I have recently had an opportunity to visit Germany, the famed hotbed of last spring’s physical gold demand jaunt. The image projected onto the global markets was one of Lederhosen-clad savers, spooked by the specter of a collapsing Eurozone and ploughing their nest eggs into stylish Wiener Philharmoniker and Krugerrand coins. German and Swiss desks registered record inflows just as the Indian physical demand continued to weaken.

Now that most of the reassured German savers are driving their distinctive, white caravan vehicles onto the beaches of the Mediterranean, some of the Euro-scare is gone. The recurrent, invariably negative debt news from Ireland, Spain or Hungary fall short of denting Euro’s progress, even against the currencies whose central banks are now on a firmly tightening cycle.

Yet the underlying interest in the physical gold has not disappeared. Rather, it has taken a breather – and every time this happens after a spell of buying panic, speculative gold demand falls off. Such conclusions are easily reached by comparing the Comex positions – good 5moz off the recent highs – and the global gold ETFs, at 67.2moz still notching all-time highs in volume (even though the biggest product of all – the GLD – has suffered redemptions of late). Should this process of bifurcation between long-term buy & hold behavior and speculative trading continue, some time later this year the total ounces under the ETFs may tower as high as three times over the Comex long positions.

German press is full of articles expounding on Euro-skeptical Teutons’ sudden urge to succumb to the yellow glitter. Some academics went as far as to seek evolutionary explanations to the phenomenon. The apparently irrational drive to place savings in non-yielding assets is, according to German psychologists, a response to the basic, atavistic survival fears. Whenever such fears surface, the simplest strategies are always considered first. The simplicity of physical investments would benefit gold, silver and other tangible assets. Such biases in favor of familiarity are well known in behaviorist literature under the term of “ambiguity aversion”. The illusion of competency is one of the aspects of ambiguity aversion and can be easily applied to the behavior of German investors, few of whom can be considered gold market experts (even though for many years there has existed in Germany an OTC gold equity business for retail investors, along with independent, yet highly specialized brokers and analysts).

The underlying assumption of any such comments is that the German equity market with the median dividend payout ratio three times the Japanese levels should remain the adequate destination for “rational” behavior. But individual investors in Germany are also much more skeptical with regards to the merits of their local treasury market, even though the flagship 10 year Bund has actually outperformed JGB of the same maturity by some 30bp so far this year. A generalized aversion to debt has been again underlined by Angela Merkel this week, when she stated that her compatriots would only increase their consumption when the public deficits appear to be under control. Any stimulus would be instantly annihilated by a deeply ingrained beliefs akin to Ricardian equivalence. There is some truth to such claims. I vividly remember visiting German investors several years ago. At a time of low risk aversion in the markets and handy capital inflows into the most exotic frontier projects, Germans we met required that the gold companies run balance sheets with only assets and equity – and thus reflect more adequately the liability-less character of their underlying asset.

Delving deeper into the nature of those “fears”, reveals a deeply embedded Angst over a possible replay of the 1920s style hyperinflation. Equally relevant are lingering concerns regarding longer-term wealth erosion. Interestingly, this fear of loss of wealth is common even among Germans with stable jobs and earnings prospects. Psychologists point out here that German investors are generally more conservative and more risk averse than their American counterparts. One could add to it comparatively poor understanding and even an aversion to capital markets in general. Some of the experts even believe that should any signs of insolvency among Landesbanken return, German investors’ behavior could even jeopardize liquidity of those investment markets where large overseas players and large local public institutions are not overwhelmingly present.

By anchoring on the painful experiences of the 1920s, German investors too often exhibit overconfidence in the doomsday scenario of a debt-swept common currency. The range of probable outcomes for the Eurozone is certainly a lot wider than outright implosion. However, if Euro-skepticism is the main driver of diversification into gold, then it would mean that Germans do not really consider gold an alternative to equities and fixed income. Rather, gold appears as an alternative form of cash whose value responds inversely to deflation/inflation than any other form of cash. Ironically, should this be the underlying reason for stocking up gold bars and coins last May, then this allegedly irrational investment behavior re-emerges with distinctively rational tones.

Share and Enjoy!!

Tags: behavioral economics, German gold investment, gold coin demand, psychology of gold investment