In Transcripts


The McAlvany Weekly Commentary
with David McAlvany and Kevin Orrick


“On today’s program, managed money positions, which are hedge funds, have dumped gold over the last 12 months, reducing exposure by 75%. On the other hand, the exports to China, India, Hong Kong, Turkey, and Russia have continued to rise. So it’s the tale of two trends – Western liquidations, and Eastern accumulations.”

– Kevin Orrick


“Maybe the system is not only on the verge of collapse, but that the shutdown of the system will be somewhat orchestrated. What does that mean in terms of your ability to operate freely? Again, if you don’t understand what is happening financially, you can’t appreciate how valuable autonomy is, and that, I think, is where I see gold as a cornerstone. It is the financial means by which you continue to exercise yourself autonomously.”

– David McAlvany

Kevin: Well, Dave, the week is here. You are just about to get on the plane. I know Don is flying in from the Philippines for these conferences, and you’re going to start out this Friday, July 14th, in Palo Alto.

David: That’s right. Then the following week, July 19th, we will be in Agoura Hills, and then we will head north to Bellevue, Washington and Portland, Oregon, but you can look at the website to get those dates and locations.

Kevin: Yes, and there still room. We would like you to RSVP, just simply because there are going to be some snacks there. Dave, I know one of the questions that I am getting from clients right now is just simply, you talk about gold often, and you are watching the cycles on gold. I know some of the questions you are going to be answering at these conferences, Dave – you and Don, both – are going to specifically center on gold. Now, gold, this last couple of weeks, has come down into the low 1200s. That was not necessarily unpredictable, but I thought you might want to comment on that.

David: Well, as we have imagined, the Dow may be stretching to as high as 22,000, and gold getting pressured as sort of the irrelevant asset – who needs it? – in the context of economic success, the great recovery story that we have had post 2009, which you should know, if you are counting from 2008/2009 to the present, we are in our 97th month of economic recovery. The average recovery lasts about 58 months, so this one is, perhaps, a little long in the tooth. And lo and behold, we do have some pressure in the gold price, as we sort of reach for the stars in the stock market.

Kevin: I remember having a meeting, Dave, just about six weeks ago, where we were looking at charts and you were saying, “Watch June and July. Oftentimes that is where we get our lows.” This is my 30th summer here, and I can tell you, June and July, usually, that is when you see your low on gold. As you move into the fall where we will probably start to see some increase.

David: Yes. March, April, May – not usually a tough series of months. We usually see some seasonal strength there, leading to weakness in June/July, and then it picks up in the fall. Where we have seen most of the liquidations, managed money positions, that is, hedge funds, primarily, have dumped gold and they have done that since the $1365 peaks, going back about 12 months. They have reduced their exposure by almost 75%. Of course most of that exposure is in the futures market, it’s not in the physical markets, paper contracts.

On the other hand you have the exports from the United States which are up roughly 42% and the exports are still going through, believe it or not, Switzerland, on their way to India, China, Hong Kong, Turkey and Russia. Of particular note is the Indian imports. In the first six months they are on pace to take out the entire year’s demand that we saw in 2016. So, still aggressive buying there. And it really is the tale of two trends. You have the Western liquidations, you have the Eastern accumulations, and only one of those tales, I think, reflects wisdom and an accurate appraisal of value.

Time is going to reveal all things and we will see which tale is more important. We presume in the West that we have, whether it is a standard of technological advantage, or some other form of superiority, it gives us an insight into the future of economic growth. And perhaps our monetary ideas are unique, and that is what we are exporting to the rest of the world – a brave new era of central bank intervention. Maybe it is that business cycles, from this point forward, can be controlled, that they can be smoothed with the proper fine-tuning from expert financial engineers.

I think your instinct and mine, Kevin, is to say no. No. The danger at present is, quite frankly, to forget the role that leverage has played in our financial system. That is really where we tend to land, which is not that we are building on innovation, but merely, we are seeing a greater willingness to take risk. And the greatest willingness to take risk, if you are a student of history, usually comes at the end of a business cycle. It usually comes at the end of a credit cycle. There is a lot of leverage in the system. Quite frankly, there is more in the system today than there was in 2008 and 2009, but you don’t see that reflected, those stresses and strains. You don’t see them reflected in the gold market. You see sort of Happy Days are Here Again. That is the thematic as you look at the equity markets, and the capital markets in toto.

