Silver/Gold as inflation hedge?

Precious metals hold their value over time and throughout the years have been a good hedge against inflation. However certain conditions influence how well metals perform at any particular point in time. Things like strength of the economy, future prospects for inflation/deflation, central bank policy, strength of the currency and geopolitical risk all play a role. For example if you look at a chart of the nominal price of silver you will see the '79 spike to $50 followed by an immediate crash (as we exited the 70's malaise) then to a 2-decade trough. Bottom line is that precious metals are volatile in a world economy dominated by fiat currency because they come in and out of investor focus as economies built upon fiat systems boom and bust.

I think a lot of people feel your pain with having enough metal holdings to make a difference in a long-term inflation scenario but you do what you can. There is really nobody left who really remembers the desperation of the great depression but it left a multi-generational mark on many who lived through it. I had an uncle who was 29 years old when the depression hit in the 1930's. When I knew him he saved EVERYTHING and in his barn he had old coffee cans filled with rusty bent nails, bolts, lids, bailing wire etc.. When he needed a nail(s) he would go over to his bucket of bent nails, straighten one out and use it. Almost seemed ridiculous to me as a kid and my uncle has long since passed but I now understand that his behavior was not a quirk. More of a scar left by the desperate times he had lived in. I think he would approve of your "limited" holdings.

Regards,

Bluesboy65

 

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Maybe I'm over-cautious, but when PM's are high, like now, it usually means they, along with all economic factors are unstable, meaning to invest in them as a hedge is far riskier than not. When an ounce of gold exceeds the average mortgage payment it makes me wonder how more people don't realize the obvious.
Guy

 

My thoughts are that 80% of the time. PM's are not needed as a forefront piece to a persons investment. But, 20% of the time. PM rise when hard times and fiat currencies are in play. Thats when PM become the investment of choice. Most people are smart enough to realize when PM becomes the main choice to maintain wealth. However, some realize too late. And many don't cash in at the right moment to forward their investment when PM's are in a decline.
It's hard for many to fathom PM as a hedge because, gold and silver had it's last rise in 1980. Many were not born in 1980.

 

There are methods of calculating that...

Everyone is talking about risk vs benefit, 1/1000 probabilities, 94% devaluations, etc.,... but there are no hard numbers here (or anywhere on the internet that I can find) which actually calculate a reasonable dollar value of gold based on such assumptions. It's all just pie in the sky. Until now! I've created an online calculator which takes your assumptions and translates them into a current fair value for gold.

http://passantgardant.com/gold-value-calculator

Just enter your estimated probability of various inflation rates, and this calculator will give you a fair value for gold as insurance against inflation using actuarial methods. It's the same way your home or car insurance company calculates your premium! This calculator includes the ability to specify your own opportunity costs from holding gold instead of an interest-paying alternative. This way you can decide for yourself if gold should be a part of your inflation-hedging portfolio.

Please share the link with any gold critics or skeptics among your family and friends, since putting hard numbers to it may finally sway them to take out an insurance policy of gold (or silver), whether physical bullion, ETFs, or mining stocks, to hedge their own assessment of inflation risks.

 

Howdy,

A little story from my past. When I was a boy I could walk down to the store and buy a loaf of bread with a washington quarter (circa 1960). That same quarter today is worth ~27x in melt value or $6.75 - which will buy me a a loaf of bread. [actually, a little more at this point but give it a few more months and it should be about right].

I've also read that in ancient rome an ounce of gold would buy you a nice toga and sandals; in the Roaring 20's it would buy a nice suit of clothes; and, at $1400 an ounce, you can still buy a nice suit of clothes today.

Since the Fed was created in 1913, the value of the dollar has decreased by what 95%?!?!?

