 1922, for instance, you needed 100 of Germany's paper Marks to buy one gold coin Mark, against which they were supposed to be equal. Yet the German Chancellor "would [still] accept no connection between the printing of money and its depreciation," notes Adam Ferguson in When Money Dies (London, 1975)...even as the Weimar Republic's hyperinflation pushed Berlin food prices well over 50% higher inside one month.
Indeed, "the opinion that the flood of paper is the real origin of the depreciation [in its purchasing power] is not only wrong but dangerously wrong," said the Vossische Zeitung newspaper. So by the time the worthless currency was abandoned 14 months later, it took one trillion paper Marks to buy one golden equivalent, and German banks "turned the Marks over to junk dealers by the ton" for recycling as scrap paper.
Who could've guessed?
Now, fast forward almost a century. Today the value of money (like its price versus gold) is at issue once more, and missing the big trend - inflation or deflation, commodities boom or depression - is a big worry for anyone serious about defending their savings. Over the last decade, gold prices have scarcely looked back in their rise from $252 to $1313 per ounce today. US equities, in contrast, have gone precisely nowhere, while commodities have certainly rallied, but hard assets (outside gold and silver) remain off their pre-Lehman tops of 2008. Treasuries and cash-in-the-bank can barely keep up with inflation, meantime, despite the official "core" US measure slipping below 1% per year. Housing looks like the "double-dip recession" cast in concrete.
Edging above $1300 this week, therefore, it's little wonder that "Gold: Bubble or boom?" was the big theme (both on-stage and off) at this year's London Bullion Market Association conference, held in Berlin. Besides dealing silver and the platinum-group metals, the LBMA's membership is the world's wholesale gold market - the refiners, assayers, vault operators, dealers, financiers and analysts who help move the metal from mine-head to retail production, whether jewelry manufacturers, dental suppliers, chip fabricators or gold coin mints. Very much centered in London (where the Association's biggest bullion-bank members settle some $20 billion of gold trading between themselves each day), this odd little corner of the financial market well remembers the time before today's current rally...a miserable two-decade run of falling gold prices, falling demand, and falling returns for the market's suppliers. And no one wants to be late in seeing that the wind's changed direction.
"When I started in precious metals in the early '80s," said one head of metals trading to the 500+ delegates on Tuesday morning, "I understood that private clients would hold around 3% of their wealth in gold bars and coin...But over the next 20 years, those reserves were really liquidated, down to pretty much zero by 2000."
He's just added to his own personal gold holdings, he said, buying gold bars first cast in 1980 for bank-teller sales to clients in the north-east of England. Yet the vast bulk of attendees - whilst bullish in their average $1450 price forecast for Sept. 2011, and with 60% believing gold would "perform well" even if deflation hit - are a long way from fully invested. A question thrown to the floor showed 74% of the bullion-market professionals meeting in Berlin keep between 0% and 10% of their own private wealth in precious metals. So either they're shills who lack the courage of their convictions, or they prefer to separate where they keep their savings from where they earn their income, or gold has yet to capture the real investment dollar of even those people closest to it.
More broadly, current gold investment accounts for barely 0.5% of investable wealth worldwide, as Shayne McGuire of the Texas teachers' pension fund (and now author of two books urging Americans to Buy Gold Now) showed on Monday, down from 3% in 1980 and far below the 5% of 1968 or 20% allocation gold received prior to the mid 1930s.
Thanks to the massive growth of other investment choices, "Gold has never played a smaller part in the global financial system than today," McGuire concluded, and while further gains aren't guaranteed by the "weight of money argument" (as Philip Klapwijk of GFMS called it) the relative lack of investor hoarding hardly smacks of gold's being a bubble. And while the Western world's biggest central banks hold huge quantities of the stuff, the world's biggest foreign exchange holders are all "underweight gold by any measure" (Philip Klapwijk again), with a growing desire at least to address their "overweight Dollars" position.
Indeed, "off-market" sales of gold bullion by European and even perhaps - one day in the far future - the US governments "may [in time] facilitatea transfer of bullion from West to East" the GFMS chairman said, reminding delegates of the gold transferred from the US to Europe to settle America's balance of payments debts in the late 1950s and early '60s. Meantime emerging economies continue to buying gold both "to diversify" their large US-Dollar holdings, and also as "catastrophe insurance", and private investors have similarly seen "the world's markets flooded with cheap money," said Germany refinery Heraeus's head of sales, Wolfgang Wrzesniok-Rossbach. His detailed (and best-in-show) presentation on gold bars, coins and other retail-investment products Monday afternoon noted the surge in European physical demand during the Greek deficit crisis of early 2010.
One driver is psychological, Wrzesniok-Rossbach said. Because "here in Germany, there is a great desire for security. We are the most over-insured people in the world." More historically, however, German households are asking "Haven't we seen this before, in 1923...?"
Already scared by two stock-market crashes and a global property crash in the last decade alone, "There's an entire generation of [Western] investors who may not want to trust governments or mainstream financial products," agreed Natixis bank's head of precious metals (and LBMA vice-chairman) David Gornall on Tuesday morning. At several points during the global financial crisis, "The US Mint has been right at the limit of immediate physical supply," he noted, but that frenzy has since died down - even as the gold price has continued to rise. Together, that's created a very un-bubblicious atmosphere on the trading floor.
"When the gold price broke new all-time highs [in early Sept.]," reported Steve Branton-Speak of Goldman Sachs, "volatility [in daily prices, measured on a rolling one-month basis] was at a 5-year low. When it then went through $1300, traders just shrugged and said 'So, did you watch the game last night?'
"Compare that to the frenzy of gold trading we got when Bear Stearns and then Lehman Brothers failed," said Branton-Speak, a point confirmed by both Gerry Schubert of ABN Amro (who restated the "lack of frantic activity or volume") and several of the traders I spoke to between presentations (and also in the bar of course). "What looks like a massive boom in demand is actually very small... relatively insignificant," confirmed Jeremy East of Standard Chartered Bank, but gold keeps making headlines because it "punches above its weight in terms of significance."
Asked whether gold is now a bubble, East opted instead for "new paradigm - which is in fact a return to the old paradigm." Concurring with Shayne McGuire's presentation on pension-fund holdings, Standard Chartered's head of metals sees gold investment holdings only now starting to recover from the wipe-out caused by two decades of strong interest rates and economic growth between 1980 and 2000. This view, of gold not so much soaring to untold heights as simply returning to its former position as a key asset class ("Back to the future" as one oddly aggressive guy put it to me in the smoking lounge) might seem to downplay its gains. But consider why gold's not always valued, said Graham Birch, former head of natural resources at Blackrock:
"You don't need gold when...
- Inflation is dead
- Governments are benign
- Taxes are low
- Currencies are solid
- Markets are booming..."
In other words, said Birch, "Nobody wants gold if market returns are high and don't seem risky." Whereas today?
Part II tomorrow...