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David’s Commentary:

You will be reading a lot about the mid-term elections in the coming days. No matter how it plays out, half the people in the U.S. will not be happy. Maybe the best result would be for the Democrats to take either the House or the Senate. That way, government will grind to a halt. The less government does, the better. Sure, under President Trump the stock market soared, and more jobs were created, but our deficits are totally out of control and we are isolating ourselves from our friends and allies. We are backing Russia and China into a corner and a new conflict in the Middle East with Iran
seems very likely.

A neighbor of mine does a lot of traveling throughout Europe and Asia. He tells me that the people he talks to over there all ask him, “What is going on in America?” They think we are crazy. I’m not sure about the “we” but I can certainly understand that they think Trump is out of his mind. In 24 hours we will know how this will play out. Either Trump will have a mandate to continue to pursue his policies – or he will be a lame duck president for the next two years.

I hope that this doesn’t confuse you. Gold is getting ready for one of the greatest bull markets of all time. Hum! Haven’t I been telling you to trade in your gold for silver all of this year? If we are getting ready to see the highest gold prices of our lifetime, why would I tell you that gold is “overpriced”? The thing is, I am not telling you that gold is overpriced. I am saying that gold is “overpriced” relative to silver. The upcoming gains in gold, and it will be something to see, will not match the gains in silver.

Recently, Dr. Stephen Leeb told King World News

“Gold Is Set For One Of The Greatest Bull Markets Of All Time. The last 40 to 50 years have been outliers for gold. Gold has played a monetary role for several thousand years. But until the 1970s, its well-deserved reputation as a store of value was earned almost exclusively during periods of deflation, not inflation. I am comfortable in saying that while gold could have one more downdraft, it almost surely will be the last one. Buying now and buying with both hands on any weakness is buying a stake in what will be one of the greatest bull markets of all time…

David’s Commentary:

Contrary to what most people think, Dr. Leeb states that gold does better in deflation than during inflation. He is correct. He sites The Golden Constant, a book written in 1977 by Roy Jastram and data on the stock market culled from Roger Ibbotson. I have written articles on both of these in the past.

Dr. Leeb has created a chart that compares the performance of gold to stocks going back to 1824

David’s Commentary:

Most of our readers probably think that inflation and the dollar have the greatest affect the price of gold. They would be wrong. In fact, it is not the dollar that is relevant to gold bull markets, but the stock market. Dr. Leeb says,

“A bear market for stocks for nearly two centuries has been a bull market for gold.”

Ah, but here is where things get interesting. Since 1972 things have changed. And what could have possibly caused that? We can thank Richard Nixon, who in August 1971 removed gold as the backing for the U.S. Dollar. Nixon let the price of gold “float” instead of fixing it to the dollar at a set price.

Dr. Leeb writes,

“What’s particularly relevant for investors today is that the three most recent periods of poor market performance/positive gold performance occurred during commodity bull markets, years in which commodity scarcities led to rising commodity prices and higher overall inflation. In all three periods, the first of which started in 1972, gold was the leading performer among assets considered commodities (gold should be viewed as both a commodity and a currency).

In other words, since 1972, gold has been behaving in a very different manner from all the years before. The change occurred in the context of gold prices that, starting in the early 1970s, were no longer fixed and with gold no longer playing a direct role in the global monetary system. (Jastram likely thought the gains in gold in the 1972-77 period were not durable when he made the conclusions we noted above.)

Gold Will Rise During Bear Market In Stocks
This is more than a history lesson. Rather, it offers a clear message to investors today: If there is a bear market in stocks in 2019 that leaves the three-year total return in equities in negative territory, gold is nearly sure to rise.

Here is where the rubber hits the road. Dr. Leeb says,

If there is a bear market in stocks in 2019 that leaves the three-year total return in equities in negative territory, gold is nearly sure to rise. So we need to look at how likely it is we might get such a bear market in stocks, one that could wipe out the gains we have seen since 2016 and will leading to the blistering bull market in gold that will underlie a new monetary system in the East and possibly the entire world.

This is another theme I have been pounding on. Gold will not start its bull market move until the stock market implodes.

Dr. Leeb says, “It all revolves around China.”

The U.S. won the Cold War by outspending the Soviet Union on defense, with the Soviet Union running itself into the ground by trying to keep up. That led to a decade or more of dire consequences for most of the FSU, including Russia.

This time around it’s the U.S. vs. China, a much more formidable foe. And this time around, it’s the U.S. that appears to be in the far more vulnerable position.

