Moneyization: The global financial phenomenon of individuals and businesses moving their funds to monies in which they have the highest confidence, or money in which they have a higher store of faith.
Or, Follow the Money
While advice to follow the money has been given far too often, it remains good wisdom. Money is moving to where it is safest, and likely to rise in purchasing power. Individuals have understood for more than forty years that they cannot trust their government to maintain the purchasing power of their national money. That phenomenon of individuals moving to money in which they have a higher faith, moneyization, is a real world phenomenon. A small sample of that shift in money is shown in the first graph.
The first graph shows the current investment in Gold and Silver ETFs . The triangles in the graph represent the investment in Gold ETFs, and use the left axis. The bars represent the size of Silver ETFs, and use the right axis. This is indeed a small sample as it does not include physical holdings of Gold by individuals or other means of investing in Gold and Silver. However, it gives a picture of what individuals have been doing with their money. A significant number have moved from their national moneys to Gold and Silver.
The principal reason for this move to Gold is that national moneys like U.S. and Canadian dollars have been losing purchasing power. The second graph portrays the Gold price of the U.S. dollar, which is its purchasing power. Shown is how much of real asset money, Gold, is required to purchase a U.S. dollar, or how much real asset money, Gold, can be purchased with one U.S. dollar. The trend is obvious.
In the third graph is shown the recent experience for the Canadian dollar. Some strength is shown in the first part of the graph. That experience was not lasting as it was built on two special factors. The first was the onerous enforcement of U.S. banking regulations which made many Canadians feel like criminals at U.S. banks. Rather than be insulted by these actions, they took their money home, or elsewhere. Second, that period was marked by low U.S. interest rates on deposit accounts and negative returns on U.S. paper equities. That graph also casts considerable doubts that the Canadian dollar is a commodity proxy. "Paper" money unless convertible into a real asset or commodity is always just "paper" money.
Investors are prone to shift wealth to Gold for several reasons. First, and probably most important, is that the returns on paper assets have been so dismal. Those returns are portrayed in fourth graph. Over the past seven years, investors in U.S. paper equities have barely had a positive return. Were it not for Greenspan driving interest rates to forty year lows, the recovery in the latter period would not have occurred. As purchasing power has not been maintained by paper equities, investors have shifted to Gold.
Investors today are at a fork in the road, One road is the rosy scenario created by the "good news" boys and girls in the business media. This road is marked by such a high degree of wisdom and discipline at the Federal Reserve that the U.S. economy will be guided onto Goldilocks path with low inflation, modest growth, and lower interest rates. Understand the real motivation for these forecasts. This is the forecast necessary to keep the hedge fund industry viable. Without this outcome, many of these forecasters will be picking grapes next year.
Two important factors are ignored by the "good news" boys and girls. Those items are particularly important to the purchasing power of dollar-based wealth. First, what happens to the value of the U.S. dollar on international markets if the Federal Reserve does attempt to ease U.S. interest rates? Second rather than modest growth, what if the U.S. economy is about to enter free fall due to the implosion of the housing bubble? What happens as financial frailties, created by the housing boom, become financial failures in 2007? What happens to the U.S. dollar as financial difficulties spread through U.S. economy?
A lot of possibilities are ignored by the "good news" boys and girls. Possibilities that serious investors, managing their own wealth, need to answer. Those boys and girls managing hedge funds, mutual funds and other creations of the Street have the luxury of making such forecasts. The money they are managing belongs to someone else. They get their fees and their salaries regardless of what happens. Look again at that fourth graph. It is after fees. Gold pays no fees, and perhaps that is why the Street shuns it.
Motivation for this writing was the explosive rally in the U.S. stock market last week. That was followed on Thursday and Friday by a hammering of Gold in New York trading. All of this happened because of the happy spin put on the release of U.S. inflation numbers. Despite the near uselessness of these statistics, that was all it took to ignite the emotions of the small children managing hedge funds. Those U.S. inflation results are shown in the fifth graph, above.
