Tokenized Gold: A Safe Haven for the Financial Crisis?

Apr 2, 2020

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Various asset classes including Gold and Precious Metals are increasingly being tokenized providing a more accessible way to invest in gold and other precious metals.

The global financial system is influenced by numerous factors that involve overall performance of commodities, stocks, interest and forex rates. Though a global economic slowdown was already being predicted by economists [1], the recent oil price war and the stock market crash caused heavy losses to investors across the globe. [2]

The weak fundamentals of the global economy were further exacerbated  by the constantly worsening COVID-19 news. As the demand for liquidity increased, a global economic slowdown was morphed into an “internal collapse in confidence and credit”. [3]

Historical Usage of Gold

Gold was used by ancient Lydians and Greek as a form of currency as early as 550 BC [4]. According to a research shared on World Economic Forum, gold was one of the rare metals that ancient civilizations used as a form of currency. [5]

From 1871 to 1914, almost all nations followed the gold standard [6]. The U.S dollar was paged to gold until the 70s, when U.S President Richard Nixon ended the convertibility of US dollar with gold. [7] This led to the creation of modern fiat currencies that are not backed by any asset.

This resulted in having such currencies to be easily manipulated by monetary authorities, governmental bodies and central banks. Which means that the global economic system is not based upon a commodity that can hold its value.

“Gold will be around, gold will be money when the dollar and the euro and the yuan and the ringgit are mere memories.”
– Richard Russell, the publisher of Dow theory

Value of Gold Over Time

Gold Price Chart Apr 2020

Figure 1 | Gold Price Chart Apr 2020 | Source: bullionvault.com/gold-price-chart.do

In figure 1, shown above it can be seen that since 2002, the value of gold has risen from approximately $300 per ounce and is currently touching $1580 ounce. This corresponds to over 400% appreciation in value in almost two decades.

According to an article published in Financial Times, as the current market crash occurred investors switched over to gold hedge their investments [8] The same behavior was observed during the 2008 financial crisis. [9]

While many assets suffer and exchange rates tend to depreciate at the time of recessions [10] Gold continues to hold its value. A Financial Times article that stated “Gold, which tends to rise as global growth concerns deepen, has risen 14% since the start of the year (2019).” [11]

 “When paper money systems begin to crack at the seams, the run to gold could be explosive.”
– Harry Browne, U.S investment advisor

Gold is therefore, for the reasons mentioned above, is found to be the choice of investors to protect their wealth from the risk of loss due to uncertainty of the economic system since any capital that is kept in foreign exchange and stock markets is found to be at the risk of loss due to systematic risk during financial crisis. [12]

Gold & Precious Metals Investment

Holding physical gold and precious metals comes with some disadvantages, one disadvantage being that physical gold and other precious metals are not easy to move in large quantities, and buyer has to be careful about the quality and authenticity of the precious metal.

Andrew Henderson from Nomad Capitalist suggests having gold to be stored in neutral jurisdictions that are generally debt free since property rights are of temporary nature in some jurisdictions [13] [14], if the economic system crashes, banks for instance in the US following precedents of 1933 executive order may confiscate the gold and other precious metals stored in vaults. [15] [16]

These drawbacks of storing physical gold and precious metals in bank vaults or storage facilities can be overcome through decentralization and tokenization of gold and other precious metals.

Tokenized Gold & Precious Metals

Tokenizing gold means that the problems associated with storage, carriage and authenticity of gold disappear. Gold and other precious metals are represented by a token since tokens can represent tangible assets such as gold and real estate or intangible assets such as shares and securities. Some of the benefits of tokenization of gold are as follows.

  • Tokenization eliminates the hassles of having to personally store and transport physical gold and precious metals.
  • Tokenized gold and precious metals are globally accessible, liquid, can be bought and sold around the clock.
  • Tokenization eliminates the intermediaries, making trading easier and cutting down costs. [17] 

A question may arise in the mind that what is the difference between gold ETF or derivatives such as gold futures and options. The difference is simple, whether it be ETF or gold derivative, investors can only invest in the value of gold and never have custody or direct ownership of the gold they have invested in unless a settlement is issued, but the settlement process is long and very bureaucratic. [18]

Applications of Tokenized Gold in the Industry

Tokenized gold however, allows investors to not only invest directly but also buy, sell and trade gold. Moreover, it is essential for a prospective investor of tokenized gold to understand that gold in tokenized form can be redeemed at any time physically. For example Paxos Gold, offers physical redemption of their gold tokens in LBMA-accredited Good Delivery gold bullion bars. [19]