Gold and silver as inflation hedges. Sure, they make a portion of your 'hedge' but there are other things to do also. First off, I don't see either hyper inflation nor financial meltdown as very likely. Possible? Sure, but not likely. This means that having some of your bond allocation in TIPs or IBonds would help. Having a goodly portion invested in int'l and emerging mkt debt. Having some aussie or canadian currency. These things can be physical or via securities. Cripes, you can buy FXA or FXC with any brokerage account. Diversify your portfolio and diversify your wealth.

peace,

rono

 

Rono, I wonder if you could give us some hard facts upon which you base this opinion that fiscal collapse and hyperinflation are "not likely". Because I've crunched the numbers in Obama's budget (http://passantgardant.com/blog/59-mandatory-spending-exceeds-income), and I can find no likely path to prevent it.

Also, what percentage would you assign to "possible but not likely"? 1%, 2%, 1/2%? If you plug that estimate into the calculator I linked previously, what does it give you as the fair value for gold? Even if you think hyperinflation is unlikely, the massive impact that it would have makes gold still an important part of your hedging strategy. Even if you give it a 0.001% chance of occurring, if it did, gold (and anything else of intrinsic value) would increase by 10,000,000% or more. So the unlikelihood coupled with the massive impact still makes it a pretty important thing to consider. It's the same reason you shell out a premium for home insurance. You might live in a 100 year old house that in its entire existence never suffered from a fire, but you still insure against it because of what a drastic impact that event would be. Gold is insurance against a monetary inferno.

The problem with TIPS, corporate debt, sovereign debt, currencies, equities, etc., is that they are someone else's liability. In a major collapse, you can expect them to default en masse. Only real assets will survive. Real estate, farmland, etc., has carrying costs, maintenance, tenants, etc., which can be very risky and also time-consuming. Gold just needs a good vault and you can basically forget about it until your "insurable event" occurs and you need its wealth preservation and appreciation. And if that never occurs, well I've never heard anyone lament that they paid a bunch for home insurance and their house never burnt down. Plus, you keep the premium! That's my kind of insurance!

Now if you want to own gold (or silver) and also speculate in junk bonds, blue chips, or mining stocks for profit, that's great. That's what I do. But a core part of everyone's portfolio ought to be inflation insurance first and foremost. Even if you give hyperinflation a smaller probability than I do. To do otherwise is like owning a home and a car and not buying any home or car insurance. Are you really prepared for a total loss?

 

Passantgardant welcome to Cointalk! I like the analogy you used here. It works as long as people are not using thier investment money to buy gold and silver but I like it none the less. Also, I don't want to put words in Rono's mouth and I don't want to understate the financial hole we are digging BUT the challenge to give us "hard facts" about the likelihood of hyperinflation is unnecessarily pinning someone into a corner. In your zeal for convincing everyone of your position, do not exclude the possibility that others sympathetic to your position may prefer more subtlety or innuendo in their communication.

If you don't mind me asking, what line of work are you in?

Regards,

Bluesboy65

 

Thanks Bluesboy65. I'm a software engineer. I'm afraid the time for subtlety has passed. I could see sitting on the fence a few years ago when we still had deficits of "only" a few hundred billion and the Fed wasn't wantonly monetizing the debt. Back then, we were dealing more in theory and probability of what the government might do. Now it has been well established. Their response to the 2008 crash was telling. Their inability to cut even a few billion in the face of a $1.65 trillion deficit leaves no doubt. There is zero political will to fix the debt problem in any way other than monetization. Given the "hard facts" pointing to the inevitability of hyperinflation, I don't find it unreasonable to ask for evidence which would make one believe it is unlikely.

 

Howdy all and welcome passantgardant,

Can't say I disagree with any of your arguements. My BA's in Econ and I've been a long range planner for decades. I see the same things you and many others are seeing. I'm not sure if you've seen my other posties, but I see the tightrope the Fed is walking as being $110 T in Unfunded Liabilities with no combination of benefit reductions (other than outright repudiation and default) and tax increases, that can pay this tab. That leaves them no choice but monetization. I've read an estimate that they have to HALVE the value of the dollar over the next 10 years just to be able to sniff solving this problem. Yet, with real unemployment (shadowstats) is running about 22% and real inflation is about 9% they have no choice but to pump as much money into the economy as needed to keep it from devolving into an Egypt/Libyan debacle that they will risk hyperinflation and hope they don't get it.

