In reality, pension fund
managers are struggling with capital preservation, let alone obtaining an
8%-annual return as often assumed in defined-benefit plans. Pension funds can
dissipate through market collapse or fraud such as MF
Global and AIJ. Needless to say what Middle East wars can do
to oil price and world economy!
Since the 2008-crisis, we know that the world financial system is
precarious if not outright unstable: saddled with huge debts and serious budget
deficits year after year. World finance and the stock markets have been kept on
live support with trillions of dollars issued electronically by central banks
to counter against the massive destruction of equity. This life support system
is like oxygen to a dying patient. It will be removed only when the nations'
real GDP grows at a sustainable rate, which is the basis for the nations’
budgets but is highly unlikely given the continuing effort to reduce debts by
individuals and companies, increasing regulatory complexities, out-sourcing,
lack of competiveness, systemic corruptions, high taxes and unpredictable
governments' interventions and fiscal policies.
The financial system is unstable because of (i) increasingly
bigger debts that need to be continually rolled over and serviced; (ii) huge
toxic assets remaining in the system; (iii) contagion among financial
institutions & investment funds--much like a deadly virus: every
unpaid/lost dollar triggers a 9-dollar loss or more down the chain (for more:
search "fractional reserve system", "credit default swap",
“over-the-counter derivatives”); and (iv) loss of confidence of depositors
causing bank run and capital outflow.
While the Greek saga has been in the news for over 6 months, few
people are aware that more than 11 US states (Wyoming,
Montana, Missouri, Colorado, Idaho, Indiana, New Hampshire, South Carolina, Utah, Washington ) are so concerned with the potential collapse of the US dollars that they passed legislation to issue gold and
silver coins as legal tender just in case. The US$ has enjoyed a tremendous
advantage as the world’s reserve currency & for oil/trade transactions, but
such advantage is diminishing as more & more countries are diversifying
away from the US$.
If I as an individual have a perennial cash flow problem, I can
take cash from one of my 10 credit cards to spend and meet the minimum
payments, but eventually I will either go bankrupt or must win a lottery. In
contrast, countries with cash flow problem will simply issue new dollars,
pounds, or Euros as much as necessary--until the currency no longer has any
value.
Countries will have to keep pumping fresh money into the system
(i) to keep it alive as long as possible; (ii) to cheapen the debt load in
preference to bankruptcy or default; (iii) to debase currency for short-term
competitive advantages, and (iv) to get politicians elected and the population
calm (like a frog enjoying the warmth of boiling water).
Thus, surely:
1. Real value of currency will decrease with
time—at least by the nominal inflation rate which is actually way too low
compared to the actual inflation rates (John Williams, "Shadow Government Statistics").
2. We need to preserve retirement capital against
inflation and potentially serious currency debasement and depletion of pension
funds. This needs a strategy of investment with minimal risks and good
potentials based on fundamental long-term trends.
Regarding investment, financial advisors will most likely advocate a diversified balanced “low risk” portfolio (of stocks, mutual funds, bonds) for pensioners. Almost none will mention precious metals such as gold and silver because i) they get no commission from it; and ii) they are too young/ignorant/inexperienced to appreciate the value of precious metals as store of value through the ages.
While hoping for the best, I certainly like to plan for the worst.
Should the worst come; precious metals (e.g. gold & silver) will be the
last man standing as proven over and over throughout human history. Precious
metals should be part of your portfolio, first as insurance against the world
on fire, and second, for substantial nominal appreciation as fiat currencies
are debased—I’d discuss some issues related to precious metals a moment later.
A strategy: Let ‘X’ be the net present value of the total pension
of, say the next 10 years, I’d hedge it by spending 0.3X to buy precious metals
(PM) now. For simplicity, let’s ignore the time-value of money (e.g.
interest/inflation rates, etc.) in the comparison of potential outcomes from
various scenarios. The total value of my “portfolio” now is: X + 0.3X = 1.3X.
Two extreme scenarios:
1. The best for the world: Money creation stops and
austerity reigns while assuming a stable society, financial system and economy
with low inflation. Here I would simply enjoy the full value of my pension and
keep my precious metals (PM) for long term insurance and perhaps passed on to
my grand-children—with no paper work, valuation, taxes, hassle of liquidation,
etc.
