$10,000 Gold: Why Gold's Inevitable Rise Is The Investor's Safe Haven

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INTRODUCTION

In the absence of the gold standard, there is no way to protect savings from confiscation through inflation. There is no safe store of value.

—Alan Greenspan

Gold is on a trajectory to $10,000 an ounce. It will likely go higher than that before the world economy is again on solid ground. Yet even though gold has outperformed all other asset classes over the last decade, and has been part of our vocabulary since we were children, for most people, gold and its price performance remain a mystery.

Gold has its own rules, its own standpoint and its own set of metrics—in other words, its own unique mindset. Quite simply, gold cannot be understood through the precepts of the conventional fiat currency theory, which is why financial professionals have so much trouble with it. This is also why the individual with an open mind will have an advantage. We will, therefore, approach our discussion of gold's rising price from the vantage point of a gold mindset.

Since the legendary Lydian monarch Croesus, who between 560 BC and 540 BC introduced the first coins of pure gold, rulers have waged a war of perception against monetary gold. This battle has never been more evident than it is today, and it will likely continue and intensify the higher gold climbs in price.

Gold has been, and will continue to be, disparaged in a way that far exceeds the treatment of any other asset class. Although there are many reasons for this, the most important is that gold, as money, is a direct challenge to the modern global fiat currency system and therefore to the governments, banks and financial institutions that benefit most from it. Gold presents a direct challenge to every paper currency in the world because, for the first time in over three thousand years, no country is on any form of the gold standard. Even though most central banks hold gold in their vaults, their fiat currencies are no longer redeemable in gold.

At times, it may be difficult to understand how what seem to be such disparate economic and geopolitical trends as the ones we will discuss are related to the main theme—the reasons for gold's rising price. They are significant because each of these influences contributes in a unique way to the rise. The major trends have one thing in common: each contributes to greater government debt, and government debt is directly proportionate to the rising price of gold.

For the past fifteen years, I have been in the gold business. When I came to understand the rules and nature of gold, I began making my projections public, both through Bullion Management Group's (BMG's) written presentations and at six of Toronto's Empire Club Investment Outlook series. About one thousand members of Toronto's financial elite attend this luncheon each January, and the commentary of the three guest speakers is highly publicized.

In 2012 I said it didn't matter whether gold ended the year at $2,000 or $2,500, because eventually that price would seem insignificant. I feel the same way today. I understand the interconnected forces, the visible and invisible influences, that cause gold's price to rise. Unlike many in this industry, I did not start out as a gold bug. My appreciation for gold developed gradually over the past twenty years. My former experience made it easier to see the onset of what some call a primary trend bull market (a term that is not entirely accurate when it comes to gold, as I will explain later).

Initially, I worked in commercial real estate and left that sector when the market began to feel overvalued. From there I moved to software development, and again was fortunate with my timing. In 1998, the tech boom was gaining momentum, yet cracks were appearing everywhere. There was so little real value underlying the share prices and, in most cases, fundamentals were nonexistent.

The market was beginning to exhibit many classic characteristics of entering a bubble phase. Perhaps most telling was the constant refrain of investment advisors that this time it's different. It is never different. Economic bubbles lacking inherent value always burst. In the end, the tech bubble was no different. It burst and destroyed lives and fortunes in the process.

During the late 1990s, I found myself with enough time to research what the coming trends were likely to be. It seemed clear that the world's rising population combined with the Third World's relentless drive toward Western-style modernization meant the next big trends would be in energy, uranium, water and precious metals, regardless of economic conditions. Of the four, I settled on precious metals. This eventually led to a serious study of gold and its role in the economy.

GUIDED BY TWO ESSENTIAL PRINCIPLES

From working in real estate, I learned two important lessons that I have tried to apply to all subsequent business ventures. These influenced my appreciation for gold and the approach I took when setting up BMG's first precious metals fund.

The first lesson was that an investment vehicle should adhere as closely as possible to the principles of the underlying asset upon which it is based. This reflects my deep distrust of financial derivatives of any type.

