Gold in Backwardation
Source: Seeking Alpha, Trace Mayer (12/9/08)
The question becomes: If I earn no interest on my dollars, euros, yen, etc. and lose purchasing power from inflation then I have a negative real rate of return. If I have a negative real rate of return, then why should I own dollars instead of gold?
Backwardation is a situation where the fiat currency price of a commodity is pregnant with a premium the buyer is willing to pay for immediate delivery. The price of a commodity for future deliver is lower than the spot price. This is contrasted with contango where the spot price is lower than the futures price. Backwardation seldom arises in the monetary commodity gold or the quasi-monetary commodity silver...
Contango is supposed to exist because of gold’s inherently negative interest rate. The future price of gold is generally the spot price plus the future value based on the currency’s interest rate and a premium for counter-party risk. . .As counter-party risk or the perception thereof increases, like an exchange’s potential failure to deliver, there is greater demand for present delivery of gold.
...The question becomes: If I earn no interest on my dollars, euros, yen, etc. and lose purchasing power from inflation then I have a negative real rate of return. If I have a negative real rate of return, then why should I own dollars instead of gold?
As evaporation of the monetary system continues during this deflationary credit contraction, capital piles into the national currencies by moving down the liquidity pyramid into the safest and most liquid assets. As the national currency interest rates continue to fall they evaporate faster driving them towards a zero-interest rate policy environment. The WSJ has accurately observed that investors are 'bugging out of gold', but if backwardation is and remains in effect then this situation has changed...