The Greatest Fundamental Reason to own Precious Metals

Gold and Silver will become two of the best assets to own in the future, however most investors are still clueless to why this is true.  Currently, the Main Stream Media Bandwagon has hoodwinked the majority of investors into buying and holding some of the most overpriced, dead-end, and increasing worthless investments in the market.  These investments include most stocks, bonds, retirement accounts, pension plans, commercial and residential real estate.

Over the past few years I have listened to many interviews and read many articles on how hedge funds have bragged about picking up large chunks of real estate for their portfolios.  While the investment strategy of picking up real estate for a bargain has worked in the past… the future will be a much different story.  I will explain more about this later.

If we look at the chart below, we can see where the majority of the world invests their hard-earned money:

Gloabl Conventional Investment Assets 2012

According to TheCityUK Fund Management Report dated Nov. 2012, global conventional assets under management are estimated to be $85.2 trillion in 2012 up from $79.7 trillion in 2011.  Furthermore, a recent report from TheCityUK states that global pension funds increased from $31.3 trillion in 2011 to $33.9 trillion in 2012 — a fourth successive year of recovery… or so they say.

The majority of the Global Pension Funds are dominated by the United States which accounts for 56% of the total market based on the latest 2011 figures (TheCityUK March 2013 Pension Markets).  Thus, in 2011 the U.S. held $17.6 trillion out of the total $31.3 trillion.

The table below shows the asset allocation of selected countries pension funds:

Pension Fund Asset Allocation

If you look at the column next to the U.S., you will notice that nearly 75% of its pension fund asset allocations are in equities, bonds and bills.  Furthermore, almost half were invested in equities alone.  With the majority of the United States pension funds invested into these assets, it’s no wonder why the Fed is buying up Treasuries while member banks are propping up the broader stock markets.  It’s one big happy family.

The remaining portion of the U.S. Pension funds are invested into the “other category”, which includes real estate, loans, mutual funds and private investments.  Normally, when they list these “other” categories they do so in rank of highest to lowest in percentile.  With real estate being the highest percentage of this category, we can see another motivation for the Fed and US Govt to keep real estate prices from falling — hence, the purchase of $40 billion a month of Mortgaged Back Securities included in the QE 3 announcement of Sept. 2012.

Of course the housing market is good for the economy but as we can plainly see, all of these so-called assets are all interwoven into one giant propped up bubble.  This also includes the global insurance funds.

According to Deutsche Bank Group’s Insurance Investment First Half 2013 Report, the $24.4 trillion of insurance fund assets were allocated in the following sectors:

Insurance Funds Allocation

The table above shows that the majority of global insurance funds are invested into sovereign and corporate bonds.  We must remember bonds of all types are nothing more than debt instruments.  So, with the world’s insurance funds heavily invested into corporate and foreign government debt as well as equities, mortgages and real estate, it’s no surprise that the central banks are working frantically together to keep the greatest Ponzi Scheme in history alive.

Even though the grand masters of finance have kept this system from collapsing by printing, pumping and propping up the world’s economies, they are about to hit a brick wall… and that brick wall is energy.

ENERGY DRIVES THE WORLD’S MARKETS… NOT FINANCE

There seems to be an illusion that finance runs the world’s markets, it doesn’t — energy is the driver of the global economy.  The chart below shows the relationship between the world oil supply growth and world GDP growth.  If we subtract inflation from the global GDP figures we have the following:

world-oil-supply-growth-compared-to-world-gdp-growth

(graph by Gail Tverberg)

In the article, Evidence that Oil Limits are Leading to Declining Economic Growth, Tverberg states that the real down-trend of global GDP growth may indeed be understated.  This is due to countries understating true inflation rates as well as adding increasing amounts of debt.

So, in a nutshell there is no way to tell what is the true global GDP growth rate.  Moreover, I believe the manufacturing of derivatives, the printing of money and repurchasing of Treasuries and Bonds by central banks have destroyed the ability for the market to correctly value goods, services and commodities.

