Gold continues to shine as one of the best performing asset classes through the first half of 2008, according to the USAGOLD Annual Survey of Investments. Only the CRB index, which of course includes a gold component, outperformed gold itself over the past year. Arguably it was the latest surge in oil prices that allowed the broad measure of commodities to supplant gold from the number one position over the last month of the second quarter.
As encouraging as the coveted bottom of the survey chart is to the gold owner, the top of the chart is extremely troubling for most households. The two biggest losers are the asset classes where the vast majority of the net worth of most individuals is wrapped up, equities (stocks, mutual funds, 401ks, etc) and the family home.
As the month of June came to an end, the DJIA had lost just over 15% from the same period last year and has retreated more than 20% from the all-time high, on the verge of confirming a bear market. With the U.S. economy limping along on the cusp of recession, the stock market remains vulnerable to a protracted bear market.
Gold has benefited from diversification flows out of the more traditional asset classes, such as stocks. This is a trend that is likely to continue and keep equities under pressure. Gold mining stocks, which finished in the number three slot on our survey, should remain an exception. Look for gold mining stocks to continue outperforming other sectors and the broader market indexes.
The present economic turmoil can ultimately be traced back to Main Street -- the deflation of the housing bubble -- which began roughly a year ago. The S&P/Case-Shiller home price index shows that the average home price in twenty major markets has fallen just over 15% y/y.
The combination of a 15% decline in the stock market and a 15% decline in the value of the family home has most people feeling significantly less well off this year over last. Those with the uncommon foresight to diversify their exposure to these two critical asset classes with gold ownership are certainly weathering this economic storm in far better shape than most. It's definitely not too late to start that process.
With the outlook for stocks rather dubious, many investors have historically turned to cash and/or treasuries. However, these choices are not particularly desirable due to the insidious bite of inflation.
A dollar held in your pocket for the past year would buy 4.2% fewer goods and services based on the government's own Consumer Price Index (CPI). Shadow Government Statistics (SGS) publishes an electronic newsletter that analyzes the flaws in current government economic data. They suggest that inflation as represented by CPI is understated by roughly 7% each year. The SGS alternate CPI shows that the same dollar in your pocket may actually buy nearly 12% fewer good and services. In our view, the SGS calculation comes closer to expressing the true inflationary reality in the United States than does the government's Consumer Price Index.
Jim Bullard, the president of the St. Louis Fed, concedes in a recent editorial that, "It is hurting Fed credibility to say that we are trying to keep inflation low and stable, but at the same time we are not counting some of the prices that are going up at the most rapid pace."
Depending on whose measure of inflation you're inclined to believe, U.S. treasuries and the average CD rate are either barely keeping pace with official inflation, or well behind the actual curve. Either way, neither has been a particularly good choice for wealth preservation when inflation -- by any measure -- is factored into the equation.
The dollar on an exchange rate basis continues to erode as well, falling nearly 12% y/y versus a trade-weighted basket of foreign currencies. The dollar has extended its long-term downtrend over the past twelve months as a result of rising concerns about the health of the U.S. economy, comparatively low interest rates, and our ever-growing national debt.
The Fed aggressively lowered the Fed funds rate from 5.25% to 2.00% over the past year in an effort to stimulate the anemic U.S. economy. At the same time they were flooding the market with dollars through a series of new liquidity facilities, attempting to prevent the global credit markets from seizing up.
While the Fed stopped publishing M3 statistics in 2006, the St. Louis Fed's Money Zero Maturity (MZM) is a reasonable proxy for the old broad measure of money supply. MZM shows a 15.5% increase in money supply between June 2007 and June 2008. This figure is pretty consistent with the SGS M3 continuation.
The Fed's expansionary and loose monetary policy has unquestionably played a significant role in the decline of the dollar, spiraling inflation, and the savvy investor's desire to own something tangible as a hedge.
We've included the Liv-Ex 100 Fine Wine index in this year's survey as a point of interest. Fine wine is an investment generally associated with higher net worth individuals, and its performance is reflective of the broader flow out of paper assets and into tangibles.
Gold appreciated 43.01% between June 29, 2007 and June 30, 2008. Despite this remarkable performance, gold is actually somewhat of a laggard in the commodities realm. Gold is one of the few major commodities still waiting to surpass its inflation-adjusted all-time high, which comes in around $2,300 per ounce.
The Bank of International Settlements (BIS) recently warned that the nearly year-old credit crisis is a long way from over. As credit losses mount and lenders hoard liquidity, many believe we are still in the midst of the worst financial crisis since the Great Depression.
"The current market turmoil is without precedent in the postwar period. With a significant risk of recession in the US, compounded by sharply rising inflation in many countries, fears are building that the global economy might be at some kind of tipping point," said Bill White, the chief economist for the BIS.
Such concerns could potentially wreak havoc on non-tangible assets in the coming survey year. These worries, along with gold's very favorable supply/demand fundamentals, could easily catapult the yellow metal back into the number one position for the 2009 survey year.
