Is cash or gold and silver the best hold for a rough summer?

Hedge funds seem to be stocking up on gold to weather what looks likely to be a shift down in financial markets over the summer, probably with pockets of extreme volatility and every prospect of a selling climax in October or sooner. Then again cash may well be king in this environment.

So will it be better to hold gold or stick with US dollar cash and short-term treasuries as a cash equivalent? The lowering of short term bond yields to levels not seen since the financial crisis two years ago is an ominous signal. Investors are exiting stocks and riskier assets and going to the safe havens.

Different this time?

Just because gold took a 30 per cent haircut in the 2008-9 sell-off does not necessarily mean that the same thing will happen this time. Speculative positions are far lower now, and the demand for gold higher than ever from nervous investors who are not happy to trust their entire future on the US dollar.

After all let us not forget that the US government is still committed to spending its way out of this economic downturn, as the admonishment of Europe’s austerity by President Obama has reminded us. But that profligacy will come at a price in terms of eventual US dollar devaluation.

However, in the short term a sell-off in global financial markets is going to be dollar positive as it was in the previous down leg of the bear market that has been with us since 2000. The time to duck out of the dollar will be when it looks strongest at the depths of this sell-down, and maybe that will be in October.

Geopolitics

The dollar looks the safest of asset classes until that important potential reversal point is reached. But you still have to wonder about leaving gold and silver entirely. What happens is Israel mounts an attack on Iranian nuclear facilities this summer?

The price of oil will shoot up. Gold will go through the roof, and silver generally outperforms gold in an upturn. Stock markets will tank. The Middle East will be destabilized.

You would be pretty annoyed then if you had liquidated all your precious metals for dollars before such a crisis. It could be the price spike that precious metal investors have been awaiting since 1980, and that was down to the Iranian Revolution and Afghanistan – how little things change!

No the intelligent investor will hold both cash and precious metals but probably not much else except stock market short positions.