Kevin: One of the questions that we get, also, is what happens to gold buying in, say, a cashless society. Isn’t it interesting that India is buying after the introduction of this relatively cashless society last November. It has doubled. So there is a lot of movement into gold in the East at this point, even though the West doesn’t see a need for it.

David: You know, it is fascinating, when you look at sort of a Western proxy for gold. And I don’t think that crypto currencies are a good replacement for gold. But it interesting that, culturally, there is a younger generation that says, “Hey, this is like the 21st century gold.” It is fascinating because you are seeing a distrust of central planners. You are seeing a distrust of fiat currency. And whether it is ethereum or bitcoin, the crypto currencies are appealing to a new set of people who are saying, “We need some form of currency alternative.”

And I think what they are going to encounter for the first time, and of course, as gold and silver buyers, we know what this looks and feels like. But I think the folks in the crypto currency universe are going to come up against the central planners, the governments, and if that technology cannot be co-opted, understand that it challenges monopoly power within the monetary system, and anyone who challenges that monopoly power is at high risk.

Kevin: Oh, the government’s biggest monopoly – they have to be able to print money and control interest rates and control the currency.

David: Whether you are servicing debt, whether you are handing out governmental freebies, the whole system of fiat, and the ability to create as much debt as they want, all of that is feeding the leviathan that we know today. And it interesting that sort of an expression of contrarianism here early in the in the 21st century is in the cryptocurrency field. I think it is interesting. There is a grasp, there is a search for an answer because there is an acknowledgement of a problem. And what the ultimate answer is we don’t know. But it is clear to a growing audience that there is a problem.

Kevin: We talk about a monopoly of printing money. I’ll you what – states don’t have that ability. Look at Illinois with their pension plan right now. Let’s look at Kentucky or New Jersey. They can’t print their way out of this.

David: Illinois is not at the bottom of the dog pile.

Kevin: Really?

David: I watch my kids do this with some frequency, and there is usually someone struggling on the bottom, trying to get one breath of air because they’re at the bottom of the dog pile.

Kevin: Yes, but how can a quarter of a trillion dollars not be the bottom of the dog pile? How can you be worse than that?

David: Right. Well, that honor belongs to New Jersey and Kentucky.

Kevin: Oh my.

David: And quite frankly, all three states are pointing toward the crisis ahead, and they represent the worst cases across…

Kevin: So we’re talking pension plans here – pension plans that are not funded.

David: That’s right. So the under-funding ratio are the worst with those three, but since 2014 the funding ratios in every state, with the exception of Alaska, have deteriorated. So, looking at a recent Bloomberg article, it shows the decline across all states, as a reminder of what a failure to plan, and planning to fail, really have in common. Illinois has obligated itself to 199 billion dollars in retirement benefits. And their shortfall out of 199 is 119. Again, failure to plan – they are planning to fail.

Kevin: The global community – I’ll just call it the politically correct community, has called Trump public enemy number one. Their feeling is that he is planning, not just to fail here in the United States, but he is creating a worldwide failure. Now, their focus is environmentalism, but it is fascinating who they are looking to, to be the next savior.

David: As I usually do, reading through International Affairs, and The Economist, and a number of magazines which sort of represent not only a global, but a globalist perspective, where you can attack an -ism to that. The idea of a liberal democratic order being propagated and transported throughout the globe. They are angst-ridden. They are frustrated. They are angry. They are, as academics, the most unacademic I’ve ever seen, in terms of their writing style, in sort of apoplexy and concern over what Trump is doing. So it is no surprise that the press has excoriated Trump’s Paris climate change withdrawal. And you’re right, they’re painting him as the environmental Enemy Number One here in the 21st century.

And looking at Bloomberg, again, a review of the Hamburg G20 meeting, and the U.S. is painted as the biggest loser in every category, whether you are talking about different policy discussions and debates. But it’s basically, now that Trump is at the helm, the U.S. is giving its leadership role up to anyone and everyone. What I found interesting is that in this particular Bloomberg article they chose to describe China – China! – as taking the seat the U.S. is supposedly vacating on climate change and carbon emissions.

Kevin: Dave, I remember talking to you when we were doing a Commentary. You sent me a picture. You couldn’t even see across the street. Carbon emissions in China – those two go hand-in-hand.

David: It’s the only place in the world where you can stare directly into the sun and it’s like wearing those filters that you put on when you are looking at a solar eclipse. It’s not generally advisable to stare into the sun unless you’re in China.

Kevin: But they are the new environmental savior.