The second lesson was to expect a positive outcome, but to prepare meticulously for the worst. Motivational speaker Robert J. Ringer once said, Reality isn't the way you wish things to be, or the way they appear to be, but the way they actually are. This is quite different from the positive thinking or even wishful thinking that many motivational speakers espouse. Positive thinking without objective consideration of all factors, both positive and negative, often becomes fantasy. We often see only what we want to see. I've found it requires an intense effort to see objectively beyond personal biases and desires, and to explore ideas that run contrary to these biases.

In the real estate business, both lessons underpinned principles that were important to my company's success. A small group of us were the first brokers in Canada to introduce multi-unit residential buildings (MURBs) for the real estate market. We set out to find a way in which small investors could safely own rental properties and receive similar tax benefits as those enjoyed by developers and wealthier property owners. The syndication of condominiums was already established in the United States, and served as the model we adapted in Canada. It allowed people to use tax dollars to own condominiums and townhouses that the developer would then rent out and manage. The key to the MURBs' success was that we followed principle one—we made the investment vehicle follow the principles of property ownership as closely as possible, in that investors owned each unit outright, with individual mortgages. Therefore, they could eventually sell the units to homeowners. Ultimately, others strayed from these principles and began syndicating substandard rental properties that would have never met the criteria for individual home ownership.

The second principle of expecting the best but planning for the worst proved invaluable to my success. When structuring a real estate deal, we brainstormed tirelessly to think of what could possibly go wrong. We then prepared for these eventualities.

This thought process is abstract thinking and is similar to the mental work employed by musicians and actors to overlearn their music or scripts, so their performances can appear inspired. Artists use similar mental training to teach themselves to draw what they see in their minds without models. One of the more famous practitioners of objective, abstract thinking was Canada's former prime minister Pierre Trudeau. As a leader, Trudeau demanded his cabinet members think through the consequences of their proposals—both positive and negative. As most found this difficult, he would walk them through it, as he had trained himself to think this way through years of practice. Throughout the book, we will draw on examples of experts who spot trends well ahead of the rest of us.

One such example is Dr. Chris Martenson, whose work I draw upon throughout the book. Dr. Martenson uses the term lens to describe the wide-spectrum perspective he has gained through years of studying the markets as a financial expert and as a scientist. He combines the disparate fields of the economy, the environment, energy and even the exponential function to see beyond the narrower perspective offered by the mainstream financial services industry and financial media. His work is complex and thorough. It is rapidly gaining wider recognition for its accuracy. Looking through the eyes of gold presents a similar perspective or lens, but one that adds a simple and infinitely positive and practical step we can take in response to what we see: the direct ownership of gold.

As I turned my attention to the gold market, I discovered that Canadians could not hold precious metals in their Registered Retirement Savings Plan (RRSP) accounts. Therefore, I decided to create an investment vehicle that would qualify for registered accounts yet would not compromise the fundamental attributes of holding bullion. It took four years to set the necessary regulatory grounds for BMG BullionFund (the Fund) and to arrange the logistics of buying and storing the physical bullion.

It was Canada's first open-end mutual fund that invested in bullion and qualified for RRSPs. It enabled Canadian investors to purchase equal dollar amounts of gold, silver and platinum bullion to hold in their retirement accounts. I planned the Fund carefully, adhering closely to the principles of bullion. Had I been willing to compromise only one feature of the underlying asset—gold's liquidity—and created a closed-end fund, the Fund would have been operational within a few months.

Gold's liquidity is one of its main attractions for buyers and owners. No matter where you are, you can always find someone who will buy your gold at the market price. The closed-end fund structure causes shares to trade at discounts or premiums based on their daily trading volume. This can be especially problematic during market sell-offs such as we saw in 1987 and 2008. I refused to compromise this principle and, as a result, it took nearly four years and much greater expense to create an open-end fund that mirrored gold's liquidity along with the other principles to which I was committed.

I expected the Fund would be welcomed by the financial services industry, as it would provide an opportunity that would improve people's lives and increase their investment options. As with the MURBs, it gave smaller investors the chance to share benefits that were normally only available to much wealthier individuals and institutions. With the real estate program, I entered a new field where customers had no preconceptions, so they were open-minded and appreciative of what we were offering based on the merits of the investment. Entering the world of gold was a much different matter, as I would soon learn.

THE DAY GOLD DIED

Gold has history—lots of it. Humans have a deep relationship with gold that goes back thousands of years. Desire for gold was the root cause of many prolonged and costly wars. The amount of gold countries held and the relationship of their currency to gold caused many economies to prosper or to crash into oblivion. As feelings ran deep, so did opinions.