Admittedly the second derivative is a powerful force. However, seeing a slowdown in that series seems to be somewhat of a reach. A similar pattern occurred in early 2004. This measure of inflation, phony as it is, then went on to rise further. Too many dollars exist in the world for dollar prices to weaken. Certainly moderation could develop for a period of a few months. The trend, however, will likely be dominated by the excess supply of dollars in the world.
The real issue is what will be the reaction of the U.S. dollar on foreign exchange markets if the Federal Reserve does attempt to lower U.S. interest rates. Expectations of lower interest rates in the U.S. ignore the damage that such an action would have on the value of the dollar. A weakening dollar would then tend to push inflation up. The Federal Reserve has again painted itself into the monetary corner.
And at the same time the collapsing U.S. housing bubble is being ignored. The mass of anecdotal evidence will not remain hidden long. Toll Brothers, a U.S. home builder, recently reported that sales are off 47% from a year ago. Paul Owers' recent article, "Rampant overbuilding means condo boom may go bust," in the Florida Sun-Sentinel, 20 Aug 2006, is informative on the developing situation. Owers wrote,
"Today, though, the meteoric rise of condo development is on the verge of crashing down to earth. . . As of June 30, almost 52,000 condo units in Palm Beach, Broward and Miami-Dade counties were either under construction or finished and still vacant ... More than 11,000 units remain unoccupied in South Florida, according to Metrostudy.... In Palm Beach County, for example, more than a quarter of the 379 condos at The Moorings in Lantana are for sale.... Industry observers call these high-rises with many vacancies 'see-through condos'."
One lucky investor was mentioned. He had reserved a two-bedroom unit at about $800,000. Lucky? The whole project was cancelled by the developer. Read complete article at www.sun-sentinel.com.
Today, too much pessimism is felt by some Gold investors. Rather, the future is bright for Gold investors. Reality is that if the Federal Reserve eases, the dollar will plummet. The price of your Gold will rise. At the same time the U.S. housing bubble is imploding. Financial difficulties will become acute in early 2007. Foreign investors are likely to flee dollar assets, sending the dollar down. This period is one of those rare ones, not seen for 30 years, when the situation is near ideal for Gold. In either hand of the economist, Gold is going to glow brightly.
Silver is a good starting place to look for direction. Events like Lebanon do not flow as directly into that market as occurs with Gold. Hedge funds are more likely to play in Gold on imaginary inflation news than Silver. Too many are still struggling with the rally up to the creation of the Silver ETF. The creation of the Silver ETF was an extraordinary event. It represented a discontinuity in the market's structure. Therefore, it should likely be considered a unique event that should not cloud our assessment o the future.
Take your hand and cover the left-hand side of the Silver graph. The picture that remains is of a new market structure slowly evolving. That new structure has a decisively positive trend to it. Focus on the new structure and the future. A move above $12.50 on Silver would likely mean a new cycle high is possible before year end.
That Silver structure should help sort our thinking on Gold. Too much analysis of Gold also focuses on the hedge fund driven move of earlier this year. Too much thinking focuses on Lebanon, phony news on inflation, or whether the price of oil was up or down in the past twenty minutes. The Federal Reserve has demonstrated its easy money tendency with the minutes of the last FOMC meeting. Policy action by the Federal Reserve will likely err toward ease, and be resistant to raising rates.
Gold investors are well positioned. If Federal Reserve eases, the dollar will go down and Gold's price will rise. With the housing bubble imploding, any rate increase will exacerbate the coming financial problems. As a consequence, dollar falls as foreign investors flee U.S. investments. Gold would then rise in value. The former mistakes of the Federal Reserve created an environment conducive to the Gold Super Cycle when U.S. interest rates were pushed to 1% to hype the economy. The long-term target for Gold is now slightly below US$1,400. Gold belongs in your portfolio, and the only decision that remains is when to buy it! As the chart below shows, buying when fund induced selling occurs can be accomplished. Charts of Gold in Canadian dollars, Euros, and British pounds also available.