David: That’s the idea, that they are expressing more of a commitment to emissions controls and climate change than the U.S. is. And to qualify sort of the fairness represented in this article, I wanted to look up the current coal production in both countries. Sure enough, the U.S. annual production is around 730 million tons. This is the dirty fuel. This is not clean energy, this is not the clean fuel. And we’re responsible for 730 million tons. We mine it, we use it for energy and other reasons, and that has fallen by 33% from its 2006 levels here in the United States.

Kevin: Okay, so where was China?

David: We were over 1.1 billion.

Kevin: We’re reducing at this point.

David: But comparing that to current Chinese production at 3.8 billion tons per year, and they are expected to raise that to 4 billion tons over the next several years.

Kevin: So I’m thinking what you’re saying is that there is a little bit of hypocrisy here the way the press and the G20 is treating the stance of the United States.

David: Well, reporting is no longer about facts. It is about a perspective on the facts. And by the end of the article you were tempted, as I was, just in reading the article and getting the feel of the ethos of the writing – I was concluding that Jacob Zuma of South Africa, in spite of his 750 counts of corruption, is a better global leader than Donald Trump. That’s really what was being portrayed in the article. It is just fascinating to watch the press – to watch them squirm, to watch them recoil, and in the end, compromise the quality of the reporting on the basis of bias. I’m not suggesting that Donald Trump doesn’t deserve some criticism. Everyone is subject to reasonable levels of criticism.

Kevin: You can just see the press grasping at anything they can.

David: Because I read these news outlets I can feel and sense the change that has taken place from November of last year to the present. They used to be very reasonable and understated, and now you can tell they are getting ready to tear their shirts off and yell like wild apes. It is this strange Ph.D., check your brain at the door – what are you feeling right now? Danger! Danger! Danger! It is a fascinating thing.

Kevin: Dave, I really enjoyed the interview last week with Neil Howe. One of the things that he said – he was confirming something that you have been talking about this last few months, and that is that we are in a passive investing bubble. The majority of the assets right now that are going into Wall Street have to do with just a few firms like Vanguard, State Street, and it is herding people all into the same few stocks – the FANG [Facebook, Amazon, Netflix, Google] stocks we had talked about, or whatever is the popular stock at the time. But passive investing has other effects. It’s not just a herding problem, but the other problem is, it reduces competition in the marketplace, doesn’t it?

David: Yes, exactly. A Bloomberg article title this past week – “Passive Investing Might Not Be Good For Growth,” comes to a similar conclusion as our Commentary guest, Neil Howe, that when you have an equal distribution of capital through indexed or exchange-traded funds, what you are in essence doing is destroying competition between companies in a sector by providing a steady flow of capital to them all, regardless of performance. So United might be one example. There was the initial reaction following the video of a passenger being forcibly dragged off a plane – kind of horrific if you’re in management at United. But United experienced no real harm. And guess what? Neither did airline investors, because as investors in the airlines, they have chosen through indexes to own all the airlines.

Kevin: It’s like owning a basket of equal amounts of everything.

David: Yes, so on balance you see no real impact from even a short-term decline, because a short-term decline over here represents a short-term increase over there, they are completely offset, where profits basically shifted from one to another of an airline’s holdings. But the problem is that in the long run, if there is no differentiation, no differentiators between companies, no real standout qualities for investors to consider – the pros, the cons – competition erodes. And frankly, with it, the standards that define an industry.

So, going back to United, they are a service provider. The reason for their existence is to bring paying customers from point A to point B. They don’t exist for any other reason than to transport people from point A to point B if they have paid for a ticket.

Kevin: When you listen at the beginning of the flight, they say, “We realize that you could have chosen another airline. Thank you for choosing ours.” But what you’re saying is, an index fund doesn’t really give you that opportunity. The index fund is just saying, “No, we’re choosing all the airlines. Don’t worry about competing.”

David: I guess my point is that they don’t have to manage their business like it matters, but competition matters, I think.

Kevin: It socializes it, Dave. That is socialization.

David: When people get dragged off the plane, so that United employees can make commuting connections to other travel hubs, what that represents is the company becoming a bureaucracy, and forgetting why it exists in the first place – to serve its customers. Not itself, not its employees. What you have is competition erosion. And I think that is caused, in part, by passive index investing. It is, of course, reinforced by central bank interventions where bad businesses get to stay alive and sort of drip feed from the resources of a tax base. You wonder what gives rise to a class of zombies in a society. We saw it Japan – zombie companies, zombie banks – where they were just allowed to be propped up for decades. And these are contributing factors. Lack of competition is a massive contributing factor.