Will they be successful or lose or muddle along? Geez, I don't know. I'm thinking right now that it's about 20% chance we'll see some sort of financial meltdown, 20% they'll actually pull it off and 60% that we'll muddle along kicking the can down the road with nasty Austerity. Had a friend coin that term for a combination of stagflation - high unemployment and high inflation - without any growth. Should this happen, the austerity could last for 10 years or so.

Because these things are not within my control and I really don't know, the best I can do is prepare.

I try to use risk analysis when making key decions. Develop a cost/reward/yes/no comparison. Anyway, in this case, the costs of a Meltdown/hyperinflation scenario is so enormous, that even with only a 20% chance (my figure), I have no alternative but to prepare. The consequences of being unprepared are so dire to do otherwise.

peace,

rono

 

Like your passion/conviction. If you read through many of these threads you will find that many, including yours truely, have said the same things in almost the exactly the same way. Most of the areas of disagreement in these forums is rooted in people who (knowingly or unknowingly) align with Keynesian economic thought and those who are hold more to Classical or Supply Side theory. With regard to hyperinflation, according to the even the heavily watered down CPI statistics, inflation is outpacing expectation so it's here. The question in my mind is how hot it will get.

Regards,

Bluesboy65

 

A true consideration. However, many who post here seem to feel that the US is the only one facing this scenario ( if there is such a scenario). If I see Japan, Germany, The UK, Austria go under, then the US will probably follow, as all have about the same debit problem as the US I believe. Way before that though there are many "canaries in a coalmine" that will give us early warning. A collapse of those countries will show the US what could come about. As a disclaimer, I feel the US is doing a better job than most give credit. At least we know most of what is occurring financially, unlike China, North Korea, Pakistan, etc. where the government controls all financial information. I am sure this forum would not be allowed in any of those countries ( yes, NK doesn't have internet for the masses). Each country has +/- effects. I think a true revelation of China's financial situation would scare everyone. Not that they would be so strong, but I suspect so much weaker than is thought. JMHO.

Many people are prepared for the most disastrous of times, but prefer not to advertise what they have.

Jim
​

 

Great post, I think you are right on this. One huge advantage we have is reserve currency status another is a very high standard of living. If the dollar continues to take a beating (dollar index has dropped 7.3% from .82 in Dec to .76 today) emerging markets will suffer the most and will suffer first. They are spending 40% of their income on food vs. the 13% we spend here in America.

Regards,

Bluesboy65

 

I'm having a very hard time reconciling these three statements. If it requires 100% aggregate inflation over 10 years "just to be able to sniff solving this problem", then doesn't that imply a very high likelihood of hyperinflation? What do you think the interest rate on Treasury bonds will be if annual inflation approaches 10%? Most likely higher than 10%, but even at 10%, the government will have $1.6 trillion in annual debt service costs on a $16 trillion debt. Add that to the current $1.65 trillion deficit and you're at $3.25 trillion in deficit, which means the following year is $19.25 trillion debt and $1.93 trillion interest if the rate only remains at 10%. And since total government income is only around $2 trillion, this is clearly an intractable problem. It will require monetization merely to pay the interest let alone to run the government and pay entitlement benefits. That is the start of spiraling hyperinflation. So unless the government cuts spending dramatically (I'm talking about over $1 trillion in cuts) right away -- and there is zero indication they are willing to do so -- then hyperinflation is assured. There is no more kicking the can down the road. We're at the end of the road.