The shot that started the modern gold war was U.S. President Richard Nixon's removal of the world's reserve currency, the U.S. dollar, from its final international peg with gold on August 15, 1971. This instantly turned the world's financial markets into a vast casino or confidence game. It also removed any restriction on the amount of currency central bankers could create at will and then lend to governments. By default, on that day gold became the anti-currency to the U.S. dollar and the rest of the world's fiat currencies. Perception management—what we call public relations today—kicked into high gear.

Governments and banks worked desperately to ensure that people retained confidence in their debt-backed paper currencies and in the economy in general. Wall Street's message about the economy and the dollar's strength had to remain optimistic, because when people are uncertain and skeptical, they do not invest in financial assets, and companies curtail new financings. Financing is Wall Street's lifeblood, so it will always see green shoots and recoveries around the corner, just as it did in 1929 as the market crashed around it. Consumer spending and bank lending is what keeps the fiat shell game going, and people do not borrow or spend when they feel uncertain about their financial future. Gold, because it inconveniently serves as the truest, irrefutable indicator of the economy's health, had to be discredited.

At BMG, we realized how deep these powerful psychological forces were when we began telling people about the benefits of gold ownership, only to see fear or indifference overcome them. We tried to dispel the myths and misconceptions that the public has about gold. We showed charts of gold's superior performance, and we explained the incontestable supporting fundamental and technical evidence, yet they seemed programmed to resist the message. Were we to start speaking about the advantages of palladium or radium, their eyes would surely have cleared, as there was no need to psychologically program people against metals that were not a threat to the economic status quo.

By 2002, gold prices were starting to rise while equities experienced severe declines. After the tech sector sell-off of 2000, we expected people would be desperate to return to value-based investments. Yet, one by one, they repeated the same objections: Gold is a bad investment. Gold does not earn interest. Gold is risky. Gold is a commodity with limited use, not money. Gold will underperform in a deflationary environment. Their objections were strikingly common. Most quoted brokers, bank managers or mainstream media commentators as their sources.

We realized early on that our marketing program needed to be closely linked to an educational program. As a result, one of the first reports we prepared was titled The Six Biggest Myths about Gold. Written in 2008 and revised in 2010, it is still relevant because people still quote these unfounded objections—even though gold has risen over 600 percent since I first started the Fund.

The depth of people's resistance to gold was perplexing, but it awakened in me a fascination with financial mindsets. I began studying how advertisers and marketing psychologists work to create realities that are favorable to their product or message. I realized our marketing would be more successful if we understood the negative side of this process. After all, my second principle was to expect the best and prepare for the worst. How could we prepare for this deeply ingrained resistance unless we understood it fully? Of course, we had no interest in using these techniques to sell gold. Gold sells itself once a person takes the time to investigate and remove the negative biases he or she holds against it.

For fifteen years, I have studied the world through the eyes of gold. For the past nine years, we have published a weekly newsletter called Bullion-Buzz. During this period, the many pieces of the puzzle finally began to form a clear picture, and that picture is one of gold reaching and surpassing $10,000 an ounce.

PART I

THE FRAMEWORK FOR

$10,000 GOLD

CHAPTER 1

WHY GOLD MATTERS

Paper money eventually returns to its intrinsic value—zero.

—Voltaire

Familiarity can be a dangerous thing—it can induce us to take people and ideas for granted. It can give us a false sense of confidence that we know someone or something better than we actually do. To make things worse, familiarity makes us lazy; we resist examining a subject or a person in a new light, as we prefer to move on to something newer and more interesting. After all, something new usually seems more exciting than the familiar does. The best way to overcome familiarity is to study a subject, or a person's life, in greater detail. In this chapter we will apply this approach to gold. Many of us wear gold jewelry and probably don't think twice about it at any given time. But there's a deep history to be mined that may make you reflect differently on the ring or watch you're wearing.

Let's begin by looking at why gold has been an intrinsic part of human history as an economic instrument and as the highest symbol of human accomplishment or aspiration in both the secular and religious worlds.

