Indian households have a historic impetus to invest in gold. The data usually sticks. For 15 years till 2016, the metal generated an annualized return of 13.7% - just below the Sensex annualized return of 14.0%. Bullion delivered a solid compounded annual growth rate of 9.6% since 1999, having witnessed it’s all-time high in 2011, only falling marginally since.
Over the past half a decade, several analysts have predicted the emergence of gold bull markets in the upcoming years. Their predictions are mostly based on such past performance. Given the present volatility in global financial markets, relying solely on past data is risky. There are however a few significant drivers at play.
I believe the current US-China trade war combined with an up-and-coming market for gold-backed cryptocurrencies can significantly increase the worldwide demand for gold. This upward thrust in demand may be the beginning of a long-term ‘sustainable’ gold bull market.
US-China Trade War and The Petro-Yuan Rush
Amidst the ongoing US-China trade war escalation, the Chinese government decided end of last month to issue the world’s first-ever Yuan-denominated oil futures contract. This may be an attempt to weaken the value of dollar by displacing it as the world’s reserve currency. The Yuan is backed by gold. This means that Yuan-denominated oil futures will allow trading investors to convert Yuan to gold and vice-versa. China is hence in effect is attempting to re-introduce the gold standard by allowing large-scale trading of oil for gold. This could create an unprecedented demand for bullion, leading to a significant increase in its prices. Investors refer to this as “Petro-Yuan Rush”, inspired from Venezuelan gold-backed cryptocurrency called “Petro Gold”, which was introduced in 2017 by the country as it waged an "economic war" against the United States seeking monetary and fiscal sovereignty.
Gold-Backed Cryptocurrency and Islamic Finance
Speaking on introduction of gold-backed cryptocurrencies, Sean Walsh, Founder of Redwood City Ventures, a crypto-asset investment firm said:
“Rather than buying a cryptocurrency backed by gold, I’d just go buy the gold. Gold is a physical thing that you want to be able to hold in your hands, because that’s the point.”
The fact that the first gold-backed cryptocurrency was launched in 1995 but failed to catch on until 2017, when suddenly there was a huge hype for Bitcoin and its prices shot through the roof, tells us that Sean Walsh is probably right about the utility and fate of gold-backed cryptocurrencies.
Despite this, gold-backed cryptocurrency is of special interest to the Islamic investors. Islamic investors till date are barred from investing in cryptocurrencies, as they are not Shariah compliant investments. This is because products of financial engineering and speculation are against Islamic principles. However, a Dubai-based startup, “OneGram”, is offering gold-backed cryptocurrencies as a solution to this issue of religious permissibility. The company offers to store at least a gram of gold for each unit of OneGram cryptocurrency.
Backing cryptocurrency by a physical asset such as gold, limits the speculation on its price, and keeps the minimum value of the cryptocurrency at least equal to the price of the gold. The limitation on speculation deems the investment Shariah compliant. The demand for gold-backed cryptocurrency is increasing amongst the Islamic investors in the Gulf and South-East Asia. Recently in January 2018, United Kingdom’s Royal Mint also launched gold-backed cryptocurrencies.
Increasing popularity of cryptocurrency backed by gold also implies soon they would drive worldwide demand for physical gold. Moreover, crypto entrepreneurs facing regulatory backlash in countries such as China and India may find gold-back cryptocurrencies as a potential future.
Gold over the long term serves as an appreciating asset. However, the sudden rise in demand of gold-backed cryptocurrencies and the Petro-Yuan rush will act as strong catalysts in this growth. It is the right time to make investments in gold as the global markets prepare themselves for a long-term gold bull market.