A Classic Misunderstanding Of Gold, The Correction And Solution

Includes: GLD, IAU
by: Cliff Wachtel

The following is a response to the article: Dennis Gartman On Gold: ‘Safe Havens Do Not Fall 7% In Two Weeks, in which he reveals a number of dangerous misconceptions about gold, including:

1. Gold is a safe haven asset

2. Safe haven assets are not volatile

3. Safe haven assets are by definition sound stores of value

“Save havens do not fall 7% in two weeks as gold in dollar terms has done. Save havens do not fall 3.6% in two weeks as gold in EUR terms has done.

Safe havens are safe. Safe havens are stable; gold is not safe and certainly it is not stable and to think otherwise is to learn a very serious lesson in the course of the past two weeks.”

Here’s the correction of above errors that everyone needs to understand:

1. A safe haven asset is not an asset that has lower risk. It is simply an asset that moves in the opposite direction of risk assets like stocks (in general). For example the U.S. dollar is considered a safe haven, yet it has fallen dramatically vs. a variety of “risk” assets over the past decades.

For numerous examples of this, see here.

2. Safe haven assets are therefore not necessarily safer stores of long term value, and never have been. That’s not the meaning of the term. BI editors should be aware of that. For example, the Canadian dollar is considered a risk asset and risk currency, yet it is a far safer store of value than the U.S. dollar due to its far more responsibly managed banking sector and fiscal/monetary policy.

3. Gold is a currency hedge, neither risk nor safe haven asset. It can rise or fall in good or bad times, depending on whether the markets feel greater or lesser confidence in purchasing power of fiat currency, or in times of rising extreme fear (like now due to rising contagion risk) when there is demand for liquidity (related overrides inflation/loss of purchasing power fears). For full details see: The Secret To What Really Drives Gold Prices.

That’s what’s happening now: Gold liquidated as markets want cash over preservation of purchasing power – we have seen similar behavior at earlier stages of EU crisis panic, also when U.S. markets dove in late 2008-early 2009 – nothing new here.

It’s quite clear that the EU will need to print euros just to buy time to prevent contagion. See: Mauldin: Germany Has Waved The White Flag And Will Allow Printing And Inflation.

The euro will lose value, as the second most widely held currency. Once panic subsides, most likely due to new "stimulus/money printing" (yes, in this case it will indeed be the same thing, technicalities aside), gold has an excellent chance of rising, barring massive central bank dumping.

Central banks will have to be printing money/risking inflation because it is more politically expedient than raising taxes and cutting benefits and jobs (French President Hollande was elected to do this, Greek government voted out because it didn’t, Merkel is losing for similar reasons).

As governments inevitably devalue currencies to further policy ends, they’ll be taking our savings down with those currencies.

Disclosure/disclaimer: No positions. The above is for informational purposes only. All trade decisions are solely the responsibility of the reader.