Gold was first mined somewhere near the Transylvanian Alps around 4000 BC. It was used in fine jewelry and statuary for at least 4,500 years, as this is the approximate age of the Gold of Troy.¹ The first recorded gold/silver coin was the shekel, a Middle Eastern coin that originally weighed 11.3 grams and dates back to about 1500 BC.²

Although gold was the recognized standard medium of exchange for international trade during Egypt's Middle Kingdom, it was not until the Babylonians learned to fire assay gold (that is, test it to determine the purity in an ore sample) in 1350 BC that gold was pure enough to use as an absolute standard of money. China also used a form of gold in 1091 BC as money.

Gold was first institutionalized as money during the Roman times. Croesus's Lydian coin of the sixth century BC is considered by most to be the first standardized example of gold being used as money. Our ancestors worshipped gold and considered it a symbol of the sun. To them the sun served both as a symbol for divinity and as a symbol for life. Therefore, by extension, gold served as a symbol for life and divinity as well. The Egyptian symbol for gold is the nebu; the Egyptians considered gold the flesh of the gods, and its shiny surface was related to the brilliance of the sun.³ Gold still holds an exalted place in most modern world religions. It holds a comparable symbolic position in the secular world, as our most prestigious sports event—the international Olympic Games—rewards first place with gold medals, not silver or even platinum.

During the Middle Ages alchemists sought to turn lead into gold. This esoteric act was symbolic of transforming their conscious state from gross material to spiritual. Scholars acknowledge the alchemist's vocation as being the forerunner of modern chemistry.⁴

Remarkably, gold still has the ability to help us transform the way we see the world and to alter our deep-seated mindsets. There is something honorable, exalted and even magical about gold's ability to protect wealth and improve the quality of life. It has been this way since our relationship with gold began thousands of years ago.

What are the reasons behind gold's long and exalted history? It has held this place of reverence not because of some arbitrary decision made by any individual person, or even through religious edict, but because of its properties and its nature. Some of these are:

• Its scarcity: Gold is exceptionally difficult to find, to mine and to refine. Currently, mining companies consider it economically viable to mine fewer than two grams per tonne: in other words, one fourteenth of an ounce of gold in a tonne of ore that may be buried well over a mile underground.⁵ Higher gold prices make it economically viable to produce even lower grades, found deeper in the earth in even more inaccessible and inhospitable locations.

• Its unique physical properties: Gold does not tarnish when exposed to the elements. It is seldom consumed as other precious metals are in an industrial process. Most of the gold mined throughout human history is still in existence—a testament to the value we have placed on it from the beginning of time. Gold is supremely malleable and ductile. It can be hammered into fine sheets of nearly transparent leaf. An ounce of gold can be extruded into a wire thirty-five miles long.

• It is highly reflective and is an excellent conductor of electricity: Gold has many high-tech uses in our most innovative technologies. From gold nanoparticles that will one day treat cancer to catalysts for complex chemical reactions, gold will play an integral role in the world of the future beyond its monetary function.⁶

• It has the properties of money: Gold bears the four most important properties of universal money. First, it is an accepted store of value. Second, it divides easily into equivalent units. Third, it is fungible in that one ounce of pure gold can be exchanged for any other ounce of pure gold or even its currency equivalent. Finally, gold is located throughout the world, unlike platinum, which is found primarily in South Africa, with smaller deposits in Russia and Canada. Gold is also extremely rare and cannot be counterfeited or artificially manufactured.

The most important of these properties, especially in times of economic turmoil and uncertainty, is gold's role as the supreme store of value. Gold is the anti-currency. It is the counterbalance to all other fiat currencies and financial assets. This includes bonds, currencies, stocks and even real estate. Gold holds its value, as it has for thousands of years, even when all other investments lose theirs.

Gold is, for all of the above reasons, real money. The term currency (as used throughout this book) refers to fiat currency, and the world's central bankers' practice of expanding currency is, in the final analysis, an act of counterfeiting.

