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Bloomberg – Northwestern Mutual Life Insurance Co., the third-largest U.S. life insurer by 2008 sales has bought gold for the first time [in] the company’s 152-year history to hedge against further asset declines.

“Gold just seems to make sense; it’s a store of value,” Chief Executive Officer Edward Zore said in an interview following his comments at a conference hosted by Standard & Poor’s in Brooklyn.  “In the Depression, gold did very, very well.”

Northwestern Mutual has accumulated about $400 million in gold, and Zore said the price could double or even rise fivefold if the economy continues to weaken.  Gold gained 10 percent last month, the most since November.

Financial Times – When Richard Nixon destroyed the Bretton Woods International Monetary System in 1971 by closing the “gold window” at the Treasury, he severed the last link between dollars and gold.  What followed was a spiraling proliferation of increasingly spurious credit instruments denominated in a debased currency.  The most glaring and lethal example of this madness has been the growth of the unregulated derivatives market, which has ballooned in size to $600,000bn, the equivalent of almost $100,000 per person on Earth.  

The Bretton Woods collapse severed the link between the world’s currencies and gold.  Central banks were then free to create as much money as they wished.  Between 2001 and today, central banks outside the US created the equivalent of about $6,000bn.  This can be seen in the seven-fold increase in foreign exchange reserves in that period.  The money created (which accounted for most, if not all, of Federal Reserve chairman Ben Bernanke’s so-called global savings glut) was used to buy dollars and suppress the value of the currencies of US trading partners to perpetuate their trade advantage.  

When those dollars were reinvested in dollar-denominated assets, it was America’s turn to bubble.  As central banks bought up US treasury bonds, they drove up their price and drove down their yields.  However, there were not enough new Treasury bonds being issued to absorb the rest of the world’s trade surplus earnings, so central banks bought Fannie and Freddie debt as well.  That allowed those government-sponsored enterprises to acquire or guarantee more than half of all the mortgages in the country before they failed.  Between unnaturally depressed interest rates and the buying spree by Fannie and Freddie, US property prices surged.  The US housing bubble followed the ill-fated Nasdaq bubble.  However, the inflation of the US housing market was one bubble too far.  When it imploded, the global financial system was hurled into crisis, leaving the 21st century version of Anglo-American financial capitalism discredited.  

The lesson that must be learnt from this disaster is that “free market” capitalism under a fiat money regime does not produce the same blessings (sustainable prosperity) that are produced by true free market capitalism within a monetary system anchored by gold.  

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Review related articles on gold we’ve published.

Last Sunday the Wall Street Journal ran this article which offers a nice overview of the various ways in which you can have exposure to gold.  Here is what it had to say about my favorite method of gold exposure in an investment portfolio, gold mining stocks:

With publicly traded mining companies, you don’t own the metal but you do own shares of companies digging holes in the earth.  This is the most leveraged gold play, since a rising — or falling — gold price is spread across hundreds of thousands or millions of ounces the company has in the ground.

Pros: More bang for the buck.  Mark Johnson, portfolio manager for the USAA Precious Metals & Minerals Fund, estimates that ‘you probably have to put two times as much money into bullion or ETFs to get the same exposure to gold as you do with mining shares.’

Cons: Exposure to all sorts of corporate and geopolitical risks, based on the countries in which a particular gold miner operates.  And because mining is so energy intensive, rising energy prices can negate some of the increase in gold prices.

My Thoughts: By owning diversified mutual fund portfolios of gold mining stocks and holding for the long term, the risk of this asset class is minimized compared to picking a handful of individual mining stocks.  And in today’s environment, I currently have nearly 10% of my investment portfolio in gold mining stocks.

(Via Roland Manarin)

The Recent Fed Rate Cut

In my opinion the cut in interest rates is less significant than what the Fed is doing with the creation of money.  Sure, it may have some psychological benefits but what difference does it make if the rate is 0.25% or 0.75%.  It’s the availability of money that’s more important as this will help dissolve the credit freeze.

Money Creation

The Fed has been running full steam ahead with its aggressive expansion of the money supply.  Talk about historic!  Normally that would create a massive growth stimulus and it probably will, however, we don’t know when.  Historically speaking, it typically takes a 12 month lag for monetary policy to be visible on the street level.

Inflation

I don’t anticipate this being a problem (at least for now).  We have the current psychological fears to deal which are deflationary.  However, when confidence recovers and the velocity (the rate at which money changes hands) increases, there is the threat for high inflation.

Market Volatility

The volatility is down from what we witnessed months ago but investors are still hiding and the day-to-day market environment appears to be dominated by traders.  If investors ever start coming out of the closet, I expect we will see some serious upside in the market.  The bargains are clearly there but the public is so scared that another emergency is on the horizon so they stay out of the market.

Strength of Companies

Recently I read this article saying that there are more than 2200 companies around the world “offering profits to investors for free.”  That spells a classic panic.  Companies as a whole are far healthier than what we witnessed them to be in past bear markets.

Gold

The metal has been so manipulated that it is hard to come up with a true free market value.  Gold closed out 2008 at $867.  This is well below the $1011 price we saw back on March 17 which is still well below January 1980 high when priced in inflation adjusted dollars.  Over the course of last year we saw gold-mining shares fall due to the deflationary collapse.  When the dollar takes a severe nose dive, gold should increase in value and could shoot past $1000 again very easily.

There was a time in our nation’s history that gold was the basis for our monetary system.  And it wasn’t just us.  Most other currencies around the world have had some link to gold at one time or another. 

As long as a currency is linked to a tangible asset, the value of people’s paper money savings is maintained since that asset cannot be created on a printing press.  But that’s not how the system is set up today.  We no longer have a link to gold and the dollar is now just a piece of government paper that can be printed without limit.

Consider this:  Since 2001, the dollar exchange rate has been on a downward slide and the price of an ounce of gold has climbed from $271 to about $860.  That means seven years ago the dollar was worth 1/271st an ounce whereas today it is only worth 1/860th an ounce. 

How much lower can the dollar go?  I have no clue but what I do know is that when it comes to a hedge against our currency’s depreciation, there is nothing I like better than gold.

But not many people today view gold as real money.  I’m not shocked because you would have to be at least 74 years old to have lived during a time when a gold coin was commonly accepted as currency.  The rest of the public continue to view money as the paper variety that slowly loses value year after year. 

This may explain why investors often flee tangible assets during a stock market correction for the perceived safety of dollar-based investments, namely cash and U.S. Treasuries. 

To me, the idea of a dollar-based asset offer any level of long-term financial safety holds as much reliability as Hillary Clinton tomorrow announcing her allegiance to the Libertarian Party.  But I digress . . .

Other investors hedge the risk of a falling dollar by investing in the Euro.  It’s a strategy I don’t want to use with my money because then the portfolio is tied to the far-left European economy and if the dollar is on the verge of extinction, by no means do I want the safety of my wealth resting on a paper money managed by foreign politicians. 

So here’s the truth:  Gold is still the world’s defacto currency. 

If tomorrow a financial panic breaks out in the corner of the world that takes out the dollar, I am highly confident that the haven investors will flock to will be gold-related investments and other non dollar-based assets.  Investors who are broadly diversified in those areas will likely be heavily rewarded. 

The way I see it, you and I have no control over the government decisions that impact the dollar’s value so we might as well continue profiting from Washington’s blunders. 

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