SEMI-MONTHLY FISCAL/MONETARY UPDATE – MAY WAS GOOD FOR GOLD – NOT SO GOOD FOR BITCOIN, BUT YOU CAN EARN INTEREST ON YOUR CRYPTOCURRENCY!

MAY WAS GOOD FOR GOLD

The general market was basically flat in May but gold bullion and the gold miners had a good month. Gold bullion was up about 7.7%, gold mining stocks did approximately double that, and our Partnership’s portfolio mirrored that. The result is that gold bullion has now retraced its earlier loss, is now virtually flat for the year, while the gold mining stocks are now ahead for the year. There is every reason to believe that the last three months for gold related securities are a harbinger of even better performance to come.

GOLD AND BITCOIN

It might not be a major factor, but bitcoin, which has likely attracted some potential gold buyers to the “digital gold, as bitcoin enthusiasts like to say, retreated from a high of $64,000 to a low around $30,000. We don’t view bitcoin as anything other than a symptom of the fiscal/monetary folly that has engulfed the civilized world the last ten years, but some speculators who might have “played” with gold or the gold miners have no doubt been seduced by bitcoin. We think, as we have repeatedly suggested, that gold is the real money, a durable and unique store of value and unit of exchange, as demonstrated over thousands of years. For what it’s worth, bitcoin is only one of 10,000 cryptocurrencies, and its dominance among them is being steadily diluted.

GOLD PROVIDES NO RETURN IN TERMS OF INTEREST OR DIVIDENDS, HOWEVER…….

The absence of a steady return, in the form of interest or dividends, puts gold bullion ownership at a distinct disadvantage to bonds or stocks. These days, however, there is virtually no return in safe short term fixed income securities. One year US Treasures pay 0.14% and 5 years only gets you 0.79%. The dividend return on the S&P 500 index is only 1.38% and there is a natural risk within stock ownership. With inflation running about 4% in the last twelve months, stocks and bonds have a negative “real return” of about 3%, so gold bullion is not at such a disadvantage. It is worth noting that many of the high quality gold mining companies are now paying dividends of 2% or more, allowing the gold mining stocks to be even more competitive. This is why the performance of gold bullion and the gold mining stocks have correlated strongly with the level of “real interest rates”. The more negative the “real” return on stocks and bonds, the better gold related securities do.

YOU CAN NOW EARN AN INTEREST RATE RETURN ON YOUR OWNERSHIP OF BITCOIN, HOWEVER…..

You will be hearing more about the opportunity to earn interest on your holdings of bitcoin or other cryptocurrencies.

At first blush, how can this be? Who is paying this interest, especially since bitcoin cannot be possessed physically?

This is a brave new world. Bitcoin and many of the other (10,000) cryptocurrencies are traded on a variety of exchanges. Some of those exchanges are allowing traders to “short” cryptocurrencies, just as investors have been allowed to short stocks and bonds for ages. To allow this, the exchange has to offer a cryptocurrency “savings account” to owners, in turn allowing the short seller to “borrow” the asset from the exchange, which appropriates it (temporarily) from the true owner. That means the exchange has to “remove” it, somehow segregating it from the owner’s account, providing it to the short seller, allowing for “delivery” to whomever is buying it from the short seller.

Just as when scarce stocks are lent by third parties (such as Fidelity, Schwab, etc) the short seller pays a fee for the “borrow” (can range from a couple of percent to upwards of 50% annually) and 40-50% of that is rebated to the true owner, who allows their stock to be “taken” temporarily by Fidelity or Schwab, and lent out. This can generate a very attractive “return” to the true owner. However, the risk to the lending owner is that the speculative security, which is “hard to borrow” and that’s why the short seller pays the interest charge, may be as risky as the short sellers believe, and decline sharply in price, more than offsetting the interest rebate to the owner. Parenthetically, the true owner can call for a return at any time if they want to sell the stock for any  reason. That in turn, can create a “short squeeze”, when the short seller is forced to buy back the stock, to return it to Fidelity or Schwab, who returns it to the selling true owner.

All of this negates one of the original advantages of bitcoin and the other cryptos, which was to prevent access by  third party agencies.

It also puts the cryptocurrency owner at the mercy of the “exchange”, on which cryptocurrencies are traded and within which ownership is maintained. Coinbase Global, Inc. (COIN) is the largest “exchange”, which came public recently and trades with its own Market Capitalization of about $50 billion. It is a “regulated” (sufficiently?, who knows?) cryptocurrency company that provides customers with a platform for buying, selling, transferring, and storing digital assets. Many exchanges offer a variety of interest rates on many cryptocurrencies. The interest rates vary widely, depending on the exchange and the cryptocurrency, and can sometimes provide even double digit yields.

However…..to earn that return you subject yourself to “third party” exposure, adding the exchange risk to the price risk of the crypto. How much do you really know about the exchange (depository) you have chosen, and what recourse do you have in the event of default?

THE BOTTOM LINE

I asked a good friend of mine, who has a substantial ownership of bitcoin, if he is earning any interest on his holding. He responded that he buys and sells bitcoin through Coinbase. He does not want to allow even Coinbase to appropriate his holding, let alone one of the other exchanges that are willing to pay a high interest rate. As of today, June 2, 2021, Coinbase does not show any interest rate offered on bitcoin, but the BlockFi exchange is paying 5%, Nexo is paying 6%, and Celsius is paying 3.5%, to name just a few.

There is no free lunch. Be careful out there!

Roger Lipton