Legacy is Lived Out Every Day - Part 3

Building Wealth Requires Creative Thinking and the Gold Market

Picture of by Dr David Phelps

by Dr David Phelps

Many don’t realize that legacy extends further than money left over and begins much sooner than one’s passing. Culture and relationships are a large part of your legacy.

How you respond to crises, and whether you listen to wake-up calls makes your story unique and yet again, impacts the legacy you’re creating (If you haven’t read my previous blog on these topics, you can read it here).

This week, we’ll discuss more on the financial side of legacy. It’s not about the dollar amount you leave behind but your behavior toward money that is most important. How you create wealth. How you preserve it. How you share wealth. That’s where my conversation with David McAlvany picks up this week.

Dr. David Phelps:
Your father was very innovative from 1933 to 1975 when it was illegal for US citizens to hold physical gold. 

David McAlvany:
That's right. 

Dr. David Phelps:
Your father found an exemption, a religious exemption to buy and own gold. How did he find a way to still make that possible for the people he wanted to serve?

David McAlvany:
Yes, bullion was illegal from 1933 to 1975. The justification in the '30s was that there wasn't enough liquidity in the system. This is in the context of the Great Depression, and at the time the Federal Reserve (which had only been around since 1913) basically stated, “You've created us, but you're not letting us do our job. We need control of the money supply. If we have control of the money supply, then we can solve these problems. There'll be more in the banking system. There won't be panics, there won't be runs. We can solve it all.” That was the concession. Give the keys of the kingdom to the Fed, and let them control the money supply. But to do that, they had to disconnect gold from our monetary system.

They also knew that they would lose credibility in doing that with our foreign creditors. We ended up with the two-tier system where we still settled our foreign credits and debts in gold ounces, but domestically we couldn't own it. They got to inflate domestically and maintain credibility internationally.

The '70s roll around and the Bretton Woods agreement, which had been put in place in 1944 to center the US dollar in the World Monetary system, was being pressured because the gold and the dollar were supposed to be equivalent in terms of stature, in terms of reputation. But after the Guns and Butter policies of the Johnson Administration and the funding of the Vietnam War, our foreign creditors thought, “Oh, this is a joke. We'll take the gold and not the dollars.”

What we did in the '70s was lobby to have the rules changed so that citizens could own gold again. Prior to that, the best you could do is own gold mining companies in South Africa, if you wanted a proxy for the price, which was not really a proxy. They're two different animals altogether.

My dad, however, found a religious exemption. He located an artist who would make one and two-ounce gold medallions, 24-karat gold medallions. And they had scenes of Jesus feeding the 5,000 or Noah's Ark or a kind of sampling of the Old and New Testament that fit the exemption. Because of this, we were in the bullion business in 1972 with a three-year head start on anybody in the business.

We actually started out as a wholesale business strictly to Wall Street firms who didn't have a solution for placing bullion in a client's account. Then in the late '80s, we began working with individual clients.

On reflection, the religious exemption was everything. It gave us a first-mover advantage in the gold market.

Getting creative, working with what you have, and finding solutions for others. That’s how you create wealth. It is this problem-solving approach that many successful entrepreneurs use to create wealth even during downturns and recessions. It might sound easy, but it’s also the implementation and the locating of the right people that made this work for the McAlvanys.

But what about preserving your wealth?

Dr. David Phelps:
Let’s dig into the topic of gold and precious metals because there are a lot of us who think, “Well, it would be good to hold some precious metals, but I’m not really sure how to do it, or how much to allocate.” We’re concerned about liquidity issues, which we talked about this morning. 

Let's go down that rabbit hole. I know that's not all you do. The reason I love having David McAlvany here is because you can tell he has a very holistic approach to everything in life and if we're talking about finances, his father’s business made a market there. That's only one thing that you do. Again, we look at the broad spectrum, but let's talk a little bit about where precious metals might fit into a portfolio.

David McAlvany:
For context, we're interested in all markets and the business that we run today is an asset management company focused on hard assets in the publicly traded markets. Our focus is specialty real estate, infrastructure, global natural resources, and precious metals. So a diversified portfolio of equities in those areas. I mention that because we're not a one-trick pony as it relates to the precious metals themselves. 