As the world’s global oil supply peaks and starts to decline, global GDP growth will turn negative putting more pressure on all the trillions of dollars of global conventional assets under management described in the beginning of the article.

The majority of analysts fail to understand that the $85.2 trillion in global conventional assets are actually not assets but rather debts and liabilities that need to be repaid in the future.  I call these supposed assets ENERGY IOU’s.

GOLD & SILVER ARE STORES OF TRADE-ABLE ENERGY VALUE

The reason why gold and silver have been excellent stores of value in the past several thousand years is due to their nature of being stores of TRADE-ABLE ENERGY VALUE.  This holds true even today… actually more so.

The difference between the global conventional assets and physical gold and silver, is that one is an ENERGY DEBT, whereas the latter is an ENERGY ASSET VALUE.  Now, I am not saying there is energy contained in an ounce of gold or silver, rather it is in a form trade-able energy value.

Each ounce of gold and silver are paid in full energy value that can be traded for energy values contained in goods and services.  When supply and demand forces are in equilibrium, the overwhelming value of a good or service is determined by all the forms of energy in all stages.  This is complex concept that will be explained in future posts and articles.

However, if we think about all the complex stages in bringing a good to market, the majority of its value is derived from the different forms of energy whether that be oil, coal, electricity, human or animal labor.

I realize this Energy Theory of Value will stir up a lot of debate, but I believe as more individuals understand the whole complex energy system of providing goods and services to market, the theory will gain favor.  If we think about it, competition between the large corporations today have done a pretty good job in balancing the forces of supply and demand.  I am not saying in all cases, but in the majority.

As these large corporations compete in the market place and the result is a balancing of the supply and demand forces, what is left over is their margins of profit or loss.  If we were to take the time to add up all the costs in energy in all forms and in all stages that were consumed into providing a good or service, we would find the overwhelming value came from energy.

THE BEST FUNDAMENTAL REASON TO OWN GOLD & SILVER IS DUE TO THEIR STORE OF ENERGY VALUE

Most gold and silver bugs believe in the precious metals because they have no counter-party risk.  Once an investor purchases an ounce of gold or silver, they own the asset outright which behaves like a store of value.

However, I believe most of the precious metal investors fail to grasp that it is the energy value component in gold and silver that make them such an excellent store of value.  As I mentioned above, the $85.2 trillion in global conventional assets are not assets but rather ENERGY IOU’s that need to be repaid in the future.

In addition, a great deal of the supposed wealth wrapped up in commercial and residential real estate will evaporate as future energy constraints destroy the ability for mortgages to be repaid.  This will cause a negative feedback loop that will make real estate values decline for years to come.

As the world oil supply peaks and then declines, there will be less available energy to repay those holding pension plans, insurance funds and mutual funds.  Thus, managers of these funds will be forced to switch to holding physical assets such as gold and silver that guarantee a store of value rather than holding increasingly worthless financial products that no longer provide a rate of interest or behave like a store of value.

I believe this transition will likely occur much sooner than most realize.

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22 Comments on "The Greatest Fundamental Reason to own Precious Metals"

  1. Congratulations SRS on this new site. Have been a reader of your posts since the early ZH days and then into TFMR. Also congratulations are in order for the recognition that you are now receiving, from the greater PM sector. Ed Steer’s daily gold and silver report today, linked your report from yesterday on the Canadian Mint story. Look forward to many more of your thought provoking articles. Cheers!

  2. It seems to me (my opinion) that the Fed really has no other option than to print money to buy our own debt. If he stops, interest rates rise and markets fall as there is no other buyers at our current need to fund the government. There will come a time when printing money will not have the same effect and therefore he will have to print more to maintain control of the markets. I don’t see a way out of this for the Fed other than our government actually balancing the budget and cutting back to sustainable levels. Or he could let the markets go cold turkey and we would face a collapse, possibly a financial reset, which is what really needs to happen. More than likely he will continue the money printing until it ceases to have the desired effect he is hoping for. Then it will be time to take private assets or force people to buy our debt to keep it going. This is why they are pushing so hard to take away guns. An armed populous isn’t going to just roll over and give up property without a fight. They know there is no way out without paying a dear price for the mess we have gotten into. We had a chance to fix it in 2008 but chose to bail out everyone instead. There are a lot more people waking up to reality. I can see why there has been record sales in bullion on this dip. This is just my opinion but I would love to hear other opinions as well.