A startling recent data point has been the poor performance of defense stocks despite blockbuster earnings. Whenever stocks sell off in the face of much better than expected earnings, it signals that investors have some general unease about the sector. In this case, I see it as a sign that investors believe we won’t be able to raise defense spending. Even Trump in a cabinet briefing on October 31st said defense expenditures will fall in 2020. The current allocation of $716 billion has become a ceiling not a floor.

In other words, when it comes to defense we have shot our bolt. We are spending as much as we can afford given all our other obligations, which now translate into trillion-dollar deficits.

A strong military defense is one of the critical ingredients for any country that has or wants to maintain its currency as a global reserve currency. And when it comes to defense, China has some major advantages over the U.S. First and most important, it isn’t looking to dominate throughout the world. Rather, the sphere where it wants to be dominant is the East and in most emerging economies. This more limited objective means it doesn’t risk bankrupting itself by seeking to be everywhere at once.

After a brief discussion of China’s military spending and relationships with Japan and India, Dr. Leeb concluded,

China has the edge in defense, in the size of its economy, and in trade. Those are the three key factors that make a currency credible and desirable as a reserve currency. It’s why it seems so evident that the yuan – which, as China has made plain, will be linked in some fashion to gold – will become the new reserve currency at the very least throughout the East.

Perhaps this is why China has been accumulating massive amounts of gold for the past decade or two. Gold has been moving closely in sync with the yuan. Is this the precursor to a yuan-gold backed new “reserve currency?” Leeb thinks so.

The dollar’s global reserve currency status at this point is essentially a legacy based on oil and the petrodollar. This brings us back to the Eastern oil benchmark that China has launched and that I’ve written about a lot previously. I had expected that by now we would have seen more progress in gold as well as a strengthening of the yuan in response to the benchmark. But the tariffs threw a curve ball – one that, for all the reasons cited above, I expect will prove temporary. In addition, China is deleveraging, and to mitigate any near-term damage from the tariffs it has let the yuan fall. That, in turn, has kept gold – which as we’ve pointed out has been moving closely in sync with the yuan – in check for now.

As we go forward, we expect to see the tariffs wind down and to be less of an issue. Among other things, the U.S. can’t afford to shoulder the effective tax that tariffs impose. And that will leave the path free and clear for the yuan. In the end, the current quiet period for gold should turn out to be just a brief hiatus before a new monetary system, backed by gold, falls into place.

A New Monetary System
As I have said before this new monetary system will likely be defined in terms of baskets of currencies and commodities that are exchanged using sophisticated blockchains. Gold will be the floating backstop. And given the amount of world trade I continue to expect most of us to see five digit gold prices in our lifetimes.

If you would like to read the entire article, here is the link to the article, published on King World News.

Adam Tumerkan, @ Palisade-Research.com points out that central banks are buying their most cold in years as they look to reduce risk. He says,

‘Gold is key for risk reduction’

Having a certain amount of gold in a portfolio works well to protect against sudden market drops – as I’ve shown previously (read here).

As I wrote then – “Just look at the average price of gold during times when the S&P 500 fell more than 15% over the last 20 years. . . You can see that during times when markets collapse more than 15%, gold positions would do very well. The gold mining equities and warrants do even better. . .”

Here is his data on central bank gold purchases…

This highlights the trend we’ve seen by central banks charging in to gold since after the 2008 crisis.

I wrote two weeks ago (click here if you missed it) that post-2008, central banks – especially the Emerging Markets – have insatiable gold appetite. And I believe this is helping to put a floor under the price of gold.

Just look for yourself. . .

After two decades of selling – throughout the 1990’s and early 2000’s – central banks worldwide are now diversifying their dollar reserves with gold.

The latest report by the World Gold Council (WGC) showed that central bank gold reserves grew 150 tons in the third-quarter 2018.

That’s up 22% from 2017 – one year ago.

This marks the 8th straight year of central bank gold buying – and the highest level of net purchases since 2015 – both quarterly and year-to-date.

But most importantly – the number of central banks doing the buying was notable.

To name just a few: India – Turkey – Kazakhstan – China – Russia – Poland – Hungary – Iraq – and Mongolia. . .

What did all this buying from various central banks have in common? It was the lower price of gold triggered a buying opportunity. Meaning central bankers wanted to take advantage of the stronger dollar and buy cheaper gold.

Remember – when the dollar’s stronger, gold costs less (i.e. it takes fewer dollars to buy that same gold ounce – vice versa.)

And this trend of heavy central bank buying doesn’t seem like it will be slowing down anytime soon.
Therefore – we see that during large market drops – the price of gold increases enough to offset any losses.

So – here’s the bigger question. . .

Is all this central bank gold buying signaling trouble in the global economy?

I think so.

“Gold is key for risk reduction’

Having a certain amount of gold in a portfolio works well to protect against sudden market drops – as I’ve shown previously (read here).

