The only real defense against market shock: gold and bitcoin
Kitco Commentaries | Opinions, Ideas and Markets Talk
Featuring views and opinions written by market professionals, not staff journalists.
"May you live in interesting times." This old Irish blessing, which can also be construed as a curse, sums up 2020 for me, which has certainly been interesting for all the wrong reasons. The Coronavirus pandemic and the resulting economic disruption has left all of us in a precarious position. Governments and central banks have responded to this with unprecedented fiscal and monetary stimulus. While the intention of this cash infusion may be viewed as admirable through a humanitarian lens, the consequences, intended or otherwise, will result in, at a minimum, expanding deficits and, eventually, monetary debasement. Prudent investors should look for sound stores of value as a defensive measure to the inflationary forces in the economy. Investments such as precious metals and digital assets provide the perfect vehicle to preserve wealth in uncertain times.
U.S. Government programs related to Covid-19 have exceeded $6 trillion, adding to a deficit that was already expected to top $3.8 trillion in 2020. Additionally, the money supply (M2) has increased over 25% since the first of the year to $18 trillion according to the St. Louis Fed. These numbers are truly sobering and policy makers have indicated there may be more to come. Historically, programs this large lead to distortions in segments of the economy as liquidity seeks a home and bubbles spring up. Furthermore, policy makers tend to be reactionary and err on the side of overstimulating, lest the problem reemerges. The sheer size of the numbers paired with the resolve of the politicians point to the need for defensive holdings in any investor’s portfolio.
Gold has the interesting characteristic of being both a currency and a commodity. As such, it has always been a natural hedge against both deflation and inflation. It is said that in a deflationary spiral, the first currency to zero wins. Gold is unique as a currency in that no central bank is actively working to devalue it. For the investor. it will retain its value. Moreover, gold’s commodity characteristics make it an attractive investment during inflationary periods. Gold’s scarcity, coupled with the relative difficulty of extraction, results in a relatively stable supply. A steady supply ultimately leads to a stable value.
And, while gold as an asset is literally "as old as the hills," there are innovative products that digitize the ownership of gold on a distributed ledger. Called, literally, digital gold, transactions are conducted on a blockchain which provides accurate, unchangeable, and real-time tracking of physical ownership of gold stored and maintained by a regulated custodian such as a bank or mint. This eliminates the burdens of physical gold ownership, such as security and handling, making it far easier and more secure than ever for investors to purchase and hold.
Digital assets, like Bitcoin, have many features in common with gold and other precious metals. Bitcoin has a finite supply fixed at 21 million coins with roughly 18 million already mined. Additionally, BTC programmatically limits the number of coins that can be mined by increasing the difficulty (and by extension, the computing power required) to mine a coin. This has the effect of creating a stable annual growth rate of the money supply due to the unalterable issuance schedule. Inflation is impossible with these predetermined characteristics. Similar to gold, digital assets are scarce, and the supply is stable.
Every investor seeks to balance growth against stability. In times of uncertainty, growth takes a backseat to stability and current events are nothing if not uncertain. Gold has historically found favor in times like we are currently experiencing. BTC should hold a similar position. Naysayers will comment that there is nothing that backs BTC. Beyond the value of the blockchain, BTC has value because free markets determine it has value. Similar to gold, the market determines the price of a scarce, counterfeit-proof asset like BTC. The increase in gold prices from $1700 per ounce in May to 2000 in August is not because it is 20% more valuable as a commodity. Global economic conditions have investors seeking safety and stability and increased demand is dictating this price move. The same holds for BTC.
The social and economic fabric is being stretched in ways we have never witnessed. Thoughtful, prepared investors should hold naturally defensive positions. The very nature of precious metals and digital assets guard against the currency devaluation resulting from Covid-19 related economic stimulus programs. The concept of the 60/40 (equity/bond) portfolio is a thing of the past and new innovative alternative asset classes like BTC or precious metals held in digital form should have a place in every portfolio.