    • Mr T… you are correct. The Fed cannot stop printing money and buying U.S. Treasuries. The ramifications of ending QE to infinity are much worse than the market realizes. The majority of derivatives in the world are in the form of interest rate swaps. If the FED stops printing and buying Treasuries, rates will rise and that will cause a chain reaction collapse of the Interest Rate Swap Derivative Market.

      Once the DERIVATIVES MONSTER implodes, gold and silver will be some of the safest assets to own.

      steve

    • As bad as the banking mafia has body-slammed humanity, I still think alot of the blame has to go to the consuming citizen. Even before waking up, I was always in awe at the grotesque level of overconsumption in the US. We can go to a restraunt and not think its strange that 70% of the people in the joint are morbidly obese. Oversized houses, giant lawns, huge SUVs driving from the worthless cubicle job back to the suburbs.. Why did we accept such chemical shit for food anyway, we were rich enough to eat decent food.

      • Amen brother! agree 100%

      • Yes Christian theology has it right: mankind, though made in the image of God, is depraved. The world system is broken. These desperate economic forces will be met by more and greater control with the help of technology. This control by the ever-grasping oligarchs will result in a one-world system where every man will have a chip implant as a condition to trading or buying or selling goods. An ultra-charismatic, but lawless man will emerge to demand a receive the adulation of the world. Then the end will be in view when Christ will return and rehab this world and take His people to Himself. Not before. My gold and silver? It will be outlawed and confiscated. Only my fath will remain.

    • lastmanstanding | June 2, 2013 at 3:05 pm | Reply

      Amen brother…one thing that many forget is that everyone else in the world is running from the US dollar as fast as they can or turning it into something of tangible value so that they can survive to live another day.

      We have all had it ($) shoved so far up our asses for so long that there is no other way out of the bankers, govts and corps clutches until it all blows/resets.

      Here is my advise for what it’s worth…stock up on everything you need to survive and when these fuckers send someone for you, “don’t go down without one helluva fight.”

      I have figured it out and am extracting myself from their bs…I will win. We will win.

  3. It’s worth pointing out that the oil price spiked to $147/barrel directly prior to the 2008 crash. Its unfortunate how few analysts make this connection. Its also too bad we’re choosing to blow smoke up our collective asses telling ourselves shale oil will bring back the good old days. No need to make any lifestyle changes. The alternative media, IMO, is almost as bad as the MSM in this respect.

    That stimulus debt could have at least been used to bring back the railroads, energy technology, insulat buildings whatever. Anything but give it to the insolvent banks.

  4. I think we need to analyse when this bubble of debt will burst. Everyone writes about the problem and suggesting investment in physical silver and gold but nobody can predict when this game of debt, bonds, and trillions of assets which SRS says IOUs will end. I believe this game will continue for another 30 to 40 years or even more and till that time majority of the people doing commentary on current position will no longer be there. It is strategy of these game planners who plays with people mind. Gold prices will go up and go down. Silver prices will go up and go down. People are there to do commentary and big boys will play their game.

    • MSY…. While it seems as if the Establishment can stretch out the PAPER GAME for quite some time, I would like to remind the readers, that Net Oil Exports peaked in 2004-5 and have been declining ever since. It doesn’t matter how much oil a country can produce, but rather how much it can export is the key.

      Very few people realize that Saudi Arabia is now the 6th LARGEST CONSUMER of oil on the planet. Even though they are producing a great deal of oil they are consuming 3 million barrels a day of that oil, whereas in the 1980’s they were only consuming 600,000 barrels a day. So in three decades the Saudi’s are now consuming nearly 5 times the oil they were in 1980.