As I wrote then – “Just look at the average price of gold during times when the S&P 500 fell more than 15% over the last 20 years. . . You can see that during times when markets collapse more than 15%, gold positions would do very well. The gold mining equities and warrants do even better. . .”

Therefore – we see that during large market drops – the price of gold increases enough to offset any losses.

But that’s not all. . .

Having gold also improves a portfolio’s Sharpe Ratio.

For those of you that don’t know – the Sharpe Ratio is a popular metric that helps investors understand the return of an investment compared to its risks. Meaning it measures a portfolio’s risk-adjusted returns relative to peers based on a ‘standard deviation’ (a black swan event).

Thus the higher the ratio – the better the risk adjusted returns. . .

And as New Frontier Advisors and U.S. Global Investors discovered – an institutional portfolio with at least a 6% weighting in gold has a significantly higher Sharpe Ratio compared to portfolio’s that didn’t have any gold at all.

What this means is – gold in a portfolio greatly reduces volatility without hurting overall returns. . .

Now that we know this – It’s not hard to see why Hungary’s Central Bank Governor increased gold holdings tenfold.

This also helps explain why other central bankers worldwide are opting for gold as well.

That’s because of Balance Sheet Theory – coined by Michael Pettis (one of my favorite economists).

Balance Sheet Theory basically means that investors – during a crunch period – look at governments and central banks as if they are looking at a corporate balance sheet.

The better the assets are against the liabilities – the more robust things are. . .

But the worst the assets are against growing liabilities – the more fragile things are. . .

And as we watch the Emerging Markets get slaughtered this year in 2018 – it’s not hard to see why. They have horrid balance sheets with mounting liabilities against diminishing assets.

So keep all this in mind when you ask yourself, ‘why are central banks buying so much gold since 2008?’

They are doing it to protect themselves. .

David’s Commentary:

Remember, just because I am discussing gold does not mean that I have forgotten about silver. You can sum it all up in one sentence: Silver is gold on steroids. Silver will move up, along with gold, but it will outperform it. In this century, gold moved from a low of $252 to a high of $1890 in 2011, a gain of 750%. Meanwhile silver went from $6 in 2001 to a high of $54.53 in 2011, a gain of more than 900%.

I still own a lot of gold, but I own much more silver. I have been adding silver to my portfolio using proceeds from the gold I have sold.

If you are wealthy, gold is insurance to protect your dollar-based wealth.

If you are not, then gold is a sure fire way to end up wealthy. As Richard Russell used to say, “There is no bull market like a gold bull market.” Markets are moved by fear and greed. But when it comes to gold, both fear AND greed are the motivation. When the stock market finally craters, fear and greed will abound. Gold will set new all-time records and silver will do better yet. More people will be able to afford it. The average person may have difficulty spending thousands of dollars for a single ounce of gold, but $100 or $150 for an ounce of silver is doable.

One last piece of advice. What I have done in the past is to invest 10% of the dollars I have in physical gold and silver into mining shares. They will outperform the physical metals. After they have made a significant up move, I sell them and use the proceeds to increase my ounces in physical gold. I get more gold and silver for free!

Here are a few worthwhile comments from our friend and colleague Bill Holter

As I alluded to a couple of days ago, “look around, what do you see?” People who own precious metals are quaking in their boots at EXACTLY THE PRECISE TIME they should be comfortable. We have gotten many “scared” e-mails recently, some from people I would have never guessed. Even a $10 move down in gold has sparked fearful e-mails…but why?

It should be clear to you now, the “unwind” has begun. Jim and I tried to tell you this a couple of months back, now there is absolute evidence. Look at real estate in many parts of the world. Australia, China, London, Vancouver, New York and now even San Francisco. The most important thing to look at is “volume”, as price always follows. Pricing, as it did back in 2006 has gotten to unaffordable levels…and banks have begun to pull back on lending. Ask yourself this simple question, where would pricing be if everyone had to pay cash for new purchases? I am not sure the answer but it would surely be less than 50% of current pricing. “Credit” is the reason real estate attained the values they did, lack of credit is now reducing sales volume…and thus pricing.

Then we can look at autos all over the world. Asia, Europe and North America, all markets are soft and the build up in “sub prime” auto loans has exploded. Any discussion of credit and sub prime in the same sentence should certainly not leave out “student loans”. This sector is now well over $1 trillion. Yes, for a good cause I suppose you could say, but we now have an entire generation in hock before they even leave the starting gate? Not to mention, college grads today are not exactly what their parents expected when they first wrote their checks, rather they tend to melt under pressure. Is this a “solid credit”?