Kevin: Howe pointed out that this is the bubble right now. The bubble is the passive index fund bubble, and his thought is it’s not going to last, that there will be a crash of some kind. Even Deutsche Bank has come out this week and said – I don’t really know what the German word for frothy is, but that’s what they call them – frothy markets.

David: I’m guessing that it’s about a 30-letter word because that’s just the way German goes.

Kevin: Translated into frothy.

David: Right. And it would have every nuance of froth built into it – the size of the bubbles, the approximate diameter. That’s just how precise the Germans are. The thinking at Deutsche Bank is like this. If central bank intervention can boost asset prices to frothy levels – their words – then withdrawal of monetary stimulus by the central bank community is likely to have the opposite effect. Joining our thinking in that – we’ve said that for a long time. You pull back the intervention and what do you have?

Kevin: Pull the life support back and the market is going to go down.

David: That’s right. So what do you have? You’re going to have a rise in interest rates. Ultimately, a decline in the value of assets across sectors which are impacted by the cost of capital, which would be real estate, and of course, stocks. When you’re looking at valuing stocks, yes, interest rates have a very important role to play. Bonds – it’s a given; risk your asset prices, they come down if interest rates rise, for no other reason than the rational choice of an investor is to look for the highest possible return with the lowest level of risk. So, you start bringing interest rates back up in the fixed income markets, and things begin to shift. Get the central bank distortions and the crowding effect out of the way, and you move back toward a more normal appraisal of risk, more normal opportunity, that is, reward. I think, frankly, there is a long shot that we might have price discovery again.

Kevin: Let’s explain price discovery. Price discovery is just pricing things at an accurate level relative to their risk and reward. And when you have flooded the market with new money that is printed by the government, or artificial interest rates for long enough, you really don’t have that price discovery at all, and so no one knows what the value of anything really should be.

David: Yes, that is just it. I am hopeful, but I’m clearly not holding my breath in terms of the price discovery piece. More than likely, what we get is larger doses of market manipulation, large doses of debt creation as central bankers try to front run and control market sentiment, even as it is hitting the skids. So, also from Deutsche Bank, but not from the analyst I was mentioning earlier, rather from their present CEO, he says – I quote – “There has absolutely been no price discovery now in corporate bonds, so we don’t really know the price of credit, which is a dangerous situation.”

Let me repeat that. “We don’t really know the price of credit.” My – what could go wrong with that kind of a scenario? You have the Bank of America, Merrill Lynch euro high-yield index. So, we’re talking about junk bonds in Europe. That’s what that index is. It provides an investor with 2.6% income. Those are European junk bonds.

Kevin: Yes, they are junk bonds, and they are telling us they don’t really know the correct valuation for that credit.

David: Right. So if we don’t know the price of credit, we don’t accurately know the price of anything.

Kevin: Do you think maybe that is why, when Janet Yellen just recently spoke, she left things just so open-ended? She was either hawkish or dovish or white or black, or blue, or green, but there really was no direction, from what she said.

David: Yes, there are plenty of caveats, but if you look at the June Fed remarks, the language they used was important, and it gave them the latitude to reverse course and go full QE again.

Kevin: Do you think they’re nervous?

David: What is interesting is, they have offered other caveats before, and the caveat that they offered in these minutes was different. And they were leaving the door open. They were leaving the door open to buy up assets with fresh, off-the-press cash and credit. And it also made it clear that the odds of mass intervention remain very high. Again, this is all hypothetical if things deteriorate, if we have financial statistics or numbers which indicate that we need to get involved.

And what is that they are going to manage? We know that they want to manage price, and that is part of their mandate. We know they want to manage employment, and that is a part of their mandate. We know that one of the unofficial mandates that they have is the levels in the stock and bond market. So if the S&P sells off 500 to 1000 points, do they reverse course?

Kevin: This mispricing, though, Dave, comes from the fact that they have removed the consequences of buying bad assets. If the Fed is coming in and saying, “Hey look, if it starts to go badly, we’re going to go back full on quantitative easing,” you’re just mispricing the market even more.

David: Yes, and I think the tragic consequence here is that until their past interventions – the 2008 and 2009 interventions to the present – are discredited, they will continue to provide cover for the speculative community. We’re talking about financial firms who are today operating with high moral hazard, and are introducing risk system-wide, and ultimately, financial instability, on the basis that the music will never stop playing. This is a game of musical chairs, and you have the Fed moonlighting as the DJ. They know that the music will not stop because they know the DJ, and they have had the word with them that, “No, we’ll just keep this going as long as we can.” And while they are tightening, while they are raising rates, they are also telling us that at the first sign of weakness they’re going to bring back the bazookas.

