Be Prepared for All Possibilities. The Case for Gold
The comments below are an edited and abridged synopsis of an article by Degussa
Investors’ risk concerns have declined since the economic crisis of 2008/2009, likely because central banks have lowered interest rates and ramped up the quantity of money. Central banks are prepared to do anything to fend off another crisis.
Low interest rates have fueled higher stock prices, because future corporate profits are discounted at a lower interest rate, and corporate profits tend to increase as the cost of credit funding decreases, making stocks rise. Low interest rates encourage consumers to take on debt, financing their lifestyles with easy credit.
Here’s the downside: Low interest rates plus increases in money created through bank credit expansion invite crisis, because artificially suppressed interest rates lead to malinvestment. Sooner or later it becomes clear that the expected investment return falls short of expectations, and the boom reverses.
Lower interest rates and expanding the money supply creates an illusion of prosperity. New technologies and gains in productivity can keep the boom going. The longer it lasts, the greater the amount of malinvestment and the higher the risk of something unexpected happening, thus killing off the boom.
In such a case, central banks would likely embark on a broad-based monetization policy to keep the system from crashing. Today, the savvy investor should not ignore the risk of boom turning to bust. One way of dealing with a risk scenario is by adding gold to the portfolio.
Gold cannot be debased by monetary policymaking. It does not carry a credit, or default, risk. Also, the current gold price is not unreasonable. This is an excellent reason to consider gold as portfolio insurance: It offers not only protection against the loss of purchasing power of official currencies, but also it may go up in price once the crisis hits. Then the investor can sell gold at a high price and use the proceeds to buy attractive assets at a depressed rate. Thus, holding gold may even increase the portfolio’s return on investment.