Central bankers have declared victory in the war on inflation. But the gold price is screaming, ‘Liar, liar, the money’s on fire!’ It just hit another record high.
If inflation were back in the bag, gold would be trending the other way.
So, whom do you believe?
Has inflation finished with you? Or has it just begun?
You might find the answer in the “In Gold We Trust” report. It’s free and comes out every year.
Although the title is a bit of giveaway, it still has a lot of useful analysis.
And, best of all, a lot of historical context. This is something investors often fail to take into account at their peril, especially during inflationary periods.
You see, inflationary bouts tend to defy human awareness in a clever way.
They tend to be gentle enough to avoid panic, and last long enough to remain hidden in plain sight.
It’s an insidious combination. Boil the frog slowly, and all that.
As Ronald Reagan should’ve said, ‘Inflation is as violent as a mugger, as frightening as an armed robber and as [stealthy as a cat].’
Thanks to its insidious nature, investors fail to panic about inflation when they should. Before we know it, our portfolio is being taxed for a 50% capital gain while its real value has halved.
Which probably sounds a bit drastic. But consider the last three years’ action alone.
Inflation in Australia pushed prices up more than 15% between June 2021 and March 2024. If you believe the government’s statistics, that is.
The ASX200 is up less than 7% since June 2021.
Throw in your marginal tax rate on that capital gain and you add insult to injury.
Repeat the process for a decade or so of inflation and you will know what hit you when it’s too late. Unless you’ve already woken up to what’s going on.
The gold price, by the way, is up about 40% over the same timeframe.
It has also outperformed stocks over many longer time horizons too. That’s because we live in an inherently inflationary system.
It’s the age-old lesson of inflation…
Hard assets beat paper profits
It’s not just gold that’s hurtling higher, of course. Silver and copper are on a tear too. Even after a severe correction this week, inanimate lumps of metal are outperforming stocks.
And that’s the big hint, really. Read your history books and you’ll notice inflationary periods are full of this type of price action.
But it’s not quite that simple. Inflation doesn’t just steadily rise and persist, allowing you to get a grip on it. It jumps around all over the place.
Fortunes are made and lost speculating. Not investing in productive things, mind you. Just taking punts on the price of plain old stuff.
That’s what makes inflation so dangerous to an economy. It rewards unproductive behaviour. And wreaks havoc with the sorts of long-term investments needed to raise productivity – the true source of prosperity.
You can choose to join the speculation mania. Or evade it.
The best way to opt out is to buy assets which resist this boom and bust behaviour. Preferably by being incredibly boring. And what’s more boring than a lump of metal like gold?
But buying and burying gold is not the only way to profit.
The best in the business of inflation speculation was Hugo Stinnes. You might want to learn a trick or two from him if you agree inflation is merely taking a breather.
I wrote about him back in April 2021. That was weeks before the inflation scandal began…
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The Inflation King
Hugo was born in Mülheim, into a wealthy family which owned a coal mine and other businesses. My ancestors likely worked for him as coal miners and I was born in the neighbouring town.
Understanding what was to come of the Weimar monetary policies, Stinnes borrowed heavily in Papiermark – literally the “paper money” of Germany at the time. And he used the proceeds to buy up mines and other capital intensive real assets like shipping, forests and steelworks.
His business empire rapidly expanded under the load of debt. In fact, he even became a banker just to leverage up his own businesses even more. (The Japanese were a fan of this tactic in the 80s, but that’s another story.)
Hugo became Germany’s largest employer in the process of his expansion – about 1% of the entire German population worked for him. And he was a key figure of the political scene too. He was known as the Inflationskönig – inflation king. But it was all a big gamble on what would happen next.
As inflation exploded under Weimar policies, Stinnes’ debts became easy to pay off. That’s because those debts were denominated in money, but money became worth less and eventually worthless. The value and output of his real and productive assets meanwhile soared in price during the inflation, making it easy to repay the fixed debt with vast cashflow.
All this happened 100 years ago. Although, it’s beginning to happen again. Central banks are printing vast amounts of money to try and finance out of control government deficits.
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Rising commodities over the past few months are signalling another wave of inflation is coming. Perhaps it’ll even arrive this year.
Am I suggesting you should leverage up to the hilt and buy copper ingots?
No!
Inflationary periods are too volatile for that. All sorts of chaos and crashes happen along the way.
But you might want to consider speculating in the stocks of mining companies. The sorts of firms Stinnes might’ve bought himself.
By the way, the reason why inflation will make a comeback is the same as in Stinnes’ day. And it’s the same reason inflation ebbed and flowed repeatedly in the 70s too.
Government debt remains a problem. And inflation shocks remain the only solution to that problem. More on that soon.
How to protect yourself from
inflation’s comeback
If inflation were a simple devaluation of money, it’d be easy to protect yourself from. You just borrow money at a fixed rate and buy real assets like gold and silver.
But it’s not that simple. Any gold and silver investor back in the 70s will tell you.
Inflation can suddenly plunge, as it has recently. Interest rates can surge too.
Sometimes, the inflation occurs in assets. That’s what happened in 2009. Sometimes it occurs in consumer prices, like in 2021.
Inflation can benefit businesses by allowing them to raise prices. Or it can destroy them by raising their costs. The wave of bankruptcies in the Australian home builder sector is a prime example of what can go wrong.
So, if you want to go beyond owning precious metals like gold and silver over the long term, the challenge for investors expecting inflation is surprisingly difficult.
You need an experienced hand to guide you through the ups and downs.
Until next time,
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Nick Hubble,
Editor, Strategic Intelligence Australia
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