Kevin: So they’ll just bring quantitative easing back in as they raise rates. It’s just another tool. But you know, Dave, there is an economist at Bank of America that right now is saying that the political tide is turning. It is no longer politically expedient to stoke the market.

David: And this is what is really interesting, because on the one hand you have the Fed leaving language open to do what they think they need to do under a certain set of circumstances. And those possibilities exist, in terms of a decline in the economy and a move toward recession. Bank of America, as you say, that economist, Michael Hartnett, I’ve enjoyed reading him for several years, and he has basically said the issue here is political. You’re going to find the Fed hamstrung. But he points out this is the fly in the Fed ointment, if you will. I quote, “It’s no longer politically acceptable to stoke the Wall Street bubble.”

Kevin: And isn’t he calling for a top in the market, possibly this fall?

David: Yes, likely this fall. He says that central banks have exacerbated inequality via Wall Street inflation and Main Street deflation. And so I guess where I, perhaps, part company with him is on the details, where I think the market top might already be in.

Kevin: Yes, look at the FANGs just over the last week or so.

David: Yes, if you look at the second week of June to the present, the most popular stocks, the leaders of the market on the upside…

Kevin: Facebook, Apple, Amazon, Netflix.

David: They’ve begun to roll over.

Kevin: Yes.

David: So, if they are, in fact, on the front edge of a reversal in trend across the equity markets, then we may have half of the decline behind us by September with October representing the sentiment shift that brings sellers out of the woodwork, sort of panic selling capitulation. Time will tell. That is a theoretical observation. But bubbles expand in the financial markets like rubber bands stretch. It is sort of a continual workout until the rupture occurs – that unpredictable snap that just sort of gets you, like, “Ow, that got me!” Politics and public pressure are likely to define the market volatility over the next 12-18 months.

And that is what Hartnett was getting at. Even with the best intentions of the Fed to use their “new tools” – quantitative easing, low rates, maybe even negative rates – all of these things are somewhat constrained by politics. And the consequences of their policies are just now beginning to emerge in terms of income and equality, and the political intolerance of that. So you’re now at loggerheads, things in conflict, where the Fed thinks that it has a set of tools, but you may have politicians who hold that in check, where if there is any hiccup in the market, the Fed cannot actually access the tools that they want to access without there being massive, massive political ramifications.

Kevin: The amazing thing is, Dave, with all these tools, all this quantitative easing – I’m not just talking about here, but in Europe, trillions of dollars of intervention – we have had this modest little bit of a blip of what they are calling a recovery, and you’re not really considering the fact, when you’re looking at this recovery, that it is almost all fueled by printed money and low interest rates.

David: Yes, I think the rosy interpretation of the economy, and the global growth theme, neglects the distortions created by central bank intervention. I think it likely under-estimates the systemic dependencies that remain there on excessive liquidity and cheap credit. Think of a market player. A market player has a huge position. Great if prices rise, because the value of that asset increases, correct?

Kevin: Yes, but what if he wants to sell?

David: Yes, and so it’s difficult to exit because of the size of the exposure if he is a really big market player. The Fed is talking about doing certain things that, quite frankly, are unreasonable to get done. How does the Fed exit a treasury position where it owns 12% of all outstanding treasuries? How does the Fed exit its Freddie Mac and Ginnie Mae portfolios where its holdings represent 18% of that market. Exit? Yes, you can exit, but not without crashing prices. So, I guess it’s sort of, goodnight and good luck. That’s just how markets operate. And you’re talking about the ECB facing the same issue as they try to unwind their commitment to the bond markets – both the corporate and government bond markets in Europe.

Kevin: That’s why I’m wondering if Yellen isn’t getting a little bit nervous. It’s not just Yellen. You have Fisher, you have John Williams – you have these people out there saying, “Wait a second. Maybe the markets could pose some sort of danger. Yellen is the one who softened it the most, but Fisher and Williams were more forthright.

David: In the last two weeks all of them have either explicitly stated or implied that stocks are too high – that they are just expensive. Williams said the stock market seems to be running on fumes – those were his words. Fisher discussed the PE ratio as being in the top 20% of historical distributions, which is sort of Ph.D. speak for “currently expensive.” And Yellen remained unclear, with sort of a CYA statement that reflected diplomatic ambiguity. This is to quote her: “By standard metrics, some asset valuations look high, but there is no certainty about that.” What does that actually mean?