      TOP 10 OIL CONSUMERS:

      1) United States
      2) China
      3) Japan
      4) India
      5) Russia
      6) Saudi Arabia
      7) Brazil
      8) Korea
      9) Canada
      10) Germany

      All oil exporting countries go through the same cycle — oil production increases, consumption increases, production peaks, consumption keeps increasing, net exports decline, and finally has to import oil to sustain domestic growth.

      So, its just not peak oil that we have to be concerned about… its also the rapid decline of NET OIL EXPORTS.

      Lastly, we also have the falling EROI – Energy Returned On Invested that hardly anyone is paying attention to. The energy situation is much worse than most realize.

      Again, owning precious metals will be some of the best assets to one in a declining energy environment.

      steve

      • At the peak of the empire, let’s say 1970 for sake of argument, the DOMESTIC production was something like 10 million bpd in the US. What was the EROI on that stuff, like 100? Now we can’t even produce 6 million domestic per day.

        Nobody quite knows how bad the EROI on the shale oil is, but many analysts tend not to even incude the environmental costs. For example, where we going to get the TRILLIONS of gallons of fresh water required for the fracking?

        • Rojelio… according to the latest data from the EIA, the U.S. is now producing oil at 7.3 mbd – million barrels a day. The gains over the past several years are mainly coming from two fields:

          1) The Eagle Ford – Texas
          2) The Bakken – North Dakota

          Both of these two fields will behave like the California GOLD RUSH of the 1850’s. And that is, a huge exponential increase in production in a short period of time followed by a collapse a few years later.

          The EROI of shale is estimated to be 4-5/1. However, this is a very low ratio when we consider that the U.S. domestic oil & gas EROI was 100/1 in the 1930’s.

          steve

          • lastmanstanding | June 2, 2013 at 3:17 pm |

            Steve, but what about his other question…the water.

            Everyone forgets that without water, no one lives. But hey, instead of using water to grow our own food, we will contaminate it and pump it back into the earth.

            The beautiful earth…I have done things both good and bad in my life to the earth…and I will sure as hell pay for it if she decides that I need to go.

            I am cool with that. What about those that don’t give a fuck the planet or humanity? Those that can’t live without others being robbed by big gub?

            What is your opinion on the water to frack?

  5. Thank You SRS, for providing a unique and valid dimension to PM investing. I disagree with MSY’s comment about this debt/fiat parabolic growth game potentially going on for another 40+ years. There are too may wild cards. MSY’s 40 years of “more of the same” assumes cheap energy. MSY, do you know what the world population of energy consumers will be in 40 years (if things remain the same)? Imagine a growing 3rd world and 14+ billion people with resource needs. Easy to access oil peaked long ago. According to Chris Martenson’s report, Saudi Arabia will require a break-even of $125+ per barrel by 2015. This is just one wildcard of many. I know the arguments for alternate energies and for natural gas being the bridge to solar, wind etc. Practically, this will take too long to acheive. The gap for greatest concern is 2014-2024.

    • R man J… you bring up some excellent points. If we look at the ENERGY GADGET on bottom right hand part of the website you will see the present amount of BTU’s being generated by the different energy sources. Oil is in the top spot.

      If we were to compare the alternative energy sources to Oil, Coal and Natural Gas we would have the following:

      TOTAL BTU’S PRODUCED

      Oil-Coal-Nat Gas = 175 billion BTU’s

      Wind-Solar-BioFuels-GeoThermal = 4 billion BTU’s

      Currently, the alternative energy sources are producing on 2.3% of the BTU’s that Oil, Coal and Natural Gas are generating. We must remember, it takes oil powered machines and coal-natural gas fired electric generating plants to manufacture alternative energy sources.

      steve

  6. although i like your analysis of energy consumption in gold/silver mining, i don’t agree with you that fundamentally gold/silver is store of energy value because price of any commodity is determined by supply and demand, not by its cost of production. energy analysis may be helpful to determine to price floor of gold/silver in the short term.

    gold is money, so is silver. gold/silver is a time-tested medium of exchange. their price is determined by their exchange value in terms of every other commodity, is an array of exchange ratios against every other commodity. fundamentally, gold/silver is store of exchangeability, desirability, durability, and fungibility.

    we need a total collapse of the fiat money regime to wake up the whole world to beauty of gold/silver as money.

    god bless humanity!

