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Why Gold Should Be Avoided As An Investment Tool
Part 5 of 6
by James Nelson, originally published June 2007
Thirty Years of Gold
Gold is important asset protection tool if there's ever a currency crash. Of course a currency crash would be a sudden and catastrophic event, and you may think that people who worry too much about that are just being paranoid.
But let's now put gold into the context of price inflation. What we will see is that gold is also an important asset protection tool in this context.
Let’s consider the price of gold in the same post-Breton Woods time frame. In 1975 gold was around $150/oz. In 2005 the price peaked at around $540/oz. (And the price has gone up another $100 since then, but for purposes of comparison I want to use this 30 year period.) In percentage terms, the gold price in 1975 was only 28% of the price in 2005. In other words, the price of gold went up about the same amount that the purchasing of the dollar went down.
But it isn’t as simple as a one to one negative relationship between gold and the dollar. Remember, gold is not a currency, it is a commodity. And commodity prices can vary a great deal. So, during this thirty year period there was a huge spike in the gold price back in the late 70s. (This spike was connected to the Hunt brothers' attempt to corner the silver market, if you remember your economic history. They ran the price of silver to the moon and gold – also being a commodity in the precious metal group – followed right along.)
As often happens after a major market event, such as the Hunt brothers trying to corner the silver market, commodity prices went into a funk. That’s exactly what happened to gold. Throughout the 80s the price was stagnant and even declined a bit, but by the end of the decade the price of gold once again began to move and realign itself with the inflationary realities of the U.S. Dollar, as can be seen on the chart below.
Again, let me emphasize (as the above chart indicates, when compared with charