Last Update: August 2021
Each time I get the opportunity to teach people how to trade, I ask them a simple question: what is your number one investment? Some suggest they do not invest, others say their retirement account, while even some do not know what an investment is. The truth is, everyone invests. Everyone has money. Currency is a form of investment since 1971 when the gold standard was removed from the currency system.
There are three forms of currency systems.
Currency System #1: Free-Floating System
The first standard is the free-floating system, which was put in place in 1971 when the United States removed the gold standard. Since 1971, all industrialized countries use a fiat free-floating system where the value of currency moves up and down relative to other currencies. For example, the EUR is pitted against the USD at 1.0855, meaning it takes 1.08 USD to buy 1 EUR. As the EUR moves up or down against the USD, your money increases or decreases in value. Since the EUR’s creation in 1992, and specifically when it became a currency of trade in 1999, the USD has devalued by 25% against all other major currencies. It will continue to devalue due to many elements working against the dollar, including the forced printing against debt due to reserve status.
From 1944 to 1971, the USD was the reserve currency of the world as tied to the value of gold at $35/ounce. This meant that individuals and countries could always exchange their money for gold at that price. It was a fixed, or pegged, standard. This meant the currency had true value. In practice, very few individuals would exchange their money for gold. This wasn’t the first gold standard in United States. In 1900, the United States passed the Gold Standard Act, and prior to that, the United States had a similar system as gold and silver have typically been used throughout history as some form of currency standard. In 1933, President Roosevelt outlawed private ownership of gold. In essence, the United States government forced private individuals to turn in their gold or be prosecuted, fined, and imprisoned; with the rationale being that gold hoarding was causing the economy to stall.
Currency System #2: Pegged System
The second standard is the pegged system. A pegged system is where one nation makes a decision to peg the value of their currency to the value of another currency. A couple reasons why a country would peg their currency is one, to make international trade easier to conduct and two, to control inflation. In this type of system, the USD and the EUR are the most pegged currencies. For example, the Chinese RMB is pegged to the USD at 7.75-7.85 and Denmark is pegged to the EUR at 7.46. The biggest risk to a pegged system is when the peg is removed. In January of 2015, the Swiss, whom had pegged the CHF against the EUR at 1.20, removed the pegged value and chaos ensued. This is what we call a black swan event. In a matter of minutes, the CHF increased in value against the USD by 15%; causing hundreds of billions of dollars to be lost from traders who were long USD.
It was even worse against the EUR with a 25% devaluation in a fraction of a moment in time.
Currency System #3: Dollarization/Euroization System
The third type of system is a dollarization or euroization system where one country adopts the EUR or the USD as a currency of value in local markets. This means the country adopts the other currency to not only use in international trade but in local markets as well. The most commonly referenced model is that of the European Union, where 19 countries adopted the EUR. There are also countries that went through hyperinflation where they killed the local currency and adopted the USD, such as Zimbabwe, Ecuador, or Panama. This is the most radical form of currency system due to what lead the system to be adopted in the first place.
Hyperinflation is a rapid increase in the costs of goods and services in a local market. This is usually caused by printing too much money in a fiat system where the value of goods and services go at the rate of the supply of money. For example:
Typically, inflation is offset by rising wages. However, when wages don’t rise, the typical government response is to start printing a higher denominations to offset the rising inflation and this leads to the death of a currency, especially when it’s in a fiat system.
Specifically in the United States, the number one debtor nation due to the increase in the supply of money and thus the increase in debt, wages have not increased for consumers in any major capacity since the late 1970s, yet the consumer productivity has increased by 80%.
There are major risks in every currency system, whether that be black swan, hyperinflation, devaluation, or debt. When these things happen, it’s the consumer that’s left to pay the bill. Government certainly won’t; the United States has proven that time after time, especially in 1933 when they robbed the American consumers of their gold. The consumer will also be left to pay the bill for the Central Bank’s 4.7 trillion in new money created to purchase US bonds, driving inflation and the nation’s debt burden higher.
How do we as the consumer protect against currency systems which are all designed to eventually fail over longer time frames? How do we protect against fiat risk? How do we protect against hyperinflation or massive devaluation? How do we protect when there seems to be so much working against the consumer? We go back to the gold standard. Not in a way that is a national or world standard; a personal one, and this time, do it on the market’s dime.
One thing traders love doing is cash flowing on a monthly basis selling credit spreads, covered calls, or naked puts on stocks/ETFs that give us passive cash flow. Let’s look at how this process would work.
Most consumers are forced through the traditional system of retirement to exchange their time through a job for money which they then put into bank accounts, watching the money become stagnant and devalued. In the United States, this is the USD, which has been a fiat currency since 1971 as the only value to the currency is the faith and confidence of the world to use the dollar. This is a negative arrangement for the consumer as time is certainly more valuable than money, especially with the money being a devalued asset class. As most consumers are forced to do this, it’s the only access they have to money, so they shouldn’t stop at that part of the process.
What the trader can do is extend the process a few steps to having a personal gold standard. Whether they have a job or not doesn’t matter; we want to protect against fiat currency through owning commodities such as gold and silver. This also means we don’t own the paper asset in the ETF, we own the actual metal.
Take, for example, naked puts on the commodity ETFs, UNG, SLV, and USO:
Naked Put on $UNG (United States Natural Gas Fund)
- Sold June 20 contracts 11 put option
- Cash Flow received: $400
- Probability of Profit (POP): 83%
- ROI: 18%
- ROID: 105
Naked Put on $SLV (iShares Silver Trust)
- Sold 20 contracts 13 put option
- Cash Flow received: $200
- POP: 90%
- ROI: 7.7%
- ROID: 77
Naked Put on $USO (United States Oil Fund)
- Sold 20 contracts 17 put option
- Cash Flow received: $560
- POP: 85%
- ROI: 16.4%
- ROID: 109
- Cash flow received: $1160
- Average ROI: 14%
- Average POP: 86%
- Average ROID: 97
The trader then takes the cash flow received at the end of the contract out of the brokerage account and purchases $1160 worth of silver eagles which have a value of around $18 currently. This allows the trader to purchase 64 silver eagles in June and repeat the process each month, allowing them to create a personal commodity-backed currency using the market’s money.
…just don’t store it in a bank lest you doom yourself to a very valuable history lesson.
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