Seven Reasons To Avoid Gold - And Why You Should Ignore Them
So, now that the U.S. government is squarely behind Fannie Mae (FNM) and Freddie Mac (FRE) and the price of crude oil is barreling toward the well known "bear market" milestone of a 20 percent decline, investors seem to be losing interest in gold as an investment alternative, figuring that order will soon be restored to the global financial system and the recent energy price shock will soon be just one more in a long line of scares that, in the end, prove to be only a scare.
The proverbial "inflation hedge" that seemed like such a good rationale for buying gold just a few months ago now seems to have lost its appeal as well with headlines now blaring, "Gold Drops as Lower Energy Costs Cut Demand for Inflation Hedge". Now, some are even talking about deflation.
Add to this the nascent strength of the U.S. dollar, now appearing to form a solid base and set to move up against the currencies of other increasingly troubled western economies, and the yellow metal seems to have lost much of its luster. "King Dollar" has been down, but he is definitely not out.
And gold has become so expensive in recent years that traditional buyers just can't afford the stuff anymore. Indian jewelry buyers, one of the world's most important consumers through history, are now balking at higher prices and demand is way down.
Economic growth in the U.S. picked up in the second quarter as real GDP came in at an annual rate of about two percent and no one seems to know if we have been, are in, or will be in a recession. While things are certainly not going gangbusters, it doesn't look like the wheels are about to fall off requiring more intervention, which, by the way, is something that the U.S. government is getting quite good at.
And finally, the Federal Reserve will soon be raising interest rates, or so the market says. Before we know it, the current era of negative real interest rates will be just a memory and you'll be able to get a decent return on a Certificate of Deposit at a nearby bank.
Though there are surely a few outliers missing from the above list (oh yeah, gold doesn't pay a dividend), these are all the reasons cited for the yellow metal having performed so poorly after reaching four-digit territory back in March, now resting below the $900 level and looking down, not up.
But, do these commonly heard arguments against owning gold really make sense?
Perhaps a closer look at each one is in order.
Financial Markets Becoming More Stable
Yes, twitchy traders and unsettled investors who are quick to abandon whatever it was they were doing before crises emerge are the first ones to bid the price of gold higher when uncertainty and chaos rule financial markets. But, this is not really something that you can count on, nor should you - either the crises or the reactions.
Extrapolating the many calamities of the last year far into the future, calamities that have aided gold's 50 percent rise, is not a good reason to buy gold. If that's your thinking for the long-term, you might be better off buying bullets because, if every year is going to be like the last year, you may need them someday.
Falling Crude Oil Prices
The oil-to-gold relationship is very much overrated. Just as oil and consumer prices are related, oil and gold prices are related because energy costs are a critical factor in whether the metal can be dug out of the ground profitably. Also, a flood of petro-dollars surely boosts Middle East bullions sales.
But, aside from that, those taking their gold buying and selling cues from the price of crude are fooling themselves just as the financial doomsayers are. If Saudi Arabia announced it had no more oil on the same day that central banks around the world announced a ten-year plan to sell all their gold reserves, would anyone buy gold because oil was going up? Once again, traders too easily confuse correlation with causation.
Waning Appeal as an "Inflation Hedge"
Guantanamo-style torture of the inflation statistics by government economists over the years have permanently rendered the official inflation statistics almost meaningless, at least when viewed in a historical context. If that's what you're attempting to hedge against by buying gold, then you should really just use the government's inflation protection in the form of TIPS (Treasury Inflation Protected Securities).
If on the other hand, you already understand how the government "cooks its books" when it comes to prices, then you're also far too smart to call gold an "inflation hedge" - owning gold would be much more accurately described as protecting yourself from the government.
A Stronger Dollar
Sure, the dollar and gold often move in opposite directions, but they don't always. In fact, since 2001, a period during which the gold price has risen every year, the U.S. Dollar Index rose during two of those years. The fact that the dollar has mostly declined in recent years as the metal has risen is again confusing correlation with causation, just like those hair-brained hedge fund managers did when they confused the rise of "index speculators" with supply and demand when trying to explain why energy prices had climbed so high.
What difference does it make how the dollar does against other fiat money when it's all just paper? Of all the reasons to buy or sell gold, the movement of the U.S. dollar versus other paper money has to be the dumbest one of the lot.
Reduced Demand from India
OK, anyone thinking that the price of gold is going to go substantially higher because of its use for jewelry or industrial applications has surely missed something along the way. It is investment demand - people like you and me realizing that we had better do something about the declining purchasing power of our paper money, something about which the U.S. government doesn't appear to give a damn - that will drive the gold price higher.
There just aren't that many good places for people with lost of paper money to put it these days. A slowdown in physical demand must be compensated for by even stronger investment demand, but with the amount of paper money and rich people in the world today who desperately want to remain rich, the monied class will eventually figure it out and easily pick up this slack.
A Weak Economy is Improving
Well, anyone who believes that the U.S. economy is going to heal itself sometime over the next year or so has been drinking far too much kool-aid for far too long to think clearly about "alternative" investments. They'll be much poorer as a result. The U.S. economy is going to need massive amounts of stimulus (i.e., borrowed/printed money) to avoid another Great Depression between now and 2010 or 2011 and policy makers appear to be up to the task.
Anyone who doesn't think that trillion dollar deficits are a good reason to exchange U.S. dollars for something more tangible is probably equally unaware of the entitlement tsunami that will hit if another Great Depression is successfully avoided. When looking at the relative long-term prospects of U.S. money and God's money (just heard that one for the first time the other day), the decision about which to hold is a no-brainer.
The Fed Will Raise Interest Rates
No, the Fed can't raise interest rates. Not this year, not next year, and maybe not even the year after that. Actually, if they wanted to get this whole mess over with so we could all try to start over again, that would be a sure-fire way to get the ball rolling. Heck, if short-term rates were raised to 6 or 8 percent, I'd be the first one in line to sell my gold and park the money in a nice government insured CD that pays something within hailing distance of even the "official" rate of inflation.
Ben Bernanke and Congress will go kicking and screaming toward "baby-step" rate hikes that won't even begin until another asset bubble can be identified and sufficiently inflated. Surely, the last twenty years of history are clear on this point. Until modern economists have a "come-to-Jesus moment" where they realize most of what they were doing was wrong, things will get worse, not better.
A Golden Opportunity
None of the commonly cited reasons for excluding gold from an investment portfolio make much sense when you stop and think about them, but much of what happens in financial markets doesn't make sense either. Just look at how much devastation has resulted because people simply assumed that home prices would never go down - who would have thought that an entire industry, and perhaps the global financial system, could be brought to its knees by thinking that home prices went in only one direction.
Gold at $877 per ounce (as this is written) is presenting an opportunity of a lifetime, but, just like most people failed to see the stock market bubble or the housing bubble, most people still haven't got a clue, thinking that $1,000 gold was nothing more than another bubble that has burst - just like the last two.
Slowly, but surely, people will convert more and more paper money into God's money and the gold price will move much, much higher.
When and how far is anyone's guess, but, probably sooner rather than later.
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This article has 35 comments:
I agree with every single one of your points though.
The dynamics of the US and its economy have changed.
You have a government that outright lies to it's citizens, and they stand for it because they care who wins Dancing with the Stars, more than their own future well being.
Then you have a Fed and Treasury that has essentially asked for, and gotten a blank check, to bail out all the wealthy elitists who played irresponsibly with their play money. That blank check comes with all americans names signed at the bottom, and again, americans stand for it.
We will eventually wake from our stupor, long after it is too late, and as with most American self inflicted situations, look to blame everyone but ourselves.
We are a joke nation now and deserve everything we have coming to us.
It may be very likely that Gold goes down and the dollar goes up over the next few months, but the fundamental fact is that we (the US) continue to spend and buy more than we sell. Until our trade deficit gets under control, do you really think the long term trends will break out of this 8 year fall?
If you want to invest in a commodity, buy one which people actually need to run the economy like oil, food, copper etc. You can actually place economic value on these assets, which is key for intelligent investing.