  7. In keeping with the EROI mime;
    The newly elected provincial (with an increased majority) British Columbia liberal government, has formally rejected the Northern Gateway oil pipeline propoesed by Enbridge, to bring Alberta tar sands heavy oil to the west coast, for trans-shipment by oil tankers.
    The Canadian Federal government maintains that the proposal is still alive, despite what the government and people of B.C. say. Harper’s conservative federal government has been plagued by scandal after scandal, recently and is in a weak position to attempt to dictate to the provinces.
    The British Columbia environmental movement is very powerful and well organized, as can be attested to with the provinces newly elected government rejecting the pipeline. One of the main ‘planks’ of it’s pre-election campaign was the position of opposition to the pipeline.
    http://www.vancouversun.com/news/formally+rejects+Northern+Gateway+pipeline+proposed/8462046/story.html

  8. It seems to me that any asset class held by the conventional investors, whether those classes are bond, equities,other paper assets or real estate, any of these classes can be repudiated by the entity on the other side of that class. Defaults in bonds, equity owner flight, real estate failures, tenant flight, and more defaults on other asset obligations show their value in relation to the value of energy. Buildings might come close but have that contigent liability of energy available at a reasonable price
    Gold and silver, on the other hand, have had their value tested over the milleniums. Imagine paying for a gallon of gas with a silver junk bullion dime or groceries with a single silver coin. The circle is complete.

  9. Great post. The debt/energy dynamic goes a long way in explaining the obfuscation involved when dealing with oil production data from conventional sources. Recognition of peak oil would be absolutely toxic to the debt markets. This is why it is so difficult to find world crude oil production figures that are just that-crude oil.

    Another dynamic that gives up the ghost is the relationship between oil, silver, and gold. What’s remarkable is that not only are silver and gold declining in value relative to oil, but that they are doing so evenly at around 25% since all three reached their dollar nodal lows back in the 97′-98′ time frame. So it takes 25% more silver or gold to buy a barrel of oil now than it did 15 years ago. That is not to say precious metals are a bad store of value, rather that oil production is indeed
    being outstripped by demand. It will be interesting to see if this relationship holds, or will reverse once peak oil becomes universally recognized.

  10. lastmanstanding… Shale oil & Gas are not new energy saviors, rather they signify the retirement of the oil industry. This is the last ditch effort of an industry to postpone the inevitable.

    On the subject of water for fracking… I think its a huge waste. I will be discussing water in the future as miners are now facing problems with accessing water for present and future projects.

    steve

  11. SRS, I wonder if you’ve ever read a book called The God of the Machine by a woman named Isabel Patterson. She had a theory of history that seems sort of compatible with your energy theory of economics. IIRC, She compared human energy and resourcefulness to electricity and described nations and societies that excessively controlled it as like circuits with excessive resistance. I’m brutally simplifying but it’s an interesting read.

    • Hey Fred… sorry, didn’t see your comment until now. I have not read that book, but it sounds like one that I will more than likely pick up. From what you described, it does sound interesting.

      The problem with a good percentage of precious metal bugs and 99.9% of the fiat monetarists, is that they cannot see the ENERGY = MONEY connection. Many who believe in gold and silver as money only understand it as a supply and demand situation. Even though the forces of supply and demand do impact the price of a good and service, it is only a part of the equation.

      Once a good or a service reaches equilibrium in supply and demand, energy becomes the overwhelming factor in determining its value. This is not true 100% of the time, but it is for the majority of goods and services in the world’s markets.

      Steve

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