Investment thesis
The weaponization of America’s and the EU’s massive global dominance in finance, through the banking infrastructure as well as the roles of the USD & euro in global trade and FX reserves, seems to be having some perhaps not very unforeseen consequences. Nations around the world evidently have been spooked and are now intent on diversifying away from their over-dependence on the USD and euro currencies as well as our globally-dominant financial infrastructure. The SPDR Gold Trust ETF (NYSEARCA:GLD) is one potential avenue for investors to react fast in the event that current developments in regard to the seemingly rapidly changing global trade infrastructure will eventually trigger a sudden mass event in global finance.
As the trend picks up, it could potentially lead to a cascade effect, where a widespread realization that these currencies are no longer accepted everywhere, for any and all needs, reduces the need to hold these currencies in reserve. While in past years such an event might have been merely theoretical, recent events suggest that the threat is now becoming less abstract and more real. Efforts by some states to reduce their USD & euro-denominated holdings could trigger a cascade effect, where the selling could potentially take on a sudden, self-sustaining trend.
If or when such an event might happen, it is important for investors to be ready to react, by pre-identifying safe heavens meant to preserve wealth. The GLD fund is one such option, that can provide investors with the means to react literally with a few clicks on the keyboard and increase one’s exposure to gold, which might become the go-to safe haven play in the face of what may morph into a partial or even full collapse of the post-WW2 global financial system.
GLD facts & controversies
The GLD fund effectively acts as a proxy for physical gold investments, since it largely tracks along with the gold market.
As we can see, over a five-year period, the GLD fund gained just under 41%, while physical gold gained just under 44%. The discrepancy is mostly a reflection of the expense ratio involved in holding GLD shares, currently listed as being .4%.
The fund does not offer direct access to physical gold, but it is required to back all of its shares outstanding with a corresponding value in physical gold that is kept in a vault. This arrangement gave rise to numerous voices that raised the possibility that the fund does not actually cover its shares outstanding with enough physical gold. I am personally not ready to get into that debate. I do believe that as long as GLD continues to perform in relation to physical gold prices as it has been, it can provide a very convenient way to gain temporary exposure to the movement in gold prices. While it does not provide investors with a right to demand physical gold, it can be sold at any point with the proceeds used to purchase physical gold.
There is arguably the risk that if any supposed irregularities will ever be exposed in regard to the fund many investors will be left holding the bag. It is a valid point in regard to potential risk in my view, which is why I do prefer to hold physical gold as well as gold mining stocks in much higher volumes than GLD. I regard GLD as more of a shorter-term, somewhat limited, but in many ways convenient investment option, when one seeks investment exposure to gold.
The potential for a seismic shift in the global financial order went from abstract to a very real and potentially imminent outcome scenario within the last year
For quite some time now, very timid, modest & rather isolated experiments with alternatives to the Western-dominated global financial system have been hailed by some as the beginnings of a move away from America’s US dollar-based global economic & financial hegemony. At times, the rise of the euro was seen as a potential threat. Then came the growing desire of Russia & China to switch to a system of trade settlements outside of the global system. The euro turned out to be a less than impressive challenge to the USD on the global stage, mostly because it is a currency that represents an economy that is shrinking in its global weight, at a blistering pace. The experimental work that China & Russia did over the past decade with bilateral currency swap arrangements helped them to shift some limited trade volumes to local currency settlements. It never seemed like it will ever grow into anything more than just a PR stunt, meant to show the world that there are some alternative ways of doing things.
All that changed last year, with the Ukraine war, which led to the Western World’s decision to weaponize its globally dominant position in finance against Russia. The mass-freezing of hundreds of billions of dollars in Russian central bank assets was perhaps the one move that helped to spook much of the rest of the world to the greatest degree, but there were other aspects as well. For instance, many countries around the world learned that even though they were very dependent on buying certain indispensable goods from Russia, such as energy, food, fertilizers, and so on, they were also stuck in a position of complete reliance on the Western-dominated global financial system in terms of facilitating those transactions. Once Russia’s USD and euro assets were frozen, Russia also became hesitant to accept USD or euro payments, which further shook many countries out of their past complacency, taking it for granted that they will always be able to use those currencies to buy just about anything from anywhere.
