Learning, and Profiting, from History

29 May

U.S. president Richard Nixon visiting presiden...

U.S. president Richard Nixon visiting president Charles de Gaulle one month before de Gaulle’s retirement. (Photo credit: Wikipedia)

On Friday, April 12th and Monday, April 15th, the price of gold plunged over $200. It appears that the Powers That Be (PTB) intentionally orchestrated the “April Plunge” in order to break gold investors’ psychological back. If that was the intent, the “Plunge” failed miserably. Confidence in gold increased. Global demand exploded as buyers reportedly outnumbered sellers by as much as 50 to 1.

Perhaps the biggest blow to the PTB was the growing awareness that the prices of “paper gold” (gold futures contracts) and of physical gold were not identical. We heard reports of physical gold being sold for $30 “premiums” over the price of paper gold in some places, and even $300 “premiums” in Japan. These increased prices for physical gold weren’t simply “premiums”—they were evidence that a basic presumption on which paper-gold markets have previously relied (that the price of paper gold was and would always be equivalent to the price of physical gold) had been refuted.

In retrospect, it seems so obvious that the prices of paper and physical gold should be different, that we’re left to wonder How did we ever come to believe that the two prices were equivalent in the first place?
The answer to that mystery is redemption.

As long as paper gold (futures contracts) could be purchased with paper dollars but redeemed with physical gold, paper gold (futures contracts) were “good as (physical) gold” and their prices were thought to be identical. But once evidence began to mount that paper gold could not be redeemed with physical gold, their prices began to diverge.

• This isn’t the first time we’ve seen a divergence between paper and physical gold. In fact, although largely unrecognized, we’ve been living through an ongoing era of such price divergence since A.D. 1971 (when the price of physical gold was $35/ounce) until today (when the price of physical gold is roughly $1,400/ounce).

As you’ll read, the price divergence over the past 42 years has been between paper dollars (once deemed “good as gold”) and physical gold. That ongoing divergence is at least similar, and is arguably identical, to today’s divergence between paper gold (futures contracts) and physical gold.

Thus, if we look back at the earlier price divergence between paper dollars and physical gold, we might learn something about the current price divergence between “paper gold” (COMEX futures contracts) and physical gold.

• In A.D. 1971, President Nixon closed the “gold window” for foreign-held paper dollars by refusing to continue to redeem them with gold at the previous rate of $35/ounce.

Why’d he do dat?

Because French President Charles De Gaulle (and others) had realized that that the price of gold should’ve been much higher than $35 paper dollars/ounce. $35/ounce might’ve been a reasonable price for gold in 1934 (when the US gov-co increased the price from $20 to $35)—but it was irrational in 1971. As priced in paper dollars, physical gold was irrationally cheap in 1971. Conversely, as measured by gold, the value of the paper dollar was irrationally high.

Therefore, President De Gaulle began trading his over-valued paper dollars for the US government’s under-priced physical gold.

The US Treasury began to hemorrhage gold.  Nixon could see the writing on the wall. If he continued to redeem worthless paper dollars with valuable physical gold, the US Treasury’s gold supply would soon be exhausted. Therefore, rather than surrender all of the US gold, Nixon refused to redeem any more paper dollars with physical gold.


By refusing to redeem paper dollars with physical gold, Nixon shattered the former belief that the paper dollar was “good as gold”. Once that equivalence was destroyed, the prices/values of paper dollars and physical gold became separated, and the price of physical gold skyrocketed while the value of the dollar fell.

After Nixon refused to redeem paper dollar with physical gold, the price of physical gold jumped 400% (from $35 to $175) in just four years. As compared to the 1971 price of $35/ounce, that’s an average increase of 100%/year for four years. Once the paper dollars could no longer be redeemed for physical gold, the prices of paper dollars and physical gold rapidly diverged.

The price divergence that began in A.D. 1971 continues to this day when physical gold is roughly $1,400/ounce. As compared to the $35/ounce price when the gold window last closed, today’s price of gold is up 39 times—that’s 3,900%—in just 42 years. As compared to the original $35/ounce, that averages out to about 93% price increase per year.

