The stock market collapsed yesterday with the Dow Jones suffering the largest point drop in its history-over 1,000 points-this following a sharp decline Friday. While the drop was not as severe in percentage terms, the previous record was a 778-point drop during the financial crisis of 2008 following the failure of numerous financial institutions.
We are not sure if stocks will continue falling at this point, but the market’s increasing volatility reminds us of the importance of financial insurance. Since 1970, every time the S&P 500 has declined 10% or more during a year, gold has risen in value. But beyond the turbulent stock market, we believe there is a more important reason to be optimistic about gold at this point.
Last year Austin Rare Coins began publishing Hard Money Investor, which is sent quarterly to our premier clients. (If you haven’t already registered, let us know and we will gladly send you a copy.)
1. The most important reason to be bullish on gold right now.
As the nation recovered from the financial crisis, a surge in debt-driven spending drove the federal deficit to a colossal one trillion dollars for the first time, 10% of GDP (vs. a “normal” level around 3%). This prompted gold, already accelerating to the upside in 2010, to explode to an all-time high above $1,900 in September of 2011. (Nothing moves gold like the prospect of national bankruptcy, which government is forced to evade via recession-provoking spending cuts or by borrowing even more.) However, by that time it was becoming clear we had dodged the iceberg: government finances were on the mend as the economy began recovering along with the stock market and gold began to settle down.
Today, the prospect of a trillion-dollar deficit is on the table this year-even before tax cuts kick in-thanks to projected spending on Hurricanes Harvey, Irma, and Maria and California wildfires among multiple Democrat and Republican pet projects. (See, for example, USA Today’s article, “Deficit Could Hit $1 Trillion in 2018, and That’s Before the Full Impact of Tax Cuts”.) $20 trillion in debt, a potential trillion-dollar deficit, and another government shutdown fight this month-and that’s with economic growth looking stronger than it’s been in years. Not surprisingly, the price of financial insurance started the year above $1,300/oz.
2. If you believe inflation is finally going to rear its head, few investments look more attractive than silver.
There’s the right kind of inflation, the one caused by a stronger economy that leads to higher salaries, the kind of inflation we all want to see. (There’s also the kind of inflation we won’t talk about here, but will in a future issue of Hard Money Investor, which is hyperinflation driven by out-of-control government.) When inflation accelerates suddenly and unexpectedly, silver tends to outperform everything else and at a rapid pace.
After surging 1,100% between a low around $4 in 2001 and April 2011 silver has remained calm settling around $17, well below the near $50peak it reached just 7 years ago. Silver remains 65% below the all-time high reached in 1980, making it an attractive value proposition now that stocks are at an all-time high. It has also lagged gold in recent months, which is likely a short-term anomaly considering that silver tends to outperform in a rising gold market like the one we are seeing now.
3. The Japanese yen is signaling that a Currency War could be coming back (the one that gold always wins).
Last year the dollar declined sharply against major currencies, which made our exports more competitive (cheaper for other countries to buy). Other currencies increased in value. ‘So what?’ you say. While it is normal for currency values to fluctuate, the Japanese yen has continued climbing, a fact that is becoming a deep concern for Japanese central bankers who need a weak currency for the slow-growing economy, an export powerhouse.
In a currency war, central banks print money to weaken their currency and make the products they export more competitive. (It is legal financial cheating.) But their actions invariably lead to unintended consequences, like dramatic changes in inflation and retaliatory printing by other central banks (seeking to make their own currencies more competitive). As Jim Rickards explained in his book Currency Wars, there were two currency wars in the twentieth century alone and had two results: they ended badly (higher inflation and economic dislocation) and a sharply higher gold price.