Kevin: Well, there is no certainty about that. How could you possibly know, Dave? Okay, but we’re talking about economic growth and the tools that the Fed has used to make it look like it is more robust. GDP for 2016 absolutely stunk.

David: I think this is a context where investors had better pay attention, because you are right, the 2016 GDP growth was putrid. The first quarter of this year GDP was even worse. And now, we’re raising rates, the Fed is talking about shrinking its balance sheet again.

Kevin: We’ve heard that since 2011, Dave.

David: That’s right. Bernanke was talking about shrinking the balance sheet, and then there was an official plan that was rolled out in 2014, so you learn where and when to hold your breath, and that is not one of them. They may shrink their balance sheet (laughs) but again, as a six or seven-year in the offing.

Kevin: Yes, but what about the European central bank.

David: Well, the ECB is reducing its bond purchases. And over the next two years it is likely to see an even more hawkish replacement as its chief executive, Mario Draghi, leaves office in 2019. And my guess is that, in all likelihood, a German takes his place.

Kevin: So, you replace the Italian with a German. I’m wondering if things will change.

David: It might. But the same thing is happening in Japan, as well. The Bank of Japan, in all likelihood, will replace Kuroda in the not-too-distant future as it embraces a new context of global growth, one in which there is less intervention in the markets. And look, I’m all for less intervention. However, I’m of the opinion that government bureaucrats and Ph.D.’s who are in the central bank community have too long believed their own B.S. and now they can’t even tell truth from fiction.

So the mistake that I think they will make is looking at “economic strength” and not recognizing this as a side effect of trillions in liquidity provisions from themselves to themselves. But again, you take away a part of the contribution to that not-so-virtuous liquidity cycle, and what happens to the liquidity? Well, if you take away the liquidity, the liquidity cycle is gone, right? So, they are just not seeing that there is going to be an implication if they pull back.

Kevin: But they are patting themselves on the back from the recovery, supposedly from the crisis of 2008 and 2009.

David: That’s right. Now, you have the investment community that takes its cues from the very straight-faced central banks, who seem unconcerned. In fact, they seem downright encouraged by their progress made since 2008 and 2009.

Kevin: Yes, but more has been printed, more liquidity was created in that time period than all of mankind’s history combined.

David: Outside of a hyper-inflation, if you’re looking at the trillions that were created on a daily basis in the context of a hyper-inflation, that’s a totally different reality. But you are talking about the weakest economic pulse since World War II, and that’s why I just think celebration and victory laps seem to me a little bit premature.

Kevin: And when we see long equations, and calculators on desks, we think that this is a science, this central banking. But you remember when you interviewed William White from the BIS?

David: That conversation rings in my ears. William White, Bank of International Settlements, moonlighting on the weekends with the OECD down in Paris, and central bank monetary policy-making masquerades as science, was his basic conclusion. Richard Fisher at the Dallas Fed had him write a paper on that. It was published by the Dallas Fed. This goes back three to four years ago where he basically was reporting through the Dallas Fed, “We do our best, but we get things wrong more than we get them right.”

This is, in fact, art. It’s not science. And practitioners of this art pretend to possess mathematical certainty because they, after all, have their mathematical models. And I guess what I appreciate about White’s candid observations, and quite frankly, they almost had a confessional feel to them, was that central bank policy-makers do get it wrong more than they get it right. So, with that in my head, I turn to the market, and I wonder, and I ask, “How is it that the investment community sees progress, the cracking of the code, instead of what they should be seeing, which is just a classic monetary debasement?”

Kevin: I think there is an answer there, Dave. Part of it is, it rewards them to look the other way, if they understood it, if they were there before the crisis last time. But if you look at the investment community as a whole right now, and even look at the financial media that reports on it, those people were in college when we had the financial crisis last time. You almost have to have ten years under your belt to remember a time when this wasn’t working.

David: It’s almost as if consequences don’t matter as long as things don’t fall apart on your watch. Central bankers take on the same role that politicians do in the public policy sphere, where if you can just keep it together before you retire, who cares what happens next? So we double our debt form one era to the next. We increase leverage in the system from one era to the next. There has been no beautiful de-leveraging here. This is awful. Again, there is the perception of beauty because we have asset prices priced to perfection. But the foundation on which that has been built is massive liquidity injections from the central banks and those central banks are now talking about taking away the punchbowl. What do you think happens to those assets?