Michael Albanese, CEO of TradeWind Markets In an interview with Nasdaq stated that tokenization allows gold and precious metals a lot more cost efficient, a lot easier and a lot more secure to own and deploy precious metals as assets. Blockchain allows digital purchase and easy transfer of title of ownership. Traditional gold and precious markets are more static compared to bond and security markets, tokenization allows gold and precious metals to behave a lot more like other assets in terms of trading volume. Furthermore according to Mr. Albanese, blockchain technology can help prepare the market for the next liquidity crisis. [20]

 “Blockchain can improve gold and precious metals markets”.
– Michael Albanese, CEO of TradeWind Markets

The head of JP Morgan’s blockchain Initiatives, Umar Farooq, recently announced that JP Morgan will be tokenizing gold bars on the Ethereum network. The executives as JP Morgan believe that, in the medium-term, the tokenization of existing commodities is something that is going to be hot in the financial world. “The entire value chain is going to head in that direction” Mr. Farooq said. [21]

Richard Hayes, CEO of the The Perth Mint, called the digitization of gold through a public ledger “A natural progression for the global commodity markets”, further suggesting that such a process will promote gold as a mainstream asset and increase its accessibility, among other things. [22]

Future Potential for Tokenized Gold

Gold and precious metals are increasingly being tokenized, major stakeholders in the industry such as JP Morgan are now investing heavily into tokenization and other fintech and gold mining firms such as TradeWind, Paxos and The Perth Mint have focused on gold and precious metals because as the global economy weakens and liquidity of traditional securities decreases a market bias is being seen in favor of gold. [23]

Deloitte in a report concluded that tokenization allows the creation of a financial system that is more vast, stable, efficient and democratic than anything we have now [24].

Last month saw the global markets lost up to $6 trillion in just six days according to a CNBC report [25]. In these uncertain financial and economic conditions, everyone in general and investors in specific need to take precautionary measures to prevent their wealth from the risk of loss.

Tokenization provides investors a more accessible way to invest in gold and precious metals. Anyone can own gold from anywhere in the world from the comfort of their home. Investors can reap the benefits from tokenized gold that come with physical gold such as hedging the risk of loss, opportunity of capital appreciation and protection from some of the administrative and political risks that come with local and centralized gold ownership.

At elivise, we help investors realize the potentials of asset tokenization by providing tailored advisory services and insights into the world of blockchain, digital assets and tokenized financial markets.

References

[1] The world economy is slowing down, The Economist

[2] Is the Coronavirus Crash Worse Than the 2008 Financial Crisis?, ForeignPolicy

[3] Is the Coronavirus Crash Worse Than the 2008 Financial Crisis?, ForeignPolicy

[4] Use of Gold and Silver in Roman Times, Coin and Bullion Pages

[5] This is why we use gold as currency, World Economic Forum

[6] What is the Gold Standard?, Investopedia

[7] Nixon Ends Convertibility of US Dollars to Gold and Announces Wage/Price Controls, Federal Reserve History

[8] Gold Surges on Spread of Corona Virus , Financial Times

[9] Confessions of a ‘Buy Gold’ Promoter, 2008, Bullion Vault

[10] Exchange Rates during the Crisis, Worldbank Documents

[11] Currency war fears bolster demand for havens, Financial Times

[12] The Share of Systematic Risk in Foreign Exchange and Stock Markets, Singapore Management University

[13] HOW TO PREPARE FOR THE NEXT FINANCIAL CRISIS, Nomad Capitalist

[14] THE FIVE BEST COUNTRIES FOR OFFSHORE GOLD STORAGE, Nomad Capitalist

[15] Governments Still Heavy-Handed 80 Years After FDR’s Gold Confiscation, Forbes

[16] Why You Should Store Precious Metals In Multiple International Locations, Forbes

[17] Is the Glittering of Gold Tokenization Worth the Hype?, Crypto Adventure

[18] Settlement of Futures Contracts , Finance Train

[19] A digital token, backed by physical gold , Pax Gold

[20] TradeTalks: Blockchain can Improve Gold & Precious Metals Markets, Nasdaq

[21] JPMorgan to Tokenize Gold Bars, The Tokenist

[22] Perth Mint, InfiniGold Launch Gold-Backed Token on Public Blockchain, CoinTelegraph

[23] Gold-Backed Stablecoins in High Demand Amidst Economic Crisis, Cryptoglobe

[24] The tokenization of assets is disrupting the financial industry. Are you ready?, Deloitte

[25] Global stock markets have lost $6 trillion in value in six days, CNBC

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