The Great Rebalancing

Nature has a way of bringing things into balance. After a heavy rain, the sun eventually shines. Trees and plants grow. Then the seasons change and the cycle starts all over again.

What’s true in nature is true in nearly everything else. Including in the financial world.

More than 1,000 years ago, there wasn’t an international payments system in place to trade paper money for goods. Traders and merchants had to trust each other. Trust was all they had to complete a transaction.

In most cases that trust came in the form of gold…so long as it was real.

As you can imagine, passing fake gold or other valuables would be an easy way to get ahead back then. And you could probably get away with it too.

So merchants across the Middle East and Mediterranean learned to trust nature and all its quirks to help them combat cheaters.

Across the region are carob trees, also known as locust trees. The tree produces a seed pod that looks like this:

Inside the pod are small brown seeds.

Almost every seed weighs exactly 200 milligrams. Pick any pod from any carob tree in any part of the Mediterranean and its seeds weigh the same.

So merchants used a balance scale to verify claims about gold. 

The gold went on one side of the scale. The carob seeds on the other. If a trader had one gram of gold, you would put five carob seeds on the other end of the scale. (Five seeds x 200 milligrams per seed = 1 gram).

Nature provided the carob seed and it became the standard for trading precious materials. It wasn’t possible to cheat the system.

Over time, the carob system morphed into “carat,” the standard for weighing diamonds and other precious stones.

And for gold, it morphed into “karat.”

In both cases, it’s still the world’s trusted method of determining fair value in the trade of precious metals and gems.

Throughout most of recorded history, gold set the standard when it came to money. It was the carob seed of the global monetary system.

But that all changed in 1944.

At the end of World War II, leaders gathered at Bretton Woods in rural New Hampshire. While there, they mapped out how world trade would flow in the years ahead.

Eventually, they decided that the U.S. dollar would be the world’s reserve currency. A title it still maintains today.

The funny thing is the only reason “King” dollar got its title was because on April 5, 1933, President Franklin D. Roosevelt signed Executive Order 6102 outlawing private ownership of gold in the U.S.  

That order required U.S. citizens to surrender their gold coins, bullion and certificates to the Federal Reserve within a month.

But the effect of that order meant at the end of the war, the U.S. held around 25% of the world’s gold reserves. Nobody else came close.

That helped pave the way for Bretton Woods. Other countries even agreed to store their gold in U.S. vaults.

That created trust. And it also created a “gold window” at the U.S. Treasury. Which allowed foreign countries to redeem their dollars for gold.

That led to financial stability. So if two parties couldn’t trust each other, at least they could trust the dollar.

With gold backing the U.S. dollar, trade flourished and the economy boomed.

But as with all good things, the U.S. eventually abused its position.  

U.S. government spending in the two decades following Bretton Woods surged. Eventually, between social spending and the war in Vietnam, the dam broke. The U.S. spent far more than it collected in taxes.

Things spiraled out of control. Smart foreign central banks started to redeem their dollars for gold. Which led to the official end of a gold-backed U.S. dollar and the closing of the gold window.

In fact, we know the exact date that it happened: August 15,1971.

On that day, President Richard Nixon addressed the nation. Fear was high with inflation ticking up. The economy was faltering. People were genuinely scared.

For five years up to that point, the Consumer Price Index (CPI) rose 6% per year. Americans were having a hard time keeping up. So Nixon promised the average American that help was on the way.

In reality, that was a lie. The real reason for Nixon’s speech was to hide the fact that he was about to sever the dollar’s tie to gold forever.

He tipped the scales in his favor and shattered the balance that gold provided throughout history.

Fast forward a few years and on August 14, 1974, President Gerald Ford ended Roosevelt’s Executive Order 6102. Investors could legally own gold again. But more than that, it ended government control over the price of gold.

By the end of the year, it was game on. The price of gold surged.

From its artificial $35 per ounce value before Nixon ended Bretton Woods, the price of gold increased 2,329% to reach more $850 per ounce at its peak.

Gold was telling the world things were out of balance. And that it was there to restore order.

Yet over the years, spending through the new fiat currency system continued to surge. So much so that it left gold in the dust.

Today, the scales remain out of balance. Even with gold outperforming nearly every asset class out there over the past few years, ultimately hitting a recent all-time high of $4,356 per ounce.

Now with gold down about 10% over the last two weeks, it has some saying that gold topped out. After a spectacular run, that was it. Watch out below!

But I don’t believe that was the end.

Gold is just warming up. Its re-establishing its nature as the carob seed against a fiat monetary system.

It’s working to tip the scales back into balance, helping today’s “merchants” from becoming victims of decades-long money games. Just like it did in the 1970’s after years of sitting on the sidelines. Especially with debts and deficits going far higher than anyone ever imagined.

In fact, take a look at the chart below. It shows the value of gold in a slightly different way.

What the chart shows is the market value of gold in the vaults of Fort Knox as a percent of foreign held U.S. Treasuries. Or the value of gold as a percent of debt.

When gold reset its price in the 1970’s it initially surged in order to catch up to all the debt issued at its then artificially low valuation. It was repricing. At its height, the gold in Fort Knox reached a valuation of about 135% of that debt.

But the scales tipped a little too far, then reversed course.  

Today, the value of U.S. held gold versus its debt is way out of whack. Which is why I believe the recent move in gold looks like the beginnings of a sort of financial reset.

But how far can the price of gold go? Well, if you’re wondering what its price would have to be to get back into balance, hold onto your hats. Because that would imply a price of about $35,000 per ounce.

Now, I’m not saying gold will go there. Or do it anytime soon. The point is that gold is still in its early stages of its current financial reset.

So if you think you missed the boat, be patient. You may just have a decent opportunity to start accumulating gold and gold stocks today before the gold bull market powers on.

Regards,

Editor, Strategic Trader