September 14, 2012 – Gold is Real Money Again: It’s time to clear up some myths that are untrue, misleading and no right wrong about quantitative easing (QE), gold, stocks and the economy. Trust me; you want to read this post.
Gold: BASEL III is an accord that tells a bank how much capital it must hold to safeguard its solvency and overall economic stability. It’s a global standard on bank capital adequacy, stress testing, and market liquidity risk.
Here’s the important part: At the top of the proposed changes is the new list of “zero-percent risk weighted items,” which now includes “gold bullion,” right after “cash.” If the proposals are approved by regulators — and that seems likely since adoption of Basel III will be — then this is a momentous change for the gold market. Now banks will be allowed to hold bullion in their vaults and count it among their Tier 1 assets — in other words, the least risky assets. That by itself would be bullish for the gold price, as banks that recognize gold’s unique characteristics seek to stockpile more of it.
But that’s not the whole story…
Gold Regains Money Status again. For one thing, Basel III also stipulates that a bank’s Tier 1 holdings must rise from 4% of assets to 6%. That means that banks may not only replace a portion of their existing paper with bullion, but may use it to meet some of the extra 2% as well. In addition, this vote of confidence from the highest monetary authorities gives further impetus to the remonetization of gold. In essence, what’s happening is that from now on gold will be considered “money” in virtually the same way as cash or bonds. And banks will be given the choice between holding more of their core assets in history’s most reliable store of value vs. paper backed by nothing more than the promises of increasingly wasteful governments.
Finally, there is the impact on individual and institutional investors. There are a number of positives for gold going forward.
The net result of Basel III and associated adjustments to US regulations will be an increased recognition of gold’s safe-haven status across all markets. And that translates into higher global demand for the metal next year, and a concomitant increase in its price.
Stocks: One of the longest-running myths in financial markets is going to damage a lot of portfolios: the myth that central bank money printing — in the context of a modern banking system — hikes the value of stocks.
Many academics still think printing lots of money — which is thought to permanently increase stock prices — will lead to some sort of trickle-down economy phenomenon. Ben Bernanke said as much in his famous November 2010 Op-Ed in The Washington Post: “Higher stock prices will boost consumer wealth and help increase confidence, which can also spur spending. Increased spending will lead to higher incomes and profits that, in a virtuous circle, will further support economic expansion.”
Since then, the S&P 500 has rallied from 1,200 to 1,430, mostly on the belief that stocks are a good substitute for bonds. In other words, the Fed’s actions have temporarily pushed stock prices higher and when the Fed stops money printing, stocks could quickly fall back. This is untrue.
The Fed can’t grow the intrinsic value of stocks. Companies can do that only by earning returns above their cost of capital. In the coming quarters, many companies that had been earning returns above their cost of capital will be earning lower returns. Free cash flow will follow returns lower. Look at Intel’s latest revenue warning; look at FedEx’s earnings warning. Profit margins have peaked in many industries. Manufacturing companies exporting to Europe and China will continue to suffer. Apple can hold neither the stock market nor the economy up.
Meanwhile, household budgets out in the real world are straining to the breaking point. This morning’s data showed the US labor force participation rate at a terrible 63.5% — the lowest in 31 years.
So Ben Bernanke is responding to this silent crisis the only way he knows how…by pushing repeatedly on the “print money” button at the Federal Reserve, which is called “quantitative easing,” or QE. And it’s a sure bet that QE3 is coming soon – this is an election year! With each successive round of quantitative easing, demand for gold and other stores of value will rise and demand for stocks will weaken. Update – Today, the FED announced it’s next round of QE.
Fed officials have been all over the media for weeks, laying the groundwork for a third round of quantitative easing. By preparing markets for QE3, the Fed refuses to let real-world evidence get in the way of its beloved theories…Perhaps once the global paper money system is restructured, involving some sort of gold standard, sanity will return to the Fed and other central banks. Until we see more signs of sanity, hold a core position in gold, silver, and precious metal mining stocks. These asset classes will be the prime beneficiaries of future printing.”
The Fed does not have control of things. They will spiral out-of-control on a global basis. Stocks will plummet to unthinkable low levels, while hard assets like gold will rocket higher. You may think you don’t own any stocks, bonds. However, your retirement fund, insurance company and 401K do. Realize this; there is no safe haven except gold and hard assets.
The Master of Disaster