To manage a high beta portfolio in those spaces, meaning you have above-average volatility in those kinds of stocks, we have to focus on risk management every day. I've got a great team and we look at the internal workings of the financial markets and talk about it constantly. Are we supposed to adjust our liquidity, increase, decrease, et cetera, et cetera, to manage risk in the portfolio? We arguably have a higher volatility portfolio. Last year we didn't lose any money versus the market, which was obviously upside down, Dow, S&P, and Nasdaq. But it means that we're engaged with lots of inputs, whether it's interest rates or credit default swaps, all of these things matter to us. Precious metals have been our business for 50 years. We’ve been in the asset management business for 15 years.

In all honesty, the precious metals business really shouldn't exist. If we had sound money, it wouldn't need to exist. If we go back to the 1910s and '20s, all gold was, was money. When you sold stocks or sold real estate and put money in the bank, it was sitting there in the form of gold. That's what it was. Now we've come to believe that it's some sort of commodity speculation and that greenbacks have greater value than gold ounces. It's a really interesting transition and evolution that we've gone through in our thinking on metals. Gold should be cash. As it turns out, in this age of inflation, it's more of a hedge.

David McAlvany:
Gold serves as a hedge against stock market volatility. It serves as a hedge against inflation. The best research actually shows that it's a better hedge against deflation. It does nothing in real time for inflation. It plays catch up to inflation, so you might be looking and saying, “Well, it's not really keeping up with inflation.” It might do that for a year, it might do that for 18 months. If you look at a decade-by-decade view, it's tracking inflation. It just does it in sort of spurts.

Dr. David Phelps:
This last year, people say, “Well, yeah, gold didn't do very well.” But how are you looking at it?

What's your perspective on that?

David McAlvany:
A lot of clients will look at it as a hedge to manage overall risk. A lot of clients see it as a way to maintain liquidity. I think that when you look at metals, the best way to view them is like a golf bag. There are different clubs in the bag and there are different ways to approach it. It just depends on what you need at the time. Physical gold in your possession, that's kind of like the sand wedge wedge. You don't want to need the sand wedge. You never want to need to have gold that you might use for barter or for some sort of worst-case scenario. But you have the sand wedge anyways because if you get stuck, you have to get out.

There are other ways to approach it that are more dynamic and we do a lot of ratio trades and premium trades that allow growth of the total number of ounces in a portfolio without new money coming into a portfolio. It just depends on what someone wants and how you acquire it. Our engagement with clients, a lot of the time, is just listening and figuring out what they’re trying to accomplish. They might have just exited a real estate deal and they have too much money in the bank – liquidity is an issue when you don't like inflation.

Dr. David Phelps:
They can't find the next deal.

David McAlvany:
If you're stuck for 3-12 months on the sidelines, our vaulted program is like our cash alternative. It's a banking alternative. It's in ounces instead of greenbacks. But again, what's the problem you are solving for? 

There are different approaches and I’m happy to engage with anybody on those kinds of things. But gold at the end of the day is a hedge. The IMF just wrote a paper, published at the end of January, and they said, “Look, we've got these uncertainty events that are causing central banks all over the world to add gold to their holdings.” Last year there was more gold added by central banks to their balance sheets than in any other year going back to 1956. They're buying hand over fist. Why? Economic uncertainty, financial market uncertainty, geopolitical uncertainty, and the language they use is, “We have these uncertainty events.” The reserve managers look at it and say, “We should really be adding to that part of our portfolio.”

For me, real estate is my main avenue of wealth preservation, but there are many ways to preserve wealth, within real estate and other assets including precious metals.

Though we discussed specifics on the use of gold as an asset or hedge, I want to highlight a takeaway that we can all apply to our investment philosophy (a philosophy you should strive to cultivate as part of your legacy).

Regarding wealth preservation: There is no “one-trick pony”. You can not depend on one model, one way of doing things, or one asset to solve it all for you. 

What you can do is build yourself a team of experts who will help you create a plan to preserve your wealth, to fill that gap in knowledge necessary to solve the big problem of keeping your money. Precious metals and real estate are probably going to be within that plan BUT they are just the vehicles, the tools used to preserve your wealth.

To conclude this series on legacy I want to emphasize defining the legacy you desire. Without the specificity of what or where the target is, you make it near impossible to hit the bullseye with accuracy. So get specific on what it looks like:

What legacy (culture, relationships, memories, lessons) do you want to build or instill for those around you? And how can you begin to lay the foundation today?

To your freedom!

– David


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