This 93%/year average is not the same as saying that the price of gold in 2008 rose another 93% by 2009. The 93% figure is based on the original $35 price in 1971. Even so, if you’d spent $10,000 buying physical gold in 1971 at $35/ounce, and kept your gold until today, the value of your investment (as measured in paper dollars) would’ve grown to $400,000. Not so shabby. If you’d invested $30,000 in gold back in 1971, you’d have over $1.2 million today.

Half of the purchasing power of that $1.2 million might’ve been eaten away by inflation. But even so, a $30,000 investment in physical gold in 1971 might’ve resulted in a $600,000 gain in purchasing power by today. That’s impressive.

• There are several lessons to be derived from the story of Nixon’s refusal to redeem paper dollars for physical gold:

1. Nothing made of paper or even electronic digits is truly “good as (physical) gold”.

2. The illusion that paper or digital “gold” is “good as (physical) gold” can only be sustained so long as the paper or digital gold can be redeemed with physical gold.

3. Once the issuers of paper/digital “gold” are unable or unwilling to redeem their paper/digital “gold” instruments with physical gold, any previous notion of price equivalence will disappear, the prices of the paper-gold debt instruments and physical gold will diverge rapidly, and the price of physical gold skyrockets.

Therefore, if we knew of another instance where: 1) an institution (perhaps a government or a market) was issuing enormous volumes of paper gold; 2) the price of this paper gold was presumed to be equivalent to price of physical gold; but 3) that institution couldn’t possibly redeem all of its paper-gold debt instruments with physical gold—then, 4) we’d know of an investment opportunity of the sort that comes around only once or twice every century.

I.e., we’d know that the price of physical gold would start to skyrocket just as soon as the institution (government or market) was no longer able to redeem its paper gold with physical gold.

• Do we know of another institution that’s issuing volumes of “paper gold” that it claims to be equivalent in price to physical gold?

Yes. COMEX, in particular, and the US and English gold markets in general.

If so, do we know that that COMEX can’t possibly redeem all of its paper gold certificates with physical gold?

Absolutely. According to some reports, COMEX is trading 99 “ounces” of paper-gold for each one ounce of physical gold. There’s no way in the world that COMEX can indefinitely continue to issue 99 paper-gold futures contracts for every 1 physical gold contract, and ever hope to redeem all of those paper-gold futures contracts with physical gold.

COMEX currently succeeds in issuing paper-gold futures contracts only because most people still believe that paper-gold futures contracts are “good as gold” and could therefore all be redeemed with physical gold.

However, as it becomes increasingly clear that it’s mathematically impossible for COMEX to redeem all of its paper-gold futures contracts with physical gold, investors will increasingly demand to redeem their futures contracts with physical gold. The rate of loss of COMEX physical gold should accelerate (and is probably accelerating already). Sooner or later, COMEX—like President Nixon—will see the writing on the wall and close the COMEX “gold window”.

Perhaps COMEX will wait until it’s completely out of physical gold before it openly refuses redeem paper-gold futures contracts with physical gold. Maybe they’ll close their “gold window” months or even years before their physical gold inventory is completely exhausted. But, inevitably, COMEX will one day openly refuse to redeem any more paper-gold future’s contracts with physical gold.

When that happens, the price of physical gold will diverge from the price paper gold. The price of physical gold could jump much like the price of physical gold jumped when President Nixon closed the gold window on paper dollars back in ’71. 400% in four years.

Think of it.

If COMEX closed its gold window today, with the price of both paper and physical gold at roughly $1,400/ounce, and the price of physical gold jumped 400% in four years, we might see $6,000 gold by 2017—and such price increase could happen a lot quicker or go a lot higher.

There’s nothing unreasonable or hyperbolic in this prediction.

This has happened before (just 42 years ago).

It could, and almost certainly will, happen again.

• We are at a moment when we have good reason to believe that in the near future, COMEX must and will stop redeeming paper-gold futures contracts with physical gold. Thus, we’re are at a moment comparable to early 1971, or maybe 1970 or even 1969 when logic would’ve told us that President Nixon would soon be forced to close the gold window, stop redeeming paper dollars with physical gold, and the price of physical gold would therefore soar several hundred percent in a relatively short period. That means we’re at a moment when the purchase of gold may be one of the best investments the world will see in the balance of this century.