They cannot implement austerity measures because, as you said, 22% real unemployment (not to mention looming state government bankruptcies) won't allow them. Besides, causing a major depression at this point would reduce income and payroll tax receipts, making the fiscal problem even worse. Every indication is that our politicians aren't even considering anything like this. The only spending cuts currently on the table even close are Rand Paul's $500 billion in cuts, but nobody pays serious attention to that, and even that's not enough anyway (it's still a $1.15 trillion deficit). So there's zero percent chance of that happening. But let's be generous and give them 1%. There's no possible way to "pull off" paying $110 trillion in liabilities since assets of even close to that amount are not recoverable except through global war (e.g. securing by force all global oil production), which is unconscionable to the American people and fraught with risks including planetary backlash. Even so, with a military several times bigger than the rest of the nations of the world combined, this isn't a zero percent chance, but still very slim. Let's be generous and say 1%. What else does that leave? Outright default? The American People won't stand for it and the politicians know that cutting benefits means they're out of a job. Moreover, with Treasuries representing a large bulk of pension funds, 401ks, and other investable assets, this too would cause economic collapse. I'll be generous and give the politicians 1% chance of defaulting on Treasury debt. It's just so much easier to shift the blame to everyone from greedy oil companies to reckless speculators for the inflation created when the Fed monetizes the debt. And frankly, history shows that this is the course always chosen.

So it's 1% chance of significant austerity and the Greater Depression, 1% chance of global resource confiscation and World War III, 1% chance of outright default, and 97% chance of hyperinflation. I think the only questions are how fast it unfolds and how far it's allowed to go before a workable solution is found. History indicates that aggregate inflation of over 1,000,000% is common once hyperinflation gets underway.

 

I strongly disagree. What do you think has been happening in Portugal, Ireland, Italy, Greece, Spain, among others, throughout the past year? These are your canaries. Ignore them at your own peril. The whole world is running into sovereign debt problems related to Keynesian stimulus spending and the bubbles and crashes which have resulted. So far, it has taken massive bailouts from larger economies to save the first to reach an impasse with bond markets. There is no country or combination of countries in the world that could bail out the United States. And from a debt-to-GDP perspective, among other measures, we're on no more solid fiscal grounds than Greece or anyone else. So far, our reserve currency status has indeed buoyed us a little since it has served as a "safe haven" versus the Euro, thus perpetuating government debts a little longer. But that will not last long. All fiat currencies are on a race to their intrinsic value (zero), and the Dollar merely fell a little less quickly this year than some of the others. But all are falling relative to gold and other commodities.

Japan (even after the disaster) and Germany will outlast the U.S. as long as they don't go bailout crazy because both are strong exporters. Germany will have to dump the Euro though. The U.K. is in much the same boat as us and will probably fall at about the same time. Our currencies and economies have been heavily intertwined since WWII. The British sold off their entire gold reserves and went to war in the Middle East with us trying to maintain the value of the Dollar. Our fates are joined. I think most of Europe will go into hyperinflation or bankruptcy with the collapse of the Euro currency. That may be before or after the U.S. If after, probably immediately after. The only countries with any hope are those whose economies are primarily commodity focused -- Canada and Australia come to mind -- or never bought into Keynesianism -- perhaps Hong Kong, Singapore, and Switzerland.

As far as financial transparency, you've got to be kidding. The U.S. government's practices are Orwellian -- changing the definition of terms, misdirecting blame, cooking the books, etc. Yeah, we can talk about this stuff, but we have no accurate official numbers, which makes sites like Shadowstats necessary. Misinformation is worse than no information. At least the North Koreans know that they know nothing about their government. Americans believe they do and bought into all of the rosy projections of 10% annual growth forever in order to save Social Security.

I don't think many people are prepared at all. We've had 50-60 years of relative economic growth and stability (to the extent that bubbles have popped, they've always been reinflated elsewhere). So everyone has a normalcy bias. The last people to have suffered in the Great Depression are almost all gone. Nobody in this country -- unless they immigrated from South America or the ex-Soviet Bloc -- has suffered from hyperinflation or knows anyone who did. To most people's minds, the idea of it is just myth. It could never happen here. I fear that millions will suffer and/or perish.

 

Howdy passantgardant/all,

As I said before, I can't argue with much of your post - I'm watching and reading the same signs you are. I see rioting in the streets and regime change in Egypt and not only can envision that happening here, but wonder how long before it does. I hope I'm wrong. And I hope you're wrong as to the probabilities you've assigned.

That said, I think where we have even better agreement is that folks need to prepare and the vast majority are not. Alas, I can't fix all that but I can deal with me and mine and my little corner of the universe.

peace,

rono