As gold futures have declined 20% from their peak in September to their low this month, we thought we would reiterate some quick (albeit widely misunderstood) points that justify increasing our concentration of physical:

Gold has always been a monetary commodity and, like dollars and all other paper currencies, has virtually no practical or industrial utility

Gold is not currently a popular medium of exchange among private commercial counterparties, nor is it officially recognized by governments or central banks to be exchangeable in fixed terms with the competing paper currencies they produce

Gold is manufactured in the private sector; its annual production adds about 1.5% to its global above-ground stock (estimated to be about 175k metric tons in total)

The World Gold Council estimates that official gold holders (governments and/or central banks that manufacture competing paper money) retain about 30.7 thousand tonnes of gold, or about 18% of above-ground physical gold; are currently adding to their physical stocks

Only about 0.05% of long positions in exchange-traded gold futures contracts actually take physical delivery of gold, and exchange inventories available for delivery are less than 5% of outstanding contracts

Disaggregated private physical gold holders throughout the world tend to view their gold as strategic (rather than tactical) holdings, implying only long positions in gold futures contracts (non-manifest paper derivative claims) are susceptible to short-term funding and periodic calendar considerations

As gold futures have weakened recently, the stock of physical gold bullion among bullion dealers has depleted at a significantly faster pace (at lower and lower prices), implying buyers of bullion (private holders and central banks) view declining futures prices as an opportunity to accumulate the metal

Fundamentally, global central banks have produced much more paper currency and bank reserves (base money) than global gold production since 2008 (e.g. USDs +215% vs. gold 4.5%), and global debt denominated in paper currencies exceeds the actual stock of paper currencies with which to service and repay it by a wide margin (e.g. USD debt of $53 trillion vs. $2.7 trillion of base money)

Real interest rates (nominal rates less CPI) are negative across the majority of the largest developed and emerging economies, implying that a stable or rising gold price has positive carry

When properly accounted, global inflation is already substantially higher than common pricei baskets indicate, meaning real interest rates are even more negative than the CPI currently suggests¹

As with all currencies, gold pays its owner nothing unless it is leant, (most bullion holders choose not to lend gold for fear of not being able to retrieve it when necessary); however, in real terms gold remains vastly cheaper to hold than paper currencies and so it is a store of purchasing power

As we wrote in August (“Your Gold Teeth”), there are only two ways to safely own physical gold: take possession of above-ground bullion (and as we are seeing presently to do so outside the banking system where it can ultimately be hypothecated, pooled with financial assets and given away (The Gold “Rehypothecation” Unwind Begins: HSBC Sues MF Global Over Disputed Ownership Of Physical Gold), or own in-ground bullion through shares in precious metals miners, which have been usurped in the marketplace by popular derivative claims on precious metals (Did GLD And Other Gold ETFs Kill Gold Stocks?)

When valued in terms of Enterprise Value per Gold Ounce (EV/Gold), in-ground bullion may be owned for as little as $30/oz through shares in operating companies already in production (we will distribute a more in-depth analysis of this to Fund investors later in the month).

Conclusion: It seems highly likely that from both capital stock (money stock vs. gold stock) and capital flow (real interest rate) perspectives, the future growth rate of global paper currencies will continue to exceed gold production by a wide margin, which implies the price in paper currency terms of physical gold should continue to rise substantially. Any sell-off in gold futures or other derivative claims serve the physical gold buyer’s interest and the interest of investors in shares of gold miners looking to accumulate in-ground physical gold.

Lee & Paul


¹It is not necessarily true that price indexes like the Consumer Price Index accurately capture the loss of purchasing power, commonly referred to as inflation. The CPI calculates the price changes of components within a basket of goods and services. The components of the basket are subjectively weighted and periodically substituted, and are further subjected to hedonic adjustments (which seek to account for quality changes such as rising computing power). While the US CPI may accurately capture the loss of purchasing power for American wage earners living paycheck to paycheck, it does not capture the loss of purchasing power for savers or investors seeking to buy homes, travel abroad or send their children to college, nor for businesses seeking to delay capital spending, pay future wages or exchange goods or services for foreign currencies, nor for institutional investors managing employee retirement funds. The US CPI seeks to narrowly capture US dollar denominated price adjustments of basic goods and services for US dollar denominated wage earners spending their US dollars in the US, period.

Meanwhile, the United States imports the majority of the goods that American consumers buy with US dollars. This implies that the loss of purchasing power of dollar-denominated wage earners, savers and investors is largely determined by the exchange value of US dollars against other currencies. Exchange values fluctuate because producers and manufacturers demand constant value for their goods and services regardless of the nominal prices of their output. For example, if crude oil producers in the Middle East or toy manufacturers in Asia believe US dollars will hold more future purchasing power than Euros, then they would rather exchange their goods for US dollars. Another major shortcoming of “inflation indexes” like the CPI is that they do not capture the impact of necessary future money printing needed to service and pay down already existing debt. Such future money printing necessarily diminishes the purchasing power of savers and investors directly because it forces providers of goods, services, assets and labor to demand more currency in exchange (i.e. higher prices). The wider the gap separating the supply of existing debt from the supply of existing base money, the more future inflation (money creation) there must be. So, price baskets are simply very narrow measures of contemporaneous price changes. Finally, calculates its SGS-alternate 1990 based US CPI-U data series to be over 11% presently.