We don’t know exactly when COMEX will close its gold window, but we can see that such closure is mathematically certain. Plus, we’ve already heard a few reports of COMEX refusing to redeem a few paper-gold futures contracts when investors demanded physical gold rather than paper dollars. Plus, we’ve seen global demand for physical gold rise, and we know that rise will only increase the number of investors who seek (as De Gaulle did circa 1970) to redeem their COMEX paper-gold futures contracts by taking actual delivery of physical gold rather than paper checks. Plus, we’re already seeing the price of physical gold being sold at “premiums” above the price of paper gold. That means the price divergence between paper and physical gold has already begun.

Finally, we know that, thanks to the “April Plunge,” the world is beginning to understand that paper gold and physical gold are two entirely different investment vehicles. That means the world knows that COMEX paper-gold is not “as good as (physical) gold”. And that means, the jig is up. Almost.

If we’d had as much information in 1970 as we do today, we could’ve predicted that President Nixon would close the gold window in 1971 and send the price of physical gold soaring. With that information and the courage to act on it in 1970 and early 1971, we might’ve made a fortune by investing in physical gold.

Likewise, given the information currently available, a little logic, and enough courage to act on that information, we might make another fortune over the next few years by investing in physical gold today.

It’s all about redemption. Once COMEX openly refuses or fails to redeem its paper futures contracts with physical gold, those futures contracts will become virtually worthless, and the price of physical gold will rise to unprecedented heights. Those holding physical gold at that time should prosper dramatically.


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5 responses to “Learning, and Profiting, from History

  1. palani

    May 29, 2013 at 12:30 PM

    When there is not enough physical gold expect assets to hit the auction block. Such as the case of Smithfield Foods being sold to the Chinese for 30% over market price of their stock. If this doesn’t raise some eyebrows it should.

  2. Carlton

    May 29, 2013 at 2:23 PM

    @Adask “There’s no way in the world that COMEX can indefinitely continue to issue 99 paper-gold futures contracts for every 1 physical gold contract, and ever hope to redeem all of those paper-gold futures contracts with physical gold.”

    This identifies the dilemma of the current low gold price. The ratios of paper promises to physical reserves do look unsustainable. In theory, the situation could break down suddenly, causing a quick rise in the price of physical gold.

    Yet such COMEX-like ratios occur often in the world of banking, where a bank lends and speculates with its depositors’ money to the extent that it is nowhere near able to repay them if they all try to cash out at once. Hardly a viable business model, it would seem. Meanwhile, whole industries grow up around this practices. That is, until confidence is lost, at which time there is a run on the bank.

    It seems we are nearing an equivalent breakpoint for physical gold.

  3. Anthony Clifton

    May 30, 2013 at 4:39 AM

    redeemed without money…

    there were some bright spots over the decades…talk radio before the internet captured the imaginations of many…one day while listening to SHORT WAVE tending to daily tasks Al Adask in rare form delivers a eulogy for the FALSE RELIGION called psychology..

    truly an unforgettable listening experience for me…like Jeff Bennets’ Thanksgiving show

    sometimes the reader or listener can only surmise what prompts such outbursts of objective validtiy

    so how does one describe those who venture to the extreme boundaries of meaning devoid of value

    I lived in Memphis during the Nixon era…about the time this song emerged on the radio and busing

    to force the integration of the ..PUBLICK….indoctrination centers

    • homelessholocaust

      June 2, 2013 at 11:49 PM

      I Lived in Benton, Arkansas, and Your Time Line is Way Way off! The Benton High School saw it’s First NIggers in 1977, I was a Senior, I QUIT SCHOOL. There was Fist Fights Every Day! Niggers talking loud upset Study Hall. I Was Married & Working in a Cardboard Box Factory when This song came out, I Had a SON & a Daughter on the Way! Oh, by the way, old Jew Hater, I Married a Mexican Girl. But Memphis is the NIgger Death Trap, I see why YOU Left!

  4. Yartap

    May 30, 2013 at 6:40 PM

    Remember the Hunt Brothers of Texas in the 70’s? They did not wish to exercise or cash in their futures on silver. They wanted to purchase the silver -WHICH DID NOT EXIST! Big Problem!
    So COMEX changed the rules (could only sell positions, which caused the price of silver to fall) to cause the brothers to have to bankrupt.


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