We have crossed a financial rubicon. We’ve been launched into a new era that precious metals investors have been waiting for, whether patiently or impatiently. We have seen similar situations and circumstances before, usually one at a time, in different periods. Any single circumstance alone has been sufficient in years past to build a fire under the precious metals complex. Today we are seeing a nexus develop between mutually supportive conditions occurring simultaneously, all of which support higher metals prices.
New Era for Gold & Silver
Yale economist Irving Fisher was famously quoted in early October of 1929 as saying, “Stock prices have reached what looks like a permanently high plateau.” By the middle of the next month, stocks had lost nearly half their value. The laws of financial nature are not easy to defy for long. This is also true in the realm of precious metals, for those who say that gold and silver will never catch a break. We are seeing trends develop again in the housing market that prefaced a doubling of gold and silver prices in 2.5 years the last time it occurred. Trends are in play with inflation and recession that prefaced an eightfold increase in gold and a twelvefold increase in silver in 4 years. Right now, it seems that both of these conditions are occurring simultaneously, setting us up for an extended period of higher metals prices. A new era has begun.
We see disruptions in the housing market in the same places trouble began in November of 2005, before becoming a nationwide problem during the Great Financial Crisis (GFC) of 2007-8. I can remember the lag between when we first heard about the problems elsewhere and when it eventually reached middle America. During this 2.5 year period of time while real estate and stocks were imploding, gold more than doubled in price. An ounce of fine gold in November of 2005 was $459.50. By the middle of July 2008, gold reached $981.95. The high for the year was $1,023, and it closed the year out at $865. Silver more than tripled trough to peak during the period, but was (and is) more volatile than gold.
The inflation rate announced yesterday came in at the highest rate since 1980, which leads us to the next set of conditions that could prove fruitful for the metals going forward. We saw problems with rising prices and energy availability in the mid 1970’s, combined with the last major period of “stagflation”. As a reminder, stagflation describes a stagnant economy that is growing slower than the rate of inflation. As our friend Lisa Abramowicz of Bloomberg pointed out yesterday, wage increases have fallen further behind the rate of inflation, currently at minus (-) 4.4% (see graphic). This is already causing a slowing in the economy, as consumers have fewer discretionary funds to spend after purchasing necessities like food, rent, utilities, fuel, etc.
Tightening conditions on bank lending and higher rates for mortgages are beginning to impact real estate prices downward, including in markets like Austin TX (see graphic). Similar trends are also manifesting in other markets nationwide. When mortgage interest rates rise, it puts downward pressure on real estate prices when debt is routinely used to purchase a house. To illustrate, last year you used to be able to get a mortgage for 3.25%, requiring 10% down to buy a house. A $500,000 house could be financed for $1958/month with a $50,000 down payment. With new mortgage rates at 6.4% and requiring a 20% down payment, the same payment of $1,958/month will only purchase a $390,000 house. With average wages not keeping up with inflation, it is the monthly payment that matters most for many home buyers - putting a lid on real estate prices.
Following the last major combination period of high inflation, recession, and higher mortgage rates, gold climbed from a low of $104 in 1976, to a high of $843 in 1980. This is an eightfold increase in 4 years. Silver increased over 12x, from $3.83 to $49.45 during those years. When we think about the periods prefacing the Great Financial Crisis of 2008, and the stagflationary period of the 1970s, and realize that aspects of both are appearing now, it provides strong motivation to own precious metals today.
Put in Perspective
To put this into perspective, a doubling of gold and tripling of silver over the next 2.5 years would put gold north of $3,400 per ounce, and silver at more than $57 per ounce before 2025. For gold to increase 8x and silver 12x over the next 4 years would mean $13,800 gold, and $230 silver by the summer of 2026. Either one of these scenarios makes a strong case for owning gold and silver today. When we consider that current conditions imply both are simultaneously possible, it places us at the beginning of an era of precious metals outperformance. So far in 2022, the metals are outshining stocks, bonds, and cryptocurrencies, and are beginning to pull ahead of the real estate sector. These trends seem likely to continue.
We have discussed what things are similar between now and 1976-80, and 2005-08. But when we consider what things are different, the case for owning precious metals is strengthened further. Interest rates back then were an effective tool to bludgeon inflation, when they could be raised to 20% without destroying the financial system. Debt levels today have fueled speculation that the Federal Reserve is nearly at the limit of how high they can raise rates before having to reverse course (see graphic). It is doubtful they can raise them to 5% before loosening once again. This means that inflation will continue to erode the savings and purchasing power of Americans who don’t own precious metals.
The Past is Prologue
“The past is prologue” is a famous quote from Shakespeare that continues in common usage today. It means that our present and future can often be understood by acknowledging past events that got us to where we are today. When it comes to the realm of investing and finance, there is an oft-repeated phrase, “It’s different this time”, that seems to defy this notion. But those who believe we can defy the financial laws of nature are routinely disappointed. Instead of fighting financial history, we can learn to benefit by applying lessons learned from the past. History is currently telling us in multiple ways that precious metals are currently a bargain and will be moving higher. I believe a new era for precious metals owners has just begun.