The list of initiatives meant to move away from USD or euro-denominated trade and financial services initiated in the past year is starting to be too long to list or keep track of. The catalyst is obviously Russia, which in the absence of regime change, most likely will continue to forge a path of moving away from the Western-dominated global financial system. With yearly goods & services exports of approximately $500 billion and imports of about $300 billion per year, Russia accounts for about 3% of total global trade, which is not an overwhelming share, but neither is it trivial by any means. The nature of the exports amplifies the effect of Russia’s trade with the world. Things like energy, metals, food, and fertilizer tend to be irreplaceable for most economies around the world. The unavoidable outcome is the rise of new institutions, which have the potential to grow and spread beyond the Russian situation.
For a better understanding of how Russia’s growing push out of desire as well as the necessity to move away from the Western-dominated global financial system is changing the way many nations seek to do business, India is perhaps a very good example of it. India is considered to be a potential Western ally against China for instance, and yet it too is showing signs of a desire to move away from the Western-dominated financial system. It all started with the need and desire to trade with Russia bilaterally in their own currencies. This desire led to a roughly five-fold increase in trade between the two countries just last year, and it is set to grow further as Russia expressed an interest in purchasing much-needed intermediary goods from India. With this catalyst in place that gave rise to new institutions, India is starting to expand trade in its own currency with other partners by utilizing those same institutions that were catalyzed into place by the Russia situation.
While the Russian confrontation with the West is the catalyst that accelerated the development of alternate institutions to the current global financial system, it is China which is the most likely to cause the critical mass to be achieved in terms of the trend gathering more speed and magnitude. For instance, its pursuit to try to move the likes of Saudi Arabia away from the decades-old policy of the US-Saudi petrodollar scheme. It makes perfect sense, given that Saudi Arabia increasingly sees Western morality-guided, or arguably excused through moral arguments policies as a threat to the regime’s survival. Unlike Russia or even Iran, it would not be able to withstand much economic pressure, since it has a high degree of dependence on imports of food, manufactured goods, and other basic needs. Forging alternate partners such as China & Russia, both of which could help it out in a pinch, makes perfect sense, given the context. It is an exercise in diversification, no different from what most investors arguably strive to do.
There have been some voices prior to recent events, raising the possibility that the Western-dominated global financial system, which is based mostly on USD transactions could gradually be eroded. They however argued that the trend is likely to be very gradual, with no immediate consequences likely to be felt in regard to global financial stability, and the stability of the USD and euro monetary systems in particular. Examples such as India, where new institutions appearing in place, mostly aimed at aiding continued economic relations with Russia are triggering ripple effects within India’s other bilateral relationships, where interest is growing in replicating the Russia-India experiment, suggests that things may not necessarily move as gently and gradually as first thought. There is a chance that a cascade effect could occur, which could trigger a proverbial rush for the exit door, away from USD-denominated assets, at any point going forward. It could be tomorrow or 20 years from now, but it is likely to happen in my view and investors need to be ready to first of all recognize the possibility and signs that such an event is about to happen, and second, be prepared to act accordingly.
GLD can become a valuable, convenient mechanism to quickly respond & reposition as a defensive measure meant to help investors to preserve real wealth & the purchasing power of their financial assets
If I am correct and a cascade effect will take place within the global financial system, with the current infrastructure in place finding itself in quick retreat, it may be very hard to recognize the early signs of an impending event, despite what will only in hindsight seem like very obvious signs. If or when this will happen, investors might have a very limited window of opportunity to react and adjust, in other words, keep ahead of the herd. We could be looking at crucial days, not weeks or months for investors to sell some of their most vulnerable investments, such as non-commodities related cyclical stocks, and get into perceived potential safe haven assets, such as gold.
In this respect, the GLD fund could play a pivotal role in helping investors to flee into a safe haven asset if or when the need to do so will arrive. It can arguably save those who might be looking to respond to a global FX upheaval event days, in terms of converting their stock assets into gold, in comparison with what it would take to convert those same funds into physical gold. If such a hypothetical event will occur, those days could potentially make a huge difference, and nothing stops investors from taking advantage of the first opportune moment, perhaps once the upheaval calms and things stabilize, to convert GLD ETF shares into physical gold by selling the GLD ETF shares and then using the proceeds to buy physical gold.
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