Kevin: Yes, but this is the new normal, Dave. The new normal is, the punchbowl stays always, and nobody ever gets drunk.

David: That was the question I was asking Neil last week. What if it’s different this time? And I think his response reflects reality. It’s not different this time in the sense that if the punchbowl remains, you have more risk-taking, and more risk-taking guarantees that the outcome is the same.

Kevin: Like Deutsche Bank said, “You don’t even know when you’re taking a risk.” When things are not priced correctly, you’re taking risks based on the fact that they’re mispriced, and you may not even know it.

David: So, if you go from the financial and glance over at the political sphere, you see that in public policy circles there is great consternation about income disparity and the wealth gap, and commentators are continuing to fail to connect the dots between asset price inflation, compliments of monetary largesse, and this rising global income disparity. They are connected. And at the same time, we have defined a whole new level of normal, a different expectation, where central planners do intervene, we’re allowing for this permanent presence in the marketplace of these extraordinary policies. I even listen to the language of some of the central bankers and they speak of normalization of policy. Doesn’t that suggest that the current status quo is precisely abnormal, if you need to normalize? What is the current status?

Kevin: Normalization, Dave, would be 3%, 4%, 5% interest rates. That is an impossibility.

David: It’s an impossibility when you look at the amount of debt that is in the system, and the fact that your corporation’s ability to pay the interest service – it’s not possible. The line item the federal government would have if we had to pay 4%, 5% on average instead of a 1.7%, 1.8% interest component on average. You’re talking about 15-20% of all government revenues going to interest. There is not enough to fund Social Security, Medicare, Medicaid. So the reality is, we have gone past the point in history where we can allow interest rates to rise.

Kevin: So they’ve painted themselves into a corner, but let’s say that they start to look like, at least in their minds, they’re normalizing. What is your concern there if we see a quarter of a point rise here, and a quarter of a point rise there? Nothing substantial, but enough to maybe rock the boat?

David: I think it reveals weakness already underlying the economy. It think it triggers a recession. I think it leads to, then, in reaction to that, a further concerted effort to prop up prices via QE.

Kevin: That’s why Yellen brought it up.

David: That’s right. And I think it’s the final round of debasement. And to me, this is a very significant piece in terms of the turning of the investment community’s attention away from paper assets and toward gold.

Kevin: Right. And that may sound like something that cannot happen, but we’ve already seen how much gold is being purchased in the East. It’s hitting all-time records. But the investment community, right now – they’re not interested.

David: We’re on the verge of a gold rush, and the investment community doesn’t care. As we are on the verge of financial market surprise, and again, the investment community doesn’t care. The audience for gold purchasing – in my opinion, the audience is swelling. What do I mean by that? When you look at the investment community rejecting the idea of risk mitigation, when you look at the investment community rejecting anticipation of volatility, those who own no gold today are tomorrow’s buyers. So the liquidators of 2013-2015, and those who never bought even in that timeframe of 2000 to 2012 or 2013, when the prices were rising double-digit every year, even those hedge funds exiting more recently here in the last six to 12 months, they are tomorrow’s buyers.

Kevin: And they have exited. The hedge funds have dropped by 75%, the amount of gold that they own, in just this last year.

David: I don’t count them as permanent exiters, I count them as a part of that “tomorrow’s buyer” crowd. So on the topic of gold, June is classically a weak month for gold. July is transitional, with the lows for the year usually being put in in one of those two months. And then we head into the fall months. We have the Indian wedding season, which is fed by the agrarian cultural phenomenon where they bring in the harvest. You actually have money.

Kevin: And the bride wears her wealth. That’s the way in India. She wears it in gold.

David: A father’s constraints, in terms of a wedding plan, is the amount of money that comes in. And if it doesn’t rain, you’re going to postpone it until next year. That’s the reality.

Kevin: It’s based on crops.

David: It is this issue that you have a culture interested in enduring asset preservation. You have a culture that is interested in private wealth. And even more so, now in the context of paper assets coming under greater scrutiny, cash being eliminated from the Indian banking system. The only outlet for private wealth is that which you wear around your neck. So there is this massive gold demand that satisfies both of these inclinations. That happens every fall, and that is what we have over the next couple of months, so we’re actually through the seasonal lull and heading into the seasonal high demand period.