Naturally I don't like to see gold go down as it has the last several weeks, but it *is* still up just under 30 percent for the last 52 weeks. Anyway, I study and study and study and see where we're at every business day. Things are not good out there and we have a long, long, long way to go. When I think over my investment choices to myself, I feel comfortable. I made my investments based on what's becoming all too real right now. I simply should stop looking at the day-to-day variations.
In this section you concede that financial markets are becoming more stable. Gold only has value when there is a chance of the financial system collapsing (requiring expensive government bailouts). If the chances of financial meltdown are decreasing, then there is less and less impetus to hold gold.
Falling Crude Oil Prices
As you stated, when oil comes down, it is cheaper to get it out of the ground - thus there will be more supply of physical gold, pressuring the price down.
And your example is a mixture of two unrelated and uncorrelated events - one of which would increase the price of gold (no more oil) and one which would severely depress the price (central banks selling gold). So yes, if both of those events, one being totally independent of oil, transpired then gold would go down while oil went up. That doesn't mean that they aren't positively correlated in non-hypothetical situations.
Waning Appeal as an "Inflation Hedge"
The fact that gold might not actually protect from inflation, but rather protects from powerful governments does not change anything. Some people have bought it as an inflation hedge, and in a recession this inflation risk is diminished - thus gold is demanded less.
A Stronger Dollar
Yes, almost all major currencies are fiat and their interrelationships do not fully dictate the price of gold. But all other things being equal if the dollar gained against the euro, the price of gold in dollars would go down and the price of gold in euros would go up.
Reduced Demand from India
Here you concede that actual demand for PHYSICAL gold is decreased (because of the high price and lower economic growth). Again, all other things being equal this is negative for the price - you just say "Oh well! Investment demand will make up for it." There has to be compelling reasons for people to demand an investment vehicle [cough: returns]. Depending on other people's investment demand to increase the price of your investment is the greater fool theory.
A Weak Economy is Improving
The great depression was one of the biggest deflationary periods in American history. If you think gold could make gains in a protracted recession (in which demand for almost all commodities would fall) you are mistaken.
The Fed Will Raise Interest Rates
The fed won't raise interest rates if we are in a recession. And a recession will not prop up commodity prices.
Oh, and if you were first in line to sell gold when the fed magically raised interest rates to 6, I'll be the first in line to buy - at about $250 an ounce. An I assure you that in magical situation no one would want to cut me in line.
A Golden Opportunity
You're right - home prices don't only go in one direction, but gold prices go both ways too. But unlike commodities, home and equity prices have increased in real terms since the 70's. I bet there were a lot of articles like yours back then...
They don't take God's money at the grocery store either.
Disclosure: Long DZZ at time of writing.
Make no mistake, global money supply going to expand considerably faster than gold production - making an ounce of gold more valuable in the longer term against any paper currency. however, given the current asset deflation in the USA and global stock markets this ecessive money creation will translate into higher prices with a considerable time lag as the author has rightly pointed out. once the focus starts shifting from recession and deflation fears to the unfunded future obligation in the US, japan and Europe there will be a rush to gold unseen and unheard of in modern times. And nobody will ring the bell for you. I won't care whether this moment comes in two years or 4 years or 8 years - holding some physical gold (no ETFs, paper certficates etc) and some high quality major gold producers (GG, KGC, Yamana, ABX, or GDX etf) will be the best insurance and the best financial decision you can ever make to prepare for the truly rough times that are ahead. And no, the current environement will be like a walk in the park compared to the financial mess that is looming for the modern welfare states
_named_odd
Funny thing about those who hype financial collapse with an eye on filling their own pockets. History shows us again and again that they end-up experiencing a real financial collapse.
Personally.
Switch from a daily/weekly chart to one based on monthly or yearly closes. Zoom out and see other corrections of equal or greater size. There have been several previous in this bull -- and then take a look at the 18-month eye-opener in the mid-70s. That one would try the patience of a saint, but this one shouldn't
bill
www.chartsrus.com/char...
That doesn't convince me of anything except that inflation was pretty bad in 1979. And also that anyone who bought in 1980 (and didn't immediately flip it) was some lucky momentum trader's greater fool.
