Inflation, gold and crypto

[tede02]

Random musing but is anyone else intrigued that the stories so often told about gold and (more recently) crypto being an inflation hedge have not panned out despite the highest inflation in 40 years? Gold is actually negative this year. Perhaps the dollar strength is a major factor. Nonetheless, I just find it interesting. I remember quite vividly how excited people were about gold a decade ago when QE was a relatively new thing and the doomsdayers were predicting runaway inflation. I don't really know what to think presently. Perhaps the story around gold being a great inflation hedge is just that, a story/narrative. 

[Gregmal]

I’m not sure any quality long term observations could be made if they’re predicated off a few quarters of trading behavior. That goes for any asset class. I can’t even count the number of times I’ve seen stuff bid down pointlessly over the last year only to then get taken private at last years levels. However gold IMO is pretty worthless all around.

[KPO]

22 minutes ago, Gregmal said:

I’m not sure any quality long term observations could be made if they’re predicated off a few quarters of trading behavior. That goes for any asset class. I can’t even count the number of times I’ve seen stuff bid down pointlessly over the last year only to then get taken private at last years levels. However gold IMO is pretty worthless all around.

Things normal people buy directly or indirectly ended up being better inflation hedges this time around, so oil, fertilizer and housing. Gold as an inflation hedge never resonated with me. Copper actually makes more sense if I’m pressed to pick a metal commodity, but this is mostly due to secular trends from EV demand and usage per vehicle. 

[Sweet]

I watched a video / read an article by a British investor (can’t remember name) which stayed with me.  He said that in his experience gold wasn’t a particularly good inflation hedge but did well in times of crisis, in-particular a banking crisis. 

[Spekulatius]

19 minutes ago, Sweet said:

I watched a video / read an article by a British investor (can’t remember name) which stayed with me.  He said that in his experience gold wasn’t a particularly good inflation hedge but did well in times of crisis, in-particular a banking crisis. 

Gold is down in USD but up in most currencies like Euro, GBP etc. It will do well when trust in currencies and particular the USD is lost. Gold went parabolic in 1980 and that was a time of crisis, weak USD and inflation.

 

Right now we have many problems, but trust in the USD isn’t one of them.

[Gregmal]

37 minutes ago, Sweet said:

I watched a video / read an article by a British investor (can’t remember name) which stayed with me.  He said that in his experience gold wasn’t a particularly good inflation hedge but did well in times of crisis, in-particular a banking crisis. 

Yup. I hate gold and always have. But heading into the year figured if it was ever gonna work, this is the environment all its worshippers have dreamed of. And it only worked briefly when everyone overreacted to the Russia/Ukraine situation...IE perceived crisis. Total flop as far as correlating to inflation, so far at least. 

[Red Lion]

I’m more interested in copper and lithium. Figuring out how to put on that trade is a much harder question. Presumably with miners, but I have a checkered past with mining investments honestly. 

[Xerxes]

"Tell me the currency, I would tell you when was the supercycle bull market" that is what Jeff Curie would say.

 

He said that comment few years ago pre-Covid, when he was explaining that while the peak and the pinch in oil price was $147 per barrel in North America in 2008-09, the emerging market (like Brazil) saw that pinch not in 2008-09 but rather in 2018-19 during unprecedent strenght in the U.S. Dollar. I may be fuzzy on the detail.

 

Gold may not have worked for US or Canadian petro-dollar currencies, but probably worked wonderfully for emerging market holding gold in their currency.

[TwoCitiesCapital]

On 11/25/2022 at 9:10 PM, tede02 said:

Random musing but is anyone else intrigued that the stories so often told about gold and (more recently) crypto being an inflation hedge have not panned out despite the highest inflation in 40 years? Gold is actually negative this year. Perhaps the dollar strength is a major factor. Nonetheless, I just find it interesting. I remember quite vividly how excited people were about gold a decade ago when QE was a relatively new thing and the doomsdayers were predicting runaway inflation. I don't really know what to think presently. Perhaps the story around gold being a great inflation hedge is just that, a story/narrative. 

 

The narrative about gold being an inflation hedge has ALWAYS been wrong. Gold's historical correlation to inflation has been near zero. 

 

Its a real rate hedge - when real rates are negative, gold does well (a la 2021). When they're getting less negative/more positive, gold doesn't do well. It's not the inflation - it's the relationship of inflation to interest rates. 

 

It's that simple. The Federal reserve started hiking rates earlier this year very agressively - real rates are less negative now than they were then. Thus gold peaked and dropped with other assets. 

 

Would add that being flat over the last 12 months is still fairly enviable relative to equities (which every else seems to believe are an inflation hedge) or TIPS (which everyone knows ARE an inflation hedge). 