Kevin: One of the questions I know you can’t answer, but I’d like to ask anyway. What is the trigger? You’re talking about coming into the next gold rush. What it will be is a vacuum being filled that the Western investor right now doesn’t own gold, but as soon as they become freaked out or scared, that vacuum is going to be filled. What is the trigger?

David: I think the trigger remains unknowable, but I think the next wave of buyers into the gold market, and the key catalyst for significant higher metals prices, will be the Western investor that has largely neglected the space, if you look at the last five, even ten years. We could tie it to disappointed expectations of future economic growth. You could look at the revelation of that central bank art project, because as we described earlier, William White, this is not science, it is absolutely art. Maybe that is a messier project than it was initially believed to be. Or maybe we chalk it up to market jitters that bring the shadow of concern from 2008 and 2009 back into the present.

I think that is most likely. I think as you see the stock market trip up at all, you have risk-on, risk-off. You have risk assets which are sold and people look at safe haven assets very differently. Whatever it is, we stand at the reversal of a tide. And I think that tide is going to carry metals to new heights. And I think financial assets will be submerged to levels that are hardly imaginable in today’s effervescent context.

Kevin: Right, the frothy context.

David: That’s right. So when the tide turns, you cannot hold it back, regardless of your tenure in the central bank community. I don’t think there are policy tools which exist to do the thing that they would like to do, short of shutting down the entire financial system.

Kevin: Dave, and that has happened. We know that the financial system was shut down after 9/11 for a few days. But we could go back to 1914, and they just shut the stock market down for four months.

David: Jim Rickards, the gentleman who helped unwind the Long-Term Capital Management debacle from a legal standpoint, who has basically described in his most recent book the complete shutdown of the financial system, where the real answer is, you’re a captive. You thought you had the freedom to come and go. How wrong you were. And in the event that the system fails, the folks who run the system will not acknowledge that failure. They will just simply shut it down and maintain control, opening it up when they want, when they have an appropriate fix that’s in.

There are a variety of outcomes which are difficult for us to imagine today because they haven’t happened in a very long time. You mentioned 1914, the echoes of the past into the present. Does anyone realize the stock market can be shut down and you could lose all liquidity? Does anyone realize that just as in India, your bank account can be frozen and your cash evaporate? Does anyone realize that just as Ken Rogoff has suggested, we should move toward a cashless society because of the amount of crime and money-laundering and gun-running and people-smuggling?

Basically, everything evil in the world relates to cash, which is his argument for why we should get rid of cash. But what he is really suggesting is not getting rid of cash. He is suggesting putting everyone in a position of capture. As a chess player, it’s brilliant. He loves putting people in a position of capture. And that’s what he wants – a captured society.

Kevin: Dave, I asked myself the question the other day – it just hit me like a rock, it’s so simple. I asked myself the question, what if, knowing what I know, I didn’t own any gold? And it was chilling. I don’t think I had ever really thought of that before, Dave, because I’ve always just purchased what I could. But what if I didn’t own any, and I knew what I knew?

David: But I can imagine a generation that would say, “And so, who cares? Like, why is it important to own anything?” I think, for you and I, we presume a certain stability in the enduring value of gold, which is one of the reasons why, when we look at ethereum or bitcoin and we see the hyper-volatility of that, we say, “It’s not a monetary substitute. It’s an interesting speculation. It’s a fascinating and invaluable technology. But it’s not a store of value.”

Kevin: And it is still completely vulnerable to a shutdown of Internet, of government regulations, what have you.

David: But back to gold. Why we gain some comfort in having it as an enduring part of a portfolio is because it doesn’t go to zero.

Kevin: Right. Nobody has ever gone broke owning an ounce of gold, in history, ever.

David: So I go back to Rickards idea that maybe the system is not only on the verge of collapse, but that the shutdown of the system will be somewhat orchestrated. What does that mean in terms of your ability to operate freely inside a closed system? Do you have the freedom and flexibility, do you have the resources which are financial in nature, but not stuck within the financial system? I think there is a lot of people who have bought gold in recent years wanting the price to go up, and have been disappointed the price has not gone up enough to satisfy their desire for whatever infinite number it is that helps them retire in style.

The value of owning gold is not how it helps you retire in style, it is the freedom and autonomy that is offers you. It is the privacy. It is the financial asset outside the financial system. Again, if you don’t understand what is happening financially, the drive to control human behavior, you can’t appreciate how valuable autonomy is. And that, I think, is where I see gold as a cornerstone. It is the financial means by which you continue to exercise yourself autonomously. Does that make any sense?

Kevin: Absolutely.

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