Grammy: I would suggest you start by BUYING (taking physical possession) of 1oz buffalos and/eagles. Don't bother with fractional gold (premiums you have to pay are prohibitive). Also, suggest you consider buying SILVER (bars or rounds). Stay with Engelhard or Johnson Matthey since they are the most widely accepted to buy/sell.
As to when to buy (gold/silver). Here's a saying that made this BILLIONAIRE smile:
"Don't wait to buy Gold. Buy Gold and wait."
Good luck!
Next, Ecb finds its economy slowing, so it lowers interest rates to increase Ecb's total money supply to $1,100,000. This, of course, raises the Usa dollar when compared to the Ecb dollar. Now, people rush to sell their gold because the dollar is now raised compared to the Ecb dollar.
How does this make sense? In the end, there are now $200,000 more dollars in these two economies chasing the same amount of gold. It doesn't make economic sense within this context. So, how can it be that gold has dropped in the real world at the time the central banks are rapidly increasing the money supply?
Simple. Increase the supply of gold. But wait, miners are able to add to the supply of gold at somewhere around 1+% per year. That should depress the actual price of gold very little. [Remember, in this world there are exactly 1,000 ounces of gold.] But, there is another way. Increase the apparent supply of gold by 'selling' gold that does not exist. That is, sell naked shorts of gold. What would happen if an institution sold 100 ounces of gold that didn't really exist?
Now, the aggregate of 'gold bugs' will have pieces of paper, or actual gold, that says they own 1,100 ounces of gold! Bigger supply results in a lower price. Of course, we 'gods' who are looking down on the mini-world economy know that there really are still only 1,000 ounces of gold.
Another way to artificially depress gold without actually increasing the supply of gold on paper (permanently) is to use naked shorts on gold to discourage as many 'gold bugs' as possible. In this scenario, a (government sponsored) institution could repeated naked short gold in short bursts. Repeatedly seeing gold suddenly and inexplicable make large drops, will cause some gold holders to give up on owning gold, which would further decrease the price of gold as those holding real gold give up on it and sell what they have for whatever they can get. Then, to shorting institution could buy back their shorts for a lower price. They could do this repeatedly until every gold bug who wasn't 100% committed to gold gets discouraged and has sold their gold for whatever low price they could get.
I believe this second scenario is what is happening today, and why gold touched $850 this morning. The big question is, how long can this (government backed) institutional naked shorting of gold continue? At some point, it is going to have to break down. The question is, 'When?'
The only thing I could think of that would compete with gold would be commodity coupons, or certificates we could carry around good for items we use that COULD NOT BE DUPLICATED BY GOVT.
I'd rather have a certificate for 10gal of gas issued by the most untrustworthy Arab Sheik than a $50. bill from Hank & Benny. Knowing tomorrow, 10gal of Camel brand gas will take me 200 mi. while the $50 bill--might--get me across town.
And for those who don't have cars I'll trade you a 5lb. Porterhouse coupon for that case of Heineken.
There is one thing that you did not touch on: continuing trust in the ability of the world's most well know banks to actually be able to withstand even a small percentage of withdrawals that do not flow back into the banking system, i.e. that are used to purchase precious metals for long term holding.
On Aug 08 11:25 PM User 30121 wrote:
> Grammy: I'm just north of you in Jacksonville! I would seek out
> the new (beginning in 2006) Buffalos as a preference since they have
> .999 pure gold. They should be housed in the plastic wrap directly
> from the mint or a third party grading service holder....I prefer
> PCGS, period! That way you know they are REAL!!! As far as condition,
> since you are buying bullion, condition is not crucial, however,
> you certainly want them in DELICIOUS condition. Again, if the coins
> you buy are not housed in some tamperproof packaging there is a CHANCE
> they may be counterfeit. I cannot stress this enough. You want to
> be sure! Also, any dealer you buy from should give you...in writing...a
> guarantee that they will buy back any coin they sell you...at the
> market price, at the time should you decide to sell in the future.
> If they don't, RUN don't walk out the door! Hope this helps!