Edited November 28, 2022 by TwoCitiesCapital

[Xerxes]

^^^ that is 100% correct

For gold it is not about inflation. It is about the differential between inflation and interest rate.  
 

There is a scenario out there where interest rate hike will peak, but inflation will be persistent. Opening the differential again and thus the bid for gold. 

[Spekulatius]

I would at this point state that inflation, crypto and gold are three separate things and there is not direct connection or correlation between each of those.

 

I think it's correct that inflation alone is not going to boost gold but rather negative interest rates (after inflation) will as well as fear of monetary debasement.

 

Crypto is a high beta bet on bubbles. It caters to a different crowd than gold.

[TwoCitiesCapital]

44 minutes ago, Spekulatius said:

 

Crypto is a high beta bet on bubbles. It caters to a different crowd than gold.

 

We don't have to have the debate here and can continue the convo in the crypto thread -

 

but BTC exploding from $1,100 - $20k during the 2017 hiking cycle suggests that it's not a bubble bet or even a bet on 0% interest rates.

 

Even after blowing up in 2018, the lows were still 3x that of 2017 opening price. 

 

Highly volatile, inelastic, with a secular growth trend is probably more emblematic of it's price behavior 

[tede02]

On 11/28/2022 at 12:25 PM, TwoCitiesCapital said:

 

Its a real rate hedge - when real rates are negative, gold does well (a la 2021). When they're getting less negative/more positive, gold doesn't do well. It's not the inflation - it's the relationship of inflation to interest rates. 

 

It's that simple. The Federal reserve started hiking rates earlier this year very agressively - real rates are less negative now than they were then. Thus gold peaked and dropped with other assets. 

 

 

I've never heard this idea. Is the theory that the more negative real rates are/go, the result is capital shifting away from those currencies in search of return or something that is more likely to hold purchasing power (and thus putting demand/pricing pressure on other assets like gold)?

 

[TwoCitiesCapital]

13 hours ago, tede02 said:

 

I've never heard this idea. Is the theory that the more negative real rates are/go, the result is capital shifting away from those currencies in search of return or something that is more likely to hold purchasing power (and thus putting demand/pricing pressure on other assets like gold)?

 

 

The general argument is gold preserves value and doesn't grow it. You only really want to own it as a hedge against stagflation (oil has historically been a MUCH better inflation hedge so gold is specific to stagflation).

 

Stagflation is terrible for both bonds and stocks and so outflows begin and gold picks up incremental demand as a safe haven and preservation of value play. 

 

Real assets are what you want to own any inflationary environments - not financial assets. If growth is high during the inflation, you want industrial commodities as demand is soaring for them.

 

If growth is low during the inflation, you want gold as industrial commodities probably are hemorrhaging demand. 

 

If you believe inflation is stickier than expected, now is the time to be rotating from industrial commodities to gold for relative outperformance. But on an absolute level, gold will only do well if inflation persists while growth slows. 

 

Otherwise it might just be broadly sideways like much of the last 12 months as real rates remain negative, but less so than they were. 

Edited November 30, 2022 by TwoCitiesCapital

[Xerxes]

15 minutes ago, TwoCitiesCapital said:

 

The general argument is gold preserves value and doesn't grow it. You only really want to own it as a hedge against stagflation (oil has historically been a MUCH better inflation hedge so gold is specific to stagflation).

 

Stagflation is terrible for both bonds and stocks and so outflows begin and gold picks up incremental demand as a safe haven and preservation of value play. 

 

Real assets are what you want to own any inflationary environments - not financial assets. If growth is high during the inflation, you want industrial commodities as demand is soaring for them.

 

If growth is low during the inflation, you want gold as industrial commodities probably are hemorrhaging demand. 

 

If you believe inflation is stickier than expected, now is the time to be rotating from industrial commodities to gold for relative outperformance. But on an absolute level, gold will only do well if inflation persists while growth slows. 

 

Otherwise it might just be broadly sideways like much of the last 12 months as real rates remain negative, but less so than they were. 

 

How do you square capturing "industrial commodities" not directly but through related equities ("financal assets")

 

 

[TwoCitiesCapital]

8 minutes ago, Xerxes said:

 

How do you square capturing "industrial commodities" not directly but through related equities ("financal assets")

 

 

 

Less of a direct bet. You're adding operational leverage but also including idiosyncratic risks and idiosyncratic flows (if equities are included in major indices for example). 

 

Not a problem for a portion of your exposure, but you might find yourself disappointed with how they trade I'd it's your entire exposure. 

 

To this end though, most of exposure to industrial commodities is through producers. My exposure to gold is through ETFs that only hold gold because I'm not willing to accept that underperformance on my only stagflation hedge. 

