Axel Merk has written a book lamenting an undependable dollar and his funds designed to manage currency risk include a gold ETF — so it would be disingenuous to count him as a critic of gold.
But in the same way that a scientist might first look at the weaknesses of his hypothesis, the fund company executive’s latest commentary takes a critical approach to gold as a means of better appreciating its investing risks and rewards.
It was the chastisement of gold bugs objecting to the currency manager’s comment in a recent interview that gold is not “risk free” that prompted Merk to lay out what he sees as the risks of owning a metal long favored by investors distrustful of other investments.
The first issue he raises is physical storage. Whether one keeps his gold at home, in a bank deposit box or in the vault of a specialized custodian, it nevertheless remains possible for the gold to be stolen.
So in contrast to those who claim gold has no counterparty risk, Merk maintains that the burglar is the counterparty one needs to worry about. And were one to insure against loss, then the counterparty risk lies in the insurance company.
For those who assign gold storage to a financial institution, Merk highlights the distinction between allocated versus unallocated ownership. In the former case, the gold is held on behalf of the client so that if the custodian defaults the investor maintains title to the gold, whereas in the latter case the investor has but a paper claim against the institution.
The point is that there are shades of varying risk, however small they might be, in how investors choose to keep their gold.
With storage of gold thus addressed, the second issue Merk raises is gold’s safety as a storage of value.
For many investors, U.S. Treasuries serve as a benchmark of safety.
Merk points out the inherent circularity of the case for Treasuries — they can always be returned (assuming continued congressional authorization) for dollars, which the Treasury itself prints, and he quotes former Federal Reserve Chairman Alan Greenspan admitting: “We can guarantee cash, but we cannot guarantee purchasing power.”
Indeed, continuing with the case against the dollar (he will return to a balancing criticism of gold), Merk explains that a system of financial checks and balances involving a separation of fiscal and monetary policy is more theoretical than actual since “central banks have a very difficult time [preserving] the purchasing power of a currency when unsustainable fiscal policies are pursued.”
As Exhibit A for this claim, he cites the dollar’s loss of 95% of its purchasing power vis-à-vis the consumer price index (CPI) since the establishment of the Fed over a century ago.