Gold always remains a topical subject. At one time many industrial manufacturers used substantial amounts of gold in their products. Although this has changed over the years, gold always remains a subject for discussion and study. Many companies and investors still hold gold reserves as a hedge against times of uncertainty.

Why should that be so, given that the gold market had been sailing through decidedly quiet waters for the last number of years? I believe that the relative stability of the gold market continues to impress, particularly in times when the financial markets are racked by uncertainties and volatility. For those investors in gold, we have taken advantage of the current volatile stock markets.

Let’s explore some of the issues surrounding gold and its markets.

Monetary gold

The gold standard reached its zenith around the turn of the 20^th century. After that, the demonetizations of gold started. What the breakdown of the gold standard at the outset of World War I had signaled materialized with Britain’s suspension of gold convertibility in 1931 and sealed by the late US President Richard Nixon 40 years later, when he closed the gold window. In 1978, the IMF formally removed gold from the center of the international exchange rate system. Detached from its monetary function, gold became an Asset. An Asset, valuable as a precious commodity, as an investment vehicle and as an ultimate reserve in times of dire need.

Faced with the demonetizations of gold, the world’s central banks found themselves on the horns of a dilemma: To sell or not to sell? In effect, Canada’s official gold reserves have “shrunk” substantially since the mid 1960’s and getting smaller. Canada sold and continues to sell its gold reserves. On the other hand, countries like Luxembourg have virtually all of their reserves in gold. 

The Swiss National Bank remains loyal to the gold standard and has no intention of selling its gold reserves.

Derivatives & Gold

Derivative instruments, although known for centuries, have come close to overwhelming the financial markets over the past twenty years. The ever-increasing use of “forwards, swaps, options and their numerous by-products” has revolutionized the world of investment and finance.

Derivatives basically lower transaction costs and allow market players to tailor their risk. Derivatives add liquidity to markets, partly by tying the different markets closer together, partly by attracting additional investors. As a result the stock markets have become more sensitive while the forces of shaping them have become more powerful.

In times of good news and predictability, derivatives add stability to the markets. In times of bad news and heightened uncertainty, derivatives may increase the market's volatility. The gold market is probably the most striking example of how much good derivatives can do. With the coming uncertain times, holding gold is a good investment and hedge against inflation.

In the Old Testament, Genesis tells us that gold is a valuable asset. It cannot have been its monetary charm that attracted our biblical fathers, and, at that time, the markets and central banks were not running the show. Hence, no charm, no harm. Something that has enjoyed the unique esteem for thousands of years is not going to melt down in the space of our generation. Buy gold and hold it. It might be the best investment you make in the medium term.