Edited November 30, 2022 by TwoCitiesCapital

[UK]

Copper was mentioned in the discussion but it relates to other types of commodities and their ability to store value over long term as well. In a sense, that using them as a store of value you aren't you also making some bet against human ingenuity? Basically you own something that a. does not produce any interest, rent or fcf, but b. at the same time still carries some risk of being disrupted (produced cheaper etc). This is more philosophical / long term idea, not some forecast on any particular commodity price, but isn't it right? Now, well run businesses, involved in producing commodities, especial if they do this by being cost efficient or adding value another way, is completely different and much better bet in my opinion. For another, maybe somewhat crazy, example consider results of tobacco vs tobacco companies over history:)?

 

https://www.bloomberg.com/news/articles/2022-11-27/this-startup-may-have-the-key-to-unlock-millions-of-tons-of-copper

 

In what could prove a game changer for global supply, a US startup says it’s solved a puzzle that has frustrated the mining world for decades. If successful, the discovery by Jetti Resources could unlock millions of tons of new copper to feed power grids, building sites and car fleets around the globe, narrowing and possibly even closing the deficit. At its simplest, Jetti’s technology is focused on a common type of ore that traps copper behind a thin film, making it too costly and difficult to extract. The result is that vast quantities of metal have been left stranded over the decades in mine-waste piles on the surface, as well as in untapped deposits. To crack the code, Jetti has developed a specialized catalyst to disrupt the layer, allowing rock-eating microbes to go to work at releasing the trapped copper.The technology still needs to be proven on a large scale. But the riches at stake are pulling in some of the industry’s most powerful players.BHP Group, the biggest mining company, is already an investor and has now spent months negotiating for a trial plant at its crown jewel copper mine, Escondida in Chile, according to people familiar with the matter. US miner Freeport-McMoRan Inc. began implementing Jetti’s technology at an Arizona mine this year, while rival Rio Tinto Group is planning to roll out a competing but similar process.

 

Edited December 17, 2022 by UK

[TwoCitiesCapital]

On 12/17/2022 at 1:29 AM, UK said:

Copper was mentioned in the discussion but it relates to other types of commodities and their ability to store value over long term as well. In a sense, that using them as a store of value you aren't you also making some bet against human ingenuity? Basically you own something that a. does not produce any interest, rent or fcf, but b. at the same time still carries some risk of being disrupted (produced cheaper etc). This is more philosophical / long term idea, not some forecast on any particular commodity price, but isn't it right? Now, well run businesses, involved in producing commodities, especial if they do this by being cost efficient or adding value another way, is completely different and much better bet in my opinion. For another, maybe somewhat crazy, example consider results of tobacco vs tobacco companies over history:)?

 

https://www.bloomberg.com/news/articles/2022-11-27/this-startup-may-have-the-key-to-unlock-millions-of-tons-of-copper

 

In what could prove a game changer for global supply, a US startup says it’s solved a puzzle that has frustrated the mining world for decades. If successful, the discovery by Jetti Resources could unlock millions of tons of new copper to feed power grids, building sites and car fleets around the globe, narrowing and possibly even closing the deficit. At its simplest, Jetti’s technology is focused on a common type of ore that traps copper behind a thin film, making it too costly and difficult to extract. The result is that vast quantities of metal have been left stranded over the decades in mine-waste piles on the surface, as well as in untapped deposits. To crack the code, Jetti has developed a specialized catalyst to disrupt the layer, allowing rock-eating microbes to go to work at releasing the trapped copper.The technology still needs to be proven on a large scale. But the riches at stake are pulling in some of the industry’s most powerful players.BHP Group, the biggest mining company, is already an investor and has now spent months negotiating for a trial plant at its crown jewel copper mine, Escondida in Chile, according to people familiar with the matter. US miner Freeport-McMoRan Inc. began implementing Jetti’s technology at an Arizona mine this year, while rival Rio Tinto Group is planning to roll out a competing but similar process.

 

 

In the near/intermediate term you're betting on shortages. 

 

If you're holding the exposure long-term (years and years), then yes you're betting against technological innovation.

 

Along with this technology, there's also ore in space and ore at the bottom of the ocean.  We're probably years away from any of these being commercially viable in a way that solves the commodity shortage from a decade plus of underinvestment which is why I'm stills bullish on commodities. 

 

Feel free to call me out if I remain bullish in 2026 after prices have spiked. 

[rkbabang]

This applies to any natural commodity.  There is no natural resource for which our galaxy doesn't have way more than humanity could ever possibly use.  BTC is different. It is designed from the start to be scarce.  You won't find a better way to get more Bitcoin from some hole in the ground on Earth and you won't find any more Bitcoin in the asteroid belt.

