In the last six months there has been a rebound of 50% in the great majority of world stock markets.
There has also been a comparable rebound in the price of oil, with West Texas oil rising very close to $80 a barrel. In the oil market there has been heavy two-way trading in options. There could be a sharp spike in the oil price if speculators have to cover their positions.
At the same time the US dollar has remained weak, and now stands at $1.4886 to the euro and $1.66628 to the pound. This is close to a 14-month low on a trade-weighted basis. The poor performance of the dollar reflects the low US interest rates and the twin US fiscal and trade deficits.
The demise of the dollar
The dollar nevertheless remains the world’s leading reserve currency, with the euro in second place. Investors are naturally anxious to protect themselves against markets, including currency markets, which have shown such a high degree of volatility.
The Chinese, who have the greatest number of dollars in their currency reserves, have already suffered substantial losses.
In what amounts to a crisis of the dollar, the euro is in second place as a reserve currency, but there are potential threats to the future of the euro, due to the weak productivity of the Mediterranean economies. There is a big stretch in productivity growth between the German and the Southern European regions.
The fall in the dollar against other currencies includes a devaluation of the dollar in terms of gold, which now seems to have stabilized at a dollar price of $1,050 an ounce.
The circumstances do indeed appear to be uniquely favourable to gold.
Interest rates and therefore carrying costs are exceptionally low. The dollar is exceptionally weak. The technical market position is strong, including good demand for gold in terms of jewellery. The oil price – which is often linked to gold – is rising. Those who believe that oil is due for a further rise to $100 a barrel are likely also to be confident about holding a proportion of their investment in gold.
I would be bullish about both commodities, as I have been in the past. I would not exclude a further rise in the oil price even to a level of $120 to $140 a barrel in the next twelve months; equally I would not exclude a rise in the gold price to $1,500 an ounce.
Protection for investors; play time for traders
One reason for expecting a higher gold price is the way in which the panic in banking has spread into the currencies. Gold always has the advantage that it is a real and tangible asset. All the paper currencies are the debts of Central Banks which have issued the bank notes. Gold is an asset in itself, but not a debt of any bank or government. The more nervous investors become about paper currencies, the more attractive gold will seem to be.
The recession has destroyed investors’ confidence, despite the remarkable recovery of the last six months, and some of the confidence has been destroyed permanently.
Maynard Keynes, in his General Theory (1936) writes of the importance of “liquidity preference”, that is the desire of investors to be closer to cash. In a slump there is no substitute for cash – as the saying goes “Cash is King”.
But gold is the currency which offers the most reliable liquidity. Gold is seen as preferable to the dollar, because it does not depend on anyone’s economic policies; it stands for what it stand for, it is what it is.
In practical terms, investors should reinsure with a gold holding, perhaps of 5% or 10% of total investments. That would have been an excellent policy at any time in the last ten years. It will probably be a good policy for the next five to ten years as well. It is the best reserve for the private investor, and has considerable upside potential for the speculator.
William Rees-Mogg
For The Right Side
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