Gold News

Gold Bullion: An Insurance Escape Route?

With counterparty risk on the rise, a decent investment income comes at a price...

WHERE CAN you go if you're fed up with the people who run the financial markets? asks Greg Canavan in the Daily Reckoning Australia.

This great game we're playing has no start and end point. It has no rules. The referees are corrupt. Yet you can't leave. Not entirely anyway.

Gold, as in physical Gold Bullion, is the only way out of the game. It's the only way to 'tap-out'. But you can't put all of your assets in gold. As gold bears are so fond of saying, gold pays no income...and you can't eat it either. If you're retired, or heading in that direction, you need income to live on.

So what to do? The desire for income keeps you in the game. But 'safe' yields are low all around the world. And where yields are high, the income is far from safe. Australian banks offer a generous yield of over 7%, plus a franking credit. It is safe?

We don't know. We'd guess not. But today we only have questions. Answers are elusive in the big game. More to the point, answers are just a guess. No one knows how this is going to play out.

That's because being 'in the game' comes with counterparty risk. You put your money in the bank. The bank lends it out to someone else. You receive interest. Interest is your reward for accepting counterparty risk...or relying on someone else to get your money back

You buy a government bond. The government becomes your counterparty. The government's good for it, you think. But if enough investors start to think that maybe the government isn't good for it, like in Greece, Italy, Portugal or Ireland, just to name a few recent examples, then the interest rate starts to rise.

As the interest rate rises, prices fall. You may still get your income, but your capital takes a hit. That's counterparty risk.

And because money = debt in this great modern monetary game, counterparty risk is on the rise. Put another way, for every liability there is an asset. Just as one person's junk is another one's treasure, one person's debt is another one's asset. Now, there is too much debt in the word. Economic growth is too slow to service the debt.

As a result, the debt turns 'bad'. For all intents and purposes, it ceases to exist. That means someone's asset also ceases to exist. Any asset write down first hits an individual's (or company's) equity. Bad debt is silently eating into the world's equity. In other words, debt is like a black hole...it sucks up the world's store of 'wealth'.

We say 'silently' because the adjudicators of the great game refuse to acknowledge the bad debt. Instead they create more, hoping to paper over the cracks. The bad debt piles up. It rots...and we ignore the stench.

Why the ignorance? It comes back to counterparty risk. Writing off the bad debts, and the assets that accompany it, would attack the heart of the financial system, the banks. The banks are all linked together in a death chain of derivatives. The death of a counterparty would shoot through the financial system like an electric shock.

What happens then is anyone's guess. But at that point you'd be hoping you have a decent little insurance policy outside the system.

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Greg Canavan is editor and publisher of Sound Money, Sound Investments, a weekly financial report devoted to unearthing great value investments amid today's "money illusion" of fiat currency. Formerly editor of Australia's market-leading finance newsletter, Greg has been a regular guest on CNBC, ABC and BoardRoomRadio, as well as a contributor to publications as diverse as LewRockwell.com and the Sydney Morning Herald.

See the full archive of Greg Canavan.

Please Note: All articles published here are to inform your thinking, not lead it. Only you can decide the best place for your money, and any decision you make will put your money at risk. Information or data included here may have already been overtaken by events – and must be verified elsewhere – should you choose to act on it. Please review our Terms & Conditions for accessing Gold News.

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