 

[gfp]

1 minute ago, rkbabang said:

This applies to any natural commodity.  There is no natural resource for which our galaxy doesn't have way more than humanity could ever possibly use.  BTC is different. It is designed from the start to be scarce.  You won't find a better way to get more Bitcoin from some hole in the ground on Earth and you won't find any more Bitcoin in the asteroid belt.

 

 

But you will find an endless supply of near-clones to bitcoin like the thousands of near-clones that have already been released.  What makes bitcoin special from each near-clone that comes out?  That it is older?  That it is "better?"  Is Ethereum special?  What about the next "blue chip" name brand crypto that catches on?  They seem awfully easy to create.

 

[rkbabang]

9 minutes ago, gfp said:

 

But you will find an endless supply of near-clones to bitcoin like the thousands of near-clones that have already been released.  What makes bitcoin special from each near-clone that comes out?  That it is older?  That it is "better?"  Is Ethereum special?  What about the next "blue chip" name brand crypto that catches on?  They seem awfully easy to create.

 

 

People who don't understand what makes Bitcoin valuable have been saying this for over a decade.  There have been thousands (maybe tens or even hundreds of thousands) of bitcoin clones already, with new ones created constantly.  Why are they not nearly as valuable?   When you fully understand the answer to that question you will understand.  Related question: Why would anyone pay tens of thousands of dollars for a Rolex when you can get one in Chinatown for $50?

 

 

[gfp]

55 minutes ago, rkbabang said:

Why are they not nearly as valuable?   When you fully understand the answer to that question you will understand.  Related question: Why would anyone pay tens of thousands of dollars for a Rolex when you can get one in Chinatown for $50?

Why not just answer instead of using some kind of riddle or leaving it a mystery?  Is Ethereum worse?  Is bitcoin first and that's the only thing making it better?  Just tell  us already.

[rkbabang]

21 minutes ago, gfp said:

Why not just answer instead of using some kind of riddle or leaving it a mystery?  Is Ethereum worse?  Is bitcoin first and that's the only thing making it better?  Just tell  us already.

 

I covered this multiple times in the cryptocurrencies thread, but yes it is the first and thought of as genuine, but even more importantly it is the most secure blockchain in the world.  The value is in the security.  You can easily create a bitcoin clone this afternoon on your PC, but anyone with twice your computing power can destroy it.  Ethereum is worse as far as security goes, but better for functionality.  It is a different product altogether.   If you wanted to create a smart contract you would do it with Ethereum, if you wanted to store value on the most secure blockchain on Earth you would use Bitcoin.  What makes Ethereum excellent for smart contracts (Turing completeness) makes it less secure and less suitable for being money.  Money has always been something that is rare, hard to produce, fungible, divisible, easily transferable, and difficult to counterfeit.  Right now the thing on Earth that best fits all of those properties is Bitcoin. My guess is that Bitcoin and Ethereum will coexist, with Ethereum being in far more danger of being obsoleted by a new technology than Bitcoin.

 

[gfp]

Thanks for answering.  I understand your point of view.  Is "stable" a good quality for "money" to have?  Does extreme volatility and levered correlation with risk assets (vs behaving more like gold) make this super secure thing a poor substitute for things historically used as "money."

 

Why is it so hard for another cryptocurrency/chain to have security as good as Bitcoin?  Is this not something that is created by man and therefore man can do it again if they want to?

 

I'm trying to figure out if the "there is no bitcoin in space but plenty of every other limited resource" argument is any good.

 

[rkbabang]

7 minutes ago, gfp said:

Thanks for answering.  I understand your point of view.  Is "stable" a good quality for "money" to have?  Does extreme volatility and levered correlation with risk assets (vs behaving more like gold) make this super secure thing a poor substitute for things historically used as "money."

 

Why is it so hard for another cryptocurrency/chain to have security as good as Bitcoin?  Is this not something that is created by man and therefore man can do it again if they want to?

 

I'm trying to figure out if the "there is no bitcoin in space but plenty of every other limited resource" argument is any good.

 

 

 

Yes, stability is important too and this will take some time to come.  Stability won't come until the end of the adoption curve, but fortunes will be made at the beginning of the adoption curve.  The security comes from having an enormous amount of computing power securing the network.   Other blockchains have had problems with 51% attacks, but Bitcoin never has even though it has been the most valuable crypto for over a decade.  At this point it would take a huge amount of resources to attack it, something that only a handful of a nation-states could feasibly pull off with some effort and expense.   I think eventually it will be at the point where the network is secure even from the largest nation states.    For this to change, the world would have to decide to abandon Bitcoin and settle on using some other blockchain.  Why would this happen?    The more people, institutions, and states have invested in the Bitcoin network, the less likely they are to want to move on and use something else instead.   If there is a feature everyone agrees that Bitcoin needs, it can be hard-forked in.  I expect Bitcoin to continue to evolve, rather than be replaced.