Gold in Perspective
Mid-December 2011

Category: Gold & Precious Metals

Please use the comments to demonstrate your own ignorance, unfamiliarity with empirical data and lack of respect for scientific knowledge. Be sure to create straw men and argue against things I have neither said nor implied. If you could repeat previously discredited memes or steer the conversation into irrelevant, off topic discussions, it would be appreciated. Lastly, kindly forgo all civility in your discourse . . . you are, after all, anonymous.

20 Responses to “Gold in Perspective”

  1. JimRino says:

    The higher the price, the more moves out of jewelry and back into the market.
    For a real movement though, we’d need an honest gold-exchange server to appear.
    Not, the 10% redemption price to value ratio currently in place.

  2. new slang says:

    “While the US CPI may accurately capture the loss of purchasing power for American wage earners living paycheck to paycheck…”

    I’m not familiar with all the components of CPI, but how is this so? Aren’t food and energy excluded from CPI? If so, then what are people buying who live paycheck to paycheck outside of paying rent?

  3. Moopheus says:

    “When properly accounted, global inflation is already substantially higher than common pricei baskets indicate”

    Can this guy point to actual data showing this to be the case? I.e., if he doesn’t like the government inflation numbers, can he define an alternate metric, collect the relevant price information, and show the work?

  4. Petey Wheatstraw says:

    Read it again (Mooph — here’s your inflation):

    “. . . global debt denominated in paper currencies exceeds the actual stock of paper currencies with which to service and repay it by a wide margin (e.g. USD debt of $53 trillion vs. $2.7 trillion of base money)”

    That’s bankruptcy. Unless of course, you have a fiat currency. If you have a fiat currency, it’s a political choice between inflation or default.

    I know some will say that comparing base and debt money does not account for for debt retired and reissued, cyclically, but I believe the 53/2.7 ratio is insurmountable without substantial inflation, at some point (and especially in light of the current low velocity of money). Inflation is fiat currency’s reason for being.

  5. BenGraham says:

    @Petey- No, that’s not bankruptcy. That is leverage. And there are assets worth over $50T in the US alone which will end up in the hands of the debt holders if the debt cannot be serviced.

  6. RC says:

    If it is deflation then deflation causes Gold prices to go up.
    If it is inflation then inflation causes Gold prices to go up.
    If 200 day moving average is intact then chart is not broken so Gold prices should go up.
    If 200 day moving average is broken then look at 300 day moving average and then conclude that price of Gold should go up.
    It all makes total sense.

  7. Petey Wheatstraw says:


    That’s what’s at the heart of this post. As I said, it’s between inflate and default. I’m not sure what $50T in assets anyone would come after, but they can’t take any assets if we print. All that backs the USD is good faith and credit, not hard assets (historically, if there was any asset they could come after, it would have been gold).

  8. Frwip says:

    I was nodding my head in mildly intrigued demi-agreement then :

    “When properly accounted, global inflation is already substantially higher than common ….”

    And in the footnote, the killer reference “ShadowStats”. Sorry, guys. You don’t have a case if you need to reference those bozos who deliberately confuse inflation and shrinking disposable income for the vast majority.

    And if you don’t like CPI-U or whatever, just use the most bias-insensitive index, GDP deflator. No fudging or anything. The economy as a whole decides what’s in the basket. And overall a probably more relevant index for institutional investors. And guess what? The GDP deflator stands around 1% for the US right now after wandering between 1.5 and 4% since the mid-80s. Much higher for the world overall and extremely erratic for China.

  9. BigBlueCrab says:

    Don’t forget silver which is as above, only 15x scarcer, is used in Industrial production ( eg: 1 oz./Flat TV ),
    as such has been used up, not like gold. Think about this: If everyone in just this country alone bought 2 oz’s, that would equal the total world output. Regardless, there is a debt wall we will hit…sooner than later.

  10. VennData says:


    Gold bugs are looney.

    If you really believe all this nonsense, why tell people, get thm excited and rive up the price of gold by creating demand?

  11. Al Bergette says:

    Suppose some of the Gold on ETF exchanges did not physically exist?

    Suppose they did the same thing with gold that they did with mortgages: double and triple sold them to parties with no first degree stakeholdership, with no direct ownership of the gold?
     Gold Tranches as it were.

    In doing so, it gives the corner cutters and the manipulators of the financial trade stuff to sell. 

    They perfect the charade by piggy-backing on which direction the global big money tradewind is blowing. They work in eachothers interest.

    The minnows can’t allow the actual physical quantity of gold to be transparent because then they have nothing to sell and mark-up; they can’t allow the price to take such a trajectory supported by actual physical inventory to reach a level that prices too many out and costs the big money more then the minimum to keep things inflating or worst of all giving a heads-up to the masses that they are being sucked in to a NOTHER bubble.

