There is no standard belief among those who question our debt-based monetary system that is more consistent than the necessity to hold precious metals in one's portfolio for protection. I am not unique, I believe hard assets, particularly gold and silver, are essential in today’s investing environment.
The reasons often given for holding precious metals normally take a look back at history to prove the point. They will show how no fiat currency throughout history has survived. There are stories of how gold protected people during the Wiemar hyperinflation, such as when a German bellhop bought the hotel he worked at with one gold coin, or the stories of Zimbabweans surviving by panning for small amounts of gold during their currency failure.
History is riddled with examples of gold and silver protecting those who chose to invest, or purchased it as insurance during times of economic upheaval. Even with these extensive examples throughout history it has been a tough sell in the western world throughout the mainstream investment community as of late. As pervasive as the conviction that holding precious metals is among critics of our system, financial advisers and those that depend on their guidance believe just as strongly in its impracticality and uselessness in today investment landscape. When asking most financial advisers what the correct percentage of a balanced portfolio that should be allocated to precious metals the answer is often none. I am wary of those that speak in such absolutes. The rest of this post will be an attempt to show the need for precious metals using a look forward instead of a look-back.
When thinking of the liquid assets an investor has at his or her disposal there are three that come to mind, stocks, bonds and cash. Precious metals are currently an afterthought at best. Stocks are generally held for growth and are thought of as risky, cash is held for liquidity, and most bonds considered the ‘safe’ asset class.
I believe as a passive investor holding stock in high-quality companies is an indispensable way to build your wealth. As an investment class stocks make up about 25%-30% of liquid assets in the US.
Like it or not the medium of exchange in our economy is the US dollar, and as such, to take advantage of any investment opportunity you must either sell another asset and obtain dollars or have a stockpile of cash ready for deployment. If you look at the entire dollar M2 money stock the cash holdings would stand at around 12% of liquid US holdings, but as you know many of these dollars are held overseas. Dollars as a US investment make up 5-8% of the financial pie. Granted most don’t think of dollars sitting in their bank account as an investment but it must be considered when analyzing total liquid holdings.
Dwarfing the other two investment classes, bonds represent over 60% of liquid assets in the United States. They are generally held for their return, or yield, and perceived safety. While corporate, mortgage, and other private bonds are included in the above percentage, government bonds make up a very large portion and are generally considered the safest. Though we are discussing the US, bonds make up the majority of assets around the world, and like in the US, they are mainly touted as the safest of assets.
Precious metals make up less than 1%, as I said they are an afterthought.
I doubt I need to convince many of my readers that there is far too much debt, thus an over supply of bonds, and the price of those bonds is far too high considering the risk taken on while owning them. We often hear from the mainstream that there is more than enough demand from various institutions for bonds, particularly sovereign, as high quality collateral. Due to this demand they would even have us believe there is an under supply. This is a laughable assertion. Just because entities are foolishly demanding an asset does not mean there is not an oversupply. There was plenty of demand for horribly run internet companies during the dot com bubble, which dried up as soon as investors realized their folly. There was no lack of real-estate demand from hair stylists to taxi drivers during the property bubble. The same mass exodus and price correction that took place in those markets will take place in the bonds when market participants realize what many already know; the debtors do not have the ability to make good on their promise to pay.
A couple options exist to rectify these unpayable debts. There may be a mass of defaults which causes the number of bonds outstanding to contract (deflationary). The other path is to pursue a high or hyper-inflationary reset. In this scenario the bonds may be paid back, but the dollars used to pay them back have far less purchasing power making the bonds less valuable. No matter which course is taken the end result will be the same, the bond market will take up a smaller portion of the investment pie. If the bond markets slice is smaller, something else, cash precious metals or stocks, must fill that gap.
Stocks in general do not fare well during an economic shock and a mass default or hyperinflation to correct current imbalances would be one heck of a shock. Due to equities vulnerability to these conditions they probably won’t increase their share of the investment pie during and after such a market shock.
In a high or hyperinflation the value of cash will drop, and even if there are more of them, the relative value of dollars will probably take up a smaller portion of total investments. A new currency may be introduced but with a high or hyperinflation faith in fiat currency in general will certainly be shaken. In the unlikely event of mass defaults and deflation dollars would certainly be looked at as a safe haven but many of the dollars in electronic form such as in bank accounts would simply disappear. The value of the remaining dollars would skyrocket, but the loss of total money stock would certainly take its toll on cash’s percentage of total financial assets.
By this point I’m sure you can guess what I believe will replace bonds as the ‘safe’ asset class, and that is precious metals, in particular gold and silver. There is a chance of a re-monetization of silver and or gold, and this would have the added bonus of allowing them fulfill the role as the liquidity asset, but this would be in addition to displacing a portion of the bond market as the prudent secure asset.
So while comparing precious metals to currency has its uses, there is far from a guarantee that PM’s will be the dollars replacement. It is much more likely that precious metals will push bonds off the mantle as the preferred safe asset. Thinking of precious metals as the nemesis of bond market in many ways is more appropriate than comparing them to the dollar.
When the bond bubble inevitably bursts I want to be holding the asset that baby boomers are willing to trade their land, shares of Apple, Tesla, Exxon, Disney, their McMansions and vacation homes, theirs cars and art for, to allow them a sliver of security in their retirement. I’m betting on a tangible asset with no counter party risk, and even if this assessment is wrong I can't imagine 'none' being the correct exposure to precious metals considering the madness taking place in our world today.
I do not sell precious metals. I have yet to received any money from a dealer to push their product. At the time of writing this I am offering an unbiased opinion, which is more than I can say for most financial advisers.
Want more information read my first post History and Introduction .
End Note: With my comments on the E Dollar I would be remiss to not discuss it as a possibility. In the event of the adoption of the E Dollar the outlook for precious metals would be less clear since we cannot use history to guide us as we can with default and hyperinflation. There are many positives for the E dollar, for example if low interest rates are good for PM’s negative interest rates would be great. Also the possibility of rejection of the new currency would be a plus for precious metals. Unfortunately gold and silver may be too much of a threat to the E Dollar increasing the risk of confiscation. There is also the possibility that the E Dollar could stabilize the system reducing some of the perceived need for a safe asset. There is just far too much uncertainty surrounding a new currency such as the E Dollar to know its effects on all markets including precious metals.