BENEFITS OF THE GOLD STANDARD

When a country's currency, such as the U.S. dollar, remained pegged to gold, it held its value. As Murray N. Rothbard notes,

We can look back upon the classical gold standard, the Western world of the nineteenth and early twentieth centuries, as the literal and metaphorical Golden Age. With the exception of the troublesome problem of silver, the world was on a gold standard, which meant that each national currency (the dollar, pound, franc, etc.) was merely a name for a certain definite weight of gold. The dollar, for example, was defined as 1/20 of a gold ounce, the pound sterling as slightly less than 1/4 of a gold ounce, and so on. This meant that the exchange rates between the various national currencies were fixed, not because they were arbitrarily controlled by government, but in the same way that one pound of weight is defined as being equal to sixteen ounces.⁷

The United States was on a bimetallic standard from 1863 to 1900, when it passed the Gold Standard Act. The Act remained in place until 1933, when the dollar could no longer be exchanged for gold domestically. From 1933 to 1971, only foreign holders could exchange dollars for gold. As a relatively new country, the United States experienced stable inflation through fiscal responsibility before that time. Throughout much of its history prior to 1971, the U.S. dollar held its purchasing power against gold. As we can see in the following chart (Figure 1.1), the dollar rapidly lost over 80 percent of its purchasing power once this peg was removed. Other major world currencies have matched its dismal performance. The British pound, the Canadian dollar, the euro and the Japanese yen have all lost between 70 and 80 percent of their purchasing power against gold in the past decade.

The gold standard demonstrates the positive, stabilizing effects gold can have on the purchasing power of a country's currency. The lessons of the gold standard may be even more applicable to the individual than to nations because government finances are so much more complex. We know that it will be some time before governments and banks will accept any recognizable form of the gold standard again, even though the former president of the World Bank, Robert Zoellick, has recently called for a debate on the idea.⁸ In the fall of 2011, Lewis E. Lehrman, a former member of President Ronald Reagan's Gold Commission, presented a five-step program to return the U.S. dollar to a form of the gold standard within five years.⁹ Although the discussion has started in high places, most do not expect a national or international return to sound money until a devastating financial crisis makes it necessary.

Figure 1.1: Purchasing Power of the U.S. Dollar

Sources: National Mining Association; UBC Pacific Exchange Rate Service.

Fortunately, there is nothing stopping the individual investor from adopting a personal gold standard by owning gold. Individuals can essentially become, in the words of Marc Faber, a Swiss investor and proponent of precious metals, their own central bank in this way.

The issue of national gold standards is complex and contentious. There are sound money advocates who reject the concept of the gold standard. They point to the stable periods in American history when the dollar was backed by nothing other than the government's promise to pay. Abraham Lincoln provided the best example of a sound paper money system when he ordered the printing of his famous greenbacks.¹⁰

Lincoln was fighting the Confederate South, but he was also fighting what was perhaps a bigger battle with the international bankers who wanted to create a privately owned central bank, like the Bank of England, in the United States. These bankers wanted to charge 26 to 34 percent interest on money they loaned to Lincoln during the Civil War. He therefore decided to exercise the country's constitutional right to produce its own currency.

The greenback system worked remarkably well and might continue to work well if the government would issue only as many dollars as were necessary. Unfortunately, modern politicians would need a moral makeover for this to work. As well, our Western political system requires vast amounts of money for politicians to get elected and extravagant expenditures for them to remain in power.

The concern the sound money proponents have with the gold standard is simple: they worry about who owns the gold. It is true that if foreign central bankers own the gold, it gives them even more control over a country's economy, as it allows them to restrict and even withdraw the amount of currency in circulation more easily.

Sound money proponents feel that this contraction mechanism was employed to precipitate the panic of 1907 that led to the passing of the Federal Reserve Act of 1913. It is true that the gold standard, to be effective, would work only if the country using it to back its currency owned the gold outright.

In 1971, the costs of the Vietnam War, along with President Johnson's enhancements to Social Security and other ambitious social programs, caused inflation in the United States to rise to the point that President Nixon took the easy route and decoupled the dollar from gold.¹¹ This is why real inflation continued to rise, and continues rising to this day. Essentially, the United States defaulted through this presidential act and this, more than any other single event, marked the turning point for American economic dominance. Once the United States, which at the time was the world's dominant economy, broke the link with gold, it became possible to create as much paper currency as its central bankers wished to create—and this is a temptation that few bankers and few politicians can resist. This event triggered the first phase of the inflation cycle.

The cycle demonstrated by the following chart (Figure 1.2) has occurred with every fiat currency that has no gold backing. All eventually failed as a result.