    Like many indicators of governments fullfilling their fiduciary responsibility to the citizenry, we see they have failed, favoring the Banks and Big Money.

    Every dollar printed is another share of gold.

  12. Jojo says:

    Well, WHY shouldn’t countries like Italy and Portugal, who are begging for bailouts, have to sell their gold before getting any handouts from the EU, IMF or the FED? I don’t recall anyone discussing this issue previously.
    Italy’s gold has a street value of about $123 billion — easily enough to cover this year’s $80 billion budget shortfall. Portugal’s $19 billion in bullion more than covers its $13 billion deficit. France has $122 billion worth of bullion, enough to make a massive dent in its $150 billion deficit.

  13. Greg0658 says:

    Al .. I’ve seen pictures of pallets upon pallets .. with cu of stamps of authenticity & log#s .. solid thru & thru … as like the pallets of billion$s … I believe – in what I don’t know (in the voice of Rodney Dangerfield)

  14. Stan Klein says:

    The statement about gold having “virtually no practical or industrial utility” is seriously incorrect. Take a look at any top quality electrical or electronic device or interconnecting cable and you will find gold-plated contacts and/or gold plated conductors. Gold is the best conductor of electricity and is frequently used in electronics.

  15. HowardA says:

    Here’s another factoid: In 1952, my birth year, median household income would have bought 113 ounces of gold. Now it buys only 32 ounces; a 72% decline. Middle class incomes have lost similar value versus the Dow. In ’52 a family would need to save 6% of income (for 21 years) to finance a child’s Ivy league education. Nowthey’d need to save 18%. In ’52 to accumulate a 20% down payment on an average house, they would need to save 8% of income for 5 years. Now they’d need to save 14%. In ’52 healthcare costs were 10% of median household incomes. Now they are 45%!!! The decline of the middle class is being ignored by our “candidates”, however,the bottom 3/4 of the current generation, will not be able to afford these “middle class” needs. ….. My “radical” solution: A $10,000 per year stipend to all adult citizens under 65,which would cost $2 trillion, financed by elimination of social safety net bandaids, unfair tax expenditures, and tax increases on the upper class,. The money supply is currently increasing $1 trillion a year anyway; this way the middle class would benefit from this increase. If 25% is invested, the stock market would get a 5% boost. In addition, the economy would be stimulated, The real estate market would be supported. Financial institutions would be strengthened by the additional deposits. These “Citizen Accounts” are needed to give the middle class a chance of surviving!!!

  16. louiswi says:

    I kinda get a kick out of listening to the goldbugs. Just saw an ad from a gold selling company and the message seems to be “give us your totally worthless fiat paper money and in exchange we’ll give you our rare and priceless gold”. It just seems odd anyone on this earth would fall for that line-but they do!

  17. BenGraham says:

    “Petey Wheatstraw Says:


    … As I said, it’s between inflate and default. I’m not sure what $50T in assets anyone would come after, but they can’t take any assets if we print.”

    The FEDERAL debt is NOT $53T, it is about $15T. That “USD debt” is $53T is the sum of all private (read corporate, personal, etc) debt plus Federal debt. That debt was lent, contrary to popular belief, on the basis that it can be serviced by mortgage holders and businesses, often collateralized by cash flow, real estate, receivables and other assets. If the borrowers of that debt can’t keep current, the lenders will take the collateral on that debt, ie. houses, buildings, cars, real estate, businesses, whatever. You don’t have to print $50T, the assets that debt was lent against- the credit of the US enterprise- will transfer ownership.

  18. ElSid says:

    Jojo Says:
    December 21st, 2011 at 12:14 am
    Well, WHY shouldn’t countries like Italy and Portugal, who are begging for bailouts, have to sell their gold before getting any handouts from the EU, IMF or the FED? I don’t recall anyone discussing this issue previously.

    Good question, Jojo. And who is answering that question, through their actions? Central bankers and heads of state. Interesting how they are well aware of the bottom line on gold as it relates to national sovereignty, what Greenspan called “the ultimate form of payment”, and most importantly, their last “AAA” asset.

    All over Europe, countries are “privatizing” national treasures and putting the same up for collateral for ECB loans (google “Christiano Ronaldo” and “collateral”), but somehow, so far, to my knowledge, no one has said anything about their gold. The ECB apparently hasn’t asked countries to sell their gold, though do I seem to remember that the ECB asked PIIGS to put it up as collateral with the ECB, a notion that I think was balked at.

    Now why doesn’t the ECB, as you suggest, dig in their heels on this issue? Maybe because they know that gold is really all they have as an ultimate backstop to what Bill Gross just the other day called their “shell game” (the LTRO)? Maybe the central bankers are gold bugs?

    Or, sober-non-gold-bug folks, maybe they know what would happen to the euro if they started selling their gold?

  19. northendmatt says:

    I have to say, I really disagree with the statement that gold has no industrial utility. Practically all rare metals are extremely useful for some industry or technology. Gold has a multitude of industrial uses, most relating to its excellent electrical and heat conductivity. The reason that goldbugs are loons is not that gold has no industrial utility, it’s that hoarding gold is no different than hoarding, say, neodymium.

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