2. The worst: Debasement of fiat currencies by 40%
or hyperinflation. Portfolio’s real value: 0.6X + 1.61 (0.3X) = 1.08 X where
the increase in nominal value of PM is conservatively taken to be 61%. A more
likely percentage increase is 300%, and this would give the portfolio’s real
value of 0.6X + 4 (0.3X) = 1.8 X. Here, I will have to sell gradually some PM
in order to maintain my living standard, and to keep the rest for insurance.
In the worst situation, a portfolio with no PM reduces to (0.6) 1.3X = 0.78X vs a minimum of 1.08X (with PM). In the best situation, the portfolio value remains at 1.3X (no PM) vs. 1.8X (with PM). Thus, I’d put the maximum amount possible into PM, and in fact, it’s not a bad idea to borrow money (at low interest rate) to invest in PM now. The loan will be paid back with cheap, debased currency. Don’t do it if you can’t stand a temporary loss of 30%. PM market is highly volatile but the trend of the last 11 years has been up and up. With an uncertain future fraught with crises of different kinds, this trend will surely continue. When the panic comes, there is just not enough PM for hiding fiat currencies. I’d think that all the PM available for trade is less than 0.1% of fiat currencies currently in savings, stock markets and bonds.
Following are some questions/issues:
1. Isn’t
gold or silver price (at $1768/oz & $35.4/oz) too high now?
No,
actually they are still pretty cheap compared to historical peak prices adjusted for
inflation or in
relation to the dollar supply (gold
/ silver).
2. Why
are they cheap, and if true, wouldn’t that show their low potential for storing
value?
Current prices (8:30am Feb
28 2012- $1781/oz gold & $35.22/oz silver) are still low thanks to the
futures/options market for precious metals where only a tiny amount (less than
1% of traded value) of physical gold/silver actually changes hands—i.e. mostly
virtual trading of promises. This futures/options market has been manipulated
by governments via bullion banks to depress PM prices (& thereby giving
fiat currencies some resemblance of dignity). The disconnect between physical
PM and spot prices will widen, and the upcoming PAN-Asia
PM Exchange in China will be a game-changer.
3. Why is the PM market so
volatile?
The PM futures exchange (COMEX and
LBMA) is paper-based and thus highly susceptible to significant impacts due to
movements of big funds in/out of the market. Reason for such movements is
usually profit taking i) to make up for loss elsewhere; ii) to meet margin increases; or ii) to drive down the
price with the intent to buy back at a cheaper price and to cover short
positions. Dramatic drop in price can result when the manipulation is a
coordinated effort by several big players. The downward momentum is accentuated
when stop-loss orders are triggered on the way down. Currently, the number of
short positions in both silver and gold is huge, and thus, I’d expect
repeated attempts to bring down the market. I’d suspect these market take-downs
are carried out by hedge funds and/or bullion banks in collusion with the COMEX
Exchange. They will occur until the shorts are toast (by world events) or when
PAN Asia Exchange drives the COMEX and LBMA out of the game. I’d view them as good
opportunities to load up on physical PM. Since the fundamentals-driven trend
remains intact, investors just have to endure such crashes. The price always
recovers sooner or later unless the world is bailed out by Martians.
4. If
the PM market is so volatile, why should one take risks?
If you can’t stomach
short-term volatility, then don’t bother. However, PM is an insurance as shown
above and its trend is up and up in the intermediate and long term. Do you see
any way out for the world’s finance and economy?
Fiat currencies and
sovereign bonds are not only much bigger bubbles; they are also a fraudulent
state-sanctioned Ponzi scheme. Nevertheless, main stream economists and media
play it safe by toeing the establishment line while denigrating precious
metals. Noting that fiat currencies diminish to zero after 50 years in average,
I’d rather hold 1oz of gold than hide $1800 under the mattress for 5 years.
6. Between
gold and silver, which is preferred?
PM experts say silver
has greater potential in the long run but its price is much more volatile. The
ratio of 60/40 for gold/silver as in Sprott’s CEF trust fund appears
reasonable.
7. How
to invest in PM?
If
you have cash, buy physical PM (coins, bars) from Kitco (better price than Scotia Bank and no paper hassle). If your money is in RRIF, RRSP, then buy CEF.A and PHS.U. Both trust funds are in Canadian dollars (stay
away from US$) and fully backed by physical PM (serial numbers of bullion bars
published regularly and audited twice/year). The funds’ units are traded like
stocks, and are far safer than ETF such as GLD and SLV where the bullion bars
are possibly loaned for price-manipulation scheme.
Further info
HHK
February 29 2012
