Can we trust Congress and the Fed to make prudent decisions with our currency? One of the world’s greatest investors says no.
Gold vs. the Dollar
After hitting an all-time high earlier this month, gold is finally feeling some pressure. The dollar index (which tracks the strength of the US dollar against other leading fiat currencies) is ticking up for the first time since February.
The dollar and gold tend to move in opposite directions. Their inverse correlation can be attributed to a combination of factors:
- Gold competes with the dollar as a safe-haven asset. When investors are concerned about the stability of other investments, they tend to flock to either gold or cash. For much of US history, the dollar and gold were literally the same thing – now they compete for a similar position in many portfolios.
- A rising dollar makes gold more expensive for international investors. Gold is priced in US dollars on major commodity exchanges. When international investors buy gold, they often need to convert their local currency into US dollars to make the purchase. When the US dollar index rises, investors must exchange more of their local currency to obtain the same amount of gold. Therefore, a rising dollar decreases demand for gold.
- Gold is a hedge against the pitfalls of fiat currency. Unlike the US dollar, gold cannot be printed out of thin air. Investors buy gold as a hedge against the reckless decisions of central bankers and spendthrift governments. A falling dollar index typically reflects growing distrust in the Federal Reserve or US government, which means higher gold demand.
Druckenmiller Bets Against the Dollar
Gold investors should ask the question: where is the dollar headed?
Fortunately, one of the greatest investors of all time has an answer for us. Stanley Druckenmiller is an American billionaire hedge fund manager who rose to fame in 1992 after placing a huge bet against the British pound. He successfully anticipated the pound’s devaluation, generating massive profits and helping “break the Bank of England.”
Now Druckenmiller has similar concerns about the dollar.
In fact, his current bet against the dollar is his “sole conviction trade” according to the Financial Times.
Specifically, he cited US policymakers’ “weaponization” of the currency in February 2022, when they froze Russia’s dollar reserves during the invasion of Ukraine. This event added an incentive for other nations to “de-dollarize.” We have already seen India, China, Russia, Saudi Arabia, Iran, Brazil, and South Africa take significant steps to reduce their reliance on the dollar for international trade.
Brazilian President Luiz Inácio Lula da Silva recently called for some of these nations to create a new currency. According to Druckenmiller, “you have Lula running around asking why we have to do trade in the US dollar, and he’s right to.”
He is also concerned with America’s fiscal and monetary challenges. In the wake of recent bank failures, Fed policymakers immediately reverted to balance sheet expansion and money printing. Broader issues such as the national debt and massive budget deficits appear impossible to solve without some sort of reset. Not to mention, the political stalemate over the US debt ceiling (and potential default) has yet to be resolved.
The point is: it is quite reasonable to question the long-term sustainability of a currency that depends entirely on Congress and Fed officials making prudent financial decisions. The US dollar is walking a treacherous path.
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As always, thank you so much for reading – and happy investing!
Druckenmiller takes aim at dollar in sole conviction trade (Financial Times)
Fed’s Bostic Says ‘Hard Part’ Still Ahead If Inflation Stubborn (Yahoo Finance)
Fed Officials Debate Whether to Pause Rate Rises (The Wall Street Journal)
How Wall Street is preparing for possible US debt default (Reuters)
Why US regional banks are doomed to a doom loop (Reuters)
At G7, a warning about economic outlook as US debt crisis looms (Reuters)