How Gold Became the New Cocaine in Colombia… and Why Cartels Are Telling You to Hedge

Patrick Little By Patrick Little
Managing Editor, The Oxford Club

Metals

Guatapé, Antioquia, Colombia; photo taken by author.

A line in Saturday’s essay from Eric Fry stopped me in my tracks…

“When extremely high equity valuations combine with extreme investor complacency, good things rarely happen.”

Eric thinks the current stock market is bloated. But it’s more than just a hunch: Crucial indicators tell us it’s historically overvalued.

It made me wonder: Why aren’t more investors hedging against a turn for the worse?

As far as I’m concerned, the overvalued stock market is just one sign. Something else dawned on me during a recent trip to Colombia…

Light and Darkness in the Land of Magic Realism

Unflattering perceptions skew the truth about Colombia, a country of natural abundance, ecstatic energy and magic realism. Colombia’s soul is best captured in the vivid imagination and prose of Gabriel García Márquez and the vibrant rhythms of Systema Solar.

My experience living, traveling and working in Colombia has been defined by the warmth of Colombian people, by the country’s beautiful weather and dazzling landscapes, by its charming towns and cities, and by dancing to salsa and champeta music – not by encounters with exploitative thugs.

But darkness persists.

Dating back to the 1970s, Colombian cartels have jockeyed for control of the global cocaine market. The cartels have enabled violence and sex trafficking and have forced the migration of millions of people in Colombia, all while raking in billions of dollars.

But the biggest culprit in Colombia is no longer cocaine. It’s gold.

How Gold Became the New Cocaine in Colombia

In the mid-’80s, Pablo Escobar and the Medellín Cartel controlled 90% of the multibillion-dollar global cocaine market. The cartel was pulling in $420 million per week, and “Don Pablo” was one of Forbes’ “World’s 10 Wealthiest People” before he was 40.

But these days, illegal gold mining is more lucrative in Colombia. In fact, it’s estimated to be no less than three times the size of the Colombian cocaine market. Perhaps unsurprisingly, the two resources are inextricably linked.

“Just like cocaine, illegal mining finances criminal gangs,” my friend Christine Renaudat told me. “Normally, they’re all part of the same network.”

Christine has lived on the Caribbean coast of Colombia for more than a decade. She’s the co-author of Les Tribulations d’un Gramme de Coke, in which she examines the many facets of the global cocaine trade and makes some uncomfortable observations. “In many regions [of Colombia], there’s coca and there’s gold,” she said. “And everyone works together.”

Despite Colombia still producing more cocaine than any country in the world, it has become far more adept at intercepting the white powder before it’s exported. Colombian authorities seize hundreds of tons of the drug every year, including a record-breaking 12-ton bust back in November.

But unlike cocaine, which is illegal at every step of its production and distribution, gold is legal by the time it makes it to the market. This makes combatting illegal gold mining incredibly difficult for Colombian authorities.

What’s more, illegal gold mining dwarfs Colombia’s legal gold production. In 2016, legal gold production in Colombia was 8 tons. And yet, according to the Colombian Mining Association, 64 tons of Colombian gold was exported worldwide that year.

There are just a handful of large-scale mining operations in Colombia that operate legally. Among them is the Canada-based Gran Colombia Gold (OTC: TPRFF), which has modern gold operations in Segovia and Marmato.

The rest of the gold in Colombia comes from the barequero system. Barequeros are people from traditional mining regions of Colombia. The system is in place to give modest communities and individuals in resource-dense areas a means of living.

But the system is abused. Gangs and paramilitary groups exploit the labor of barequeros and use the gold they produce to cover their tracks in the cocaine business. Middlemen on a criminal payroll forge paperwork to show the gold coming from legitimate sources; the paperwork makes the gold impossible to distinguish from legally mined gold.

In some cases, the barequeros cooperate with criminal groups willingly. More often, they are extorted. Those who don’t comply are murdered.

Any barequero who dares to mine for gold legally (and is not killed) has the impossible task of competing with multinational corporations and complying with onerous government regulations.

Monthly reports often give individual barequeros credit for mining several hundreds of grams of gold, which is laughably unrealistic. Further, it was recently discovered that at least 8,000 of 110,000 registered barequeros aren’t even real people.

Colombia’s government knows the system is flawed. In 2015, President Juan Manuel Santos acknowledged that illegal gold mining had become bigger and more violent than the cocaine trade.

What’s Next for Colombia and Why You Need to Hedge

This past November marked the one-year anniversary of a historic peace agreement between the Colombian government and the notorious paramilitary guerrilla organization known as FARC (Revolutionary Armed Forces of Colombia). This brought the end of a civil war that lasted more than five decades.

While both sides in the conflict committed unspeakable atrocities, many Colombians would rather see former FARC operatives – who were funded by coke money and who have a hand in the illegal gold business – in prison rather than walking away virtually unburdened… or worse, holding a seat in congress.

Establishing a workable system in the aftermath of civil war has proved challenging. Among the biggest challenges for Santos’ government is combatting illegal gold activity.

The problem isn’t going to disappear on its own, especially with gold becoming more valuable. It’s now above $1,300 per ounce and seems to be heading upward…

Despite the complexity of the problem – including the devastating environmental effects of illegal gold mining – Colombia seems determined to find ways to legitimize more of its gold production. An upward push on the price of gold should be expected.

With an overvalued stock market and stricter controls on Latin American gold in the offing, hedging your portfolio with some hard assets would be well-advised.

Just know that if you’re hedging with gold, it may not be as pure as you think.

Good investing,

Patrick