Many have experienced this distressing feeling: While trying to row a boat across choppy waters, they encounter a gusty southwest wind, a river current from the north, and a rising tide from the southeast. Difficult enough on a calm day, controlling a dory through choppy bays or open ocean is even tougher to do. Strong back turned to the distant destination, the prow is tossed to port and then starboard, despite the most powerful strokes. The small boat may never not reach its goal if energy is wasted on every short-term hazard. Even experienced rowers might be unable to stay the course without wavering, unlike the veteran fisherman in Winslow Homer’s “The Fog Warning.” This maritime metaphor seems familiar to modern investors facing the winds of change now racking economies worldwide, currents of the strong dollar, and tides of innovation from restless financial markets. Institutional and personal investors know that constancy in the long run is the best course to chart. But those farsighted financial navigators feel entrapped by the turbulent moment, overreacting to forces impinging on all sides. Pundits who made wild predictions of $10,000 gold in 2011 are drowned out by 2015 by dire warnings of $850 gold, a death spiral as the macho dollar soars, then it rebounds to $1300 by 2017 once again. Bubbles, recessionary fears, and dire speculation about stocks and currencies, throw storm-tossed portfolios off course. The buffeted investor reacts tactically to uncontrollable forces affecting risks and returns… as the golden dory strives to remain true to its bearings over the long haul.

Engineers and economists know there must be well-designed “dynamic feedback loops” embedding stable tools for reaching goals. Thus the singer avoids feedback from the mic, the shower taker scalding by adjusting hot and cold, and the cook learns to temper the oven.

However, the feedback loops in gold investment are heightened in intensity by hopes and fears, raising volatility and unpredictability. Most investors appreciate gold for reducing risks and stabilizing portfolios, but violent seas too often trigger panic buying at inflated prices or encourage fire sales as prices plummet. The abundance of paper gold derivatives, by some estimates $125 for every dollar of physical gold, only add to the variance. Otherwise level-headed investors and their financial institutions are haunted by twin specters of immediate losses or missed opportunities. Long-term goals are sacrificed on the altar of short-term necessity. No one wants to be a day late and a dollar short, to use the old cliché. The world is littered with dot-com losers, real estate bubble overdevelopment disasters, empty DVD rental and music CD stores, etc. Anyone interested in an 8-track player from the eighties? And in a marketplace where gold pays no dividends, is not yet liquid enough to be a truly versatile currency, and its purchase and storage are hard to transact, the herd mentality triggers a stampede. The conventional wisdom can change on a dime, and very few investors flock to bullion as the price softens below $1100 per ounce. So what is the core of the argument for including precious metals as a small but essential component of a well-constructed allocation of wealth? Here are a few proven reasons that are worth rowing toward, while learning to battle the tactical stresses that obscure the plotted course:

Supply: Steady as she goes

Above-ground gold is increasing slowly in supply…only about 1.6% per year. (Also true of other precious metals.) This rate is highly unlikely to change appreciably. Gold is extremely difficult and costly to remove from the earth or from unreachable or uneconomic sources including asteroids and sea water, so it is invulnerable to sudden expansions of supply that would erode its value. As a supremely durable metal, gold is a dependable long-term asset for the patient investor in this uncertain market environment. The same constancy of supply cannot be claimed for other asset classes, including stocks, bonds, currencies, farmland or forests. Vintage cars and wines and great paintings by the masters and fabulous old estates are in absolutely fixed supply, but as bulky, incomparable and illiquid blocks of value, they are impossible to imagine as mediums of exchange. And such laudable constancy cannot be claimed by paper assets based loosely or fractionally on physical gold, where ratios of over a hundred dollars of value backed by each dollar’s worth of bullion have occurred. Gold can be bought and sold in identical units of precisely measured bars, but no one could own and sell a physical piece of the door of a 1936 Cord or 1% of Picasso’s Lady in Blue or a classic Rembrandt portrait, or a own just one room in a $20 million California mountaintop mansion. Over the short-term there are price changes driven by psychology, interest rates, fear of disasters, and clever players selling their tactical narratives, but the underlying supply of gold provides a steady hand on the tiller of the golden dory.

Demand: Three strong rowers for propulsion

Gold is eternal and diverse in demand from three major sources: Ornamentation, Investment, and Industry. So are silver and platinum. No other collectibles can make that claim. Wood eventually rots. Houses physically depreciate. Fads come and go. Cultural memorabilia fade as icons change with generations. Books, art and sculpture go in and out of critical favor.

A. Half of gold demand comes from its malleability, symbolic value, sheer beauty, and amazing durability for producing jewelry, adornment of clothing, and architectural elegance. As affluence spreads to numerous countries, this sector of demand tends to flourish, for gold has always been a luxury good with an income elasticity of demand well above one: A ten percent rise in incomes triggers much more than a ten percent rise in quantity demanded, ceteris paribus (all other factors equal).

B. One third of gold demand comes from consistent long-term stockpiling of physical bullion in public and private hands as the ultimate store of value and as a medium of exchange of untapped potential. This investment gold sector also responds positively to rising incomes and the demonstration effect as smaller nations follow the lead of the established superpowers in stockpiling for foreign exchange.

C. And less than one sixth of the gold results from its remarkable utility in industrial purposes from medicine to electronics to deep space…taking full advantage of the versatile metal that will not oxidize thereby permitting safe pacemakers or equipment worthy of a voyage past Pluto. Here too the cutting edge industries that use gold are growth areas for the next century, and no appealing substitutes for gold appear on the technological horizon.

So it appears this golden dory has three strong athletes to man the oars for the long voyage ahead.

Symbolism: The Eternal beacon of achievement

Gold is closely associated with economic success. Of the ten largest economies on earth, three (USA, China, Russia) are major producers of gold, and seven (US, Germany, Italy, France, China, Russia, and Japan) of the ten largest economies have large stocks of gold in their official reserves. As emerging nations compete in valiant attempts to climb the ladder for global legitimacy and reputation, they too aspire to have a level of reserves proportional to their own economies that most successful nations now enjoy. The UK now wishes it had not sold off its reserves so abruptly from 1999-2002. Having a substantial gold reserve is tantamount within financial circles to the enormous boost in reputation and respect that a nation gains by competing in an America’s Cup or hosting the Games of an Olympiad. It is an unmistakable badge of membership in the global elite. But as seen in Berlin, Sarajevo, or Sochi, such gains can be short-lived when followed by war. But in ordinary times, the accumulation of a substantial gold reserve in a country is a beacon plainly visible to the world. And the brightest beacon for physical gold now shines from the golden cultures of the East, providing irresistible guidance for golden dories from the seven seas.

Constancy: The anchor of stability

Physical gold as a long-term component of a portfolio is less volatile than ETFs backed by gold even wider swings of the psychologically sensitive futures market with its tactical investment perspectives. For example, the value of precious metal traded in a single week on paper exchanges can vastly exceed the amount of that metal mined over the course of an entire year. Meanwhile, the physical spot price maintains a stable attitude. The unencumbered owner of the real thing…tangible physical bullion in the form of pure bars and coins…is able to plan long term goals free of the worry that counterparties will fail or that systemic risks will render the assets unusable. These investors enjoy the peace of mind that grows from knowing that their liquid asset can be relocated widely across the world in secure facilities that are comfortably distant from the existing banking system and the impact of governmental policy. The noise of short-term volatility of paper alternatives to physical metal does not alter their behavior. And the specter of financial manipulation of gold prices, whether real or imagined, does not factor in to the decision making by the investor in bullion. This is especially the case when the bullion is secure, uniform, pure, mobile, standardized, transferable, and easily redeemed in fiat currency in a liquid marketplace. When rough seas are encountered, the gold provides ballast for more consistent forward progress of the golden dory, or a deep anchor for weathering the height of the storm. Bearing: All ahead full As a follow-up to the previous point about volatility, the psychological waves of investment confidence portrayed by bulls and bears are clearly exacerbated within the paper securities marketplace. When prices begin to weaken for gold, for example, there are some institutions within the industry that stand to profit handsomely from any downward trend, and so their actions in pursuit of alpha tend to exaggerate the downward spiral of prices. Sticking with the nautical analogy, it is like having one oarsman on a galley rowing in reverse to negate the dictates of the other two rowers ahead. Banks that have shorted the metal and currency traders in search of tactical gains are likely to accentuate the bearish climate with sincere recommendations to bail out of what should have been long-term positions. Meanwhile, the consistent long-term institutional investor in physical gold focuses on the stability, risk mitigation qualities, and contrarian correlations of the asset class. And if the price of the metal were to rise, resulting in a capital gain at least for that section of their portfolio, such an unanticipated bonus is accepted with equanimity the same way that a relative change in the rate of return to any owned asset would be factored into the investment picture. The owners of physical metal and those who catalyze its ownership are pleased when it rises in value versus other assets for they see its usefulness in a variety of roles as store of value, medium of exchange, and in finance. In the long term, the price of gold is likely to escalate at roughly the overall inflation rate. Because physical gold in particular has been the most sought after, durable, and respected currency for millennia, its constancy or perhaps a slow rise in its value is a desirable characteristic. But for those who short gold in hopes that its value falls, there is an obvious lack of faith in the underlying precious metal itself. If they are betting that gold markets weaken as they profit from its descent, they make very poor salespersons for precious metal. This epitomizes the rumored “bear trap”, where big investment houses allegedly profit from taking contrarian positions in gold. If this were the case, it is a situation ripe for exploitation, manipulation, and conflicts of interests in the emerging regulatory environment in the US. With the enormous volume of the paper markets (futures, gold funds, ETFs, etc.) there is a tendency for the any price variations and cycles to experience somewhat heightened amplitude, a classic example of dynamic feedback. The golden dory meanders across the water, losing sight of its destination across the channel.

Equilibrium: What stops the rocking?

A flock of embedded economic forces kick in whenever gold descends in price much further than the market forces would predict. The law of demand and supply is inexorable, and like a dory that rocks one way and then the other, the hull’s shape with ballast deep inside below the waterline compels a return to a sustainable point of balance. The perception of temporary gluts or shortages of physical metal can cause institutional investors to rethink their strategies. The law of demand sets in motion a wave of physical gold purchases to take advantage of the low price. Jewelry makers and industrial buyers benefit greatly, even if the gold investors might have some bearish reluctance to pounce on the bargains. Those who see physical gold as a vital long-term component of a portfolio recognize a prime buying opportunity, as long as they are convinced that the price plunge has bottomed out and the upside potential is strong. Institutional investors can build up their gold positions to the 5% called for by extensive research and their own experience. With the cost of gold production at a plateau near $1200 per ounce, although with wide variations from mine to mine, there is a prevailing feeling that downside risk is minimized by the fact of the price dropping so far below the replacement cost. Gold supplies tighten up, with a likelihood of significantly higher prices down the line. Overall, the drop in price precipitated an annual demand in 2015 of over 5000 tons of investment gold at the currently low market price. Unfortunately, the total output from mines and recycling was in the area of 3800 tonnes annually, leading to a shortage. If history is any guide, and it usually is, that shortfall will eventually drive the gold price gold toward its real equilibrium, prevailing over the bearish exaggerations surrounding the event. Thus the golden dory stops rocking as calmer seas prevail.

Survival: HMS Leviathan nearby

The pattern of price movements in the precious metals market is of course influenced by many huge institutions plowing through the international waters like great aircraft carriers that tower above the golden dory. There are the several large bullion banks, the Federal Reserve Bank of the US, the International Monetary Fund, the European Central Bank, and the London Bullion Market Association (LBMA). Their individual and collective influence on the gold industry is very large, given the colossal scale of their stockpiles of bullion in some cases, their worldwide standards for the industry in the case of the LBMA, as well as the central banks’ many related interest rate, currency, and bailout activities. And there is also COMEX, the result of the merger between Commodity Exchange Inc. and the New York Mercantile Exchange in 1994 that created the world’s largest futures trading exchange.

Carrying the nautical analogy perhaps too far, the diligent rowers in the golden dory risk being swamped by the massive wake of the giant ships plying the nearby seas. But the physical gold in the hold of the dory helps weather the onslaught, while the more vulnerable and less agile paper securities are more likely to be swept away.

Summary

With gold priced in April of 2017 at $1284/oz. the fundamentals supporting the market for physical gold remain strong and the long-term projections in its favor continue. The underlying strategic case in support of gold, silver, platinum, and palladium as an asset class remains untarnished. The metaphor of the golden dory illustrates the enduring integrity and desirability of the steady course provided by physical gold within a balanced allocation of wealth, regardless of the short-run choppiness of markets. Those who bail out of the marketplace relinquish the time-honored role of bullion as a vital component in the reduction of risk, its solidity as a most trustworthy store of value, its utility as an increasingly versatile medium of exchange, and its flexibility as a mechanism for collateral and finance across the rapidly evolving international economy.

When it comes to “Either Oar”, allocated & segregated bullion makes excellent headway for investors who are willing to row confidently in the direction of physical assets.

Roy Van Til, Ph.D.

Vienna, ME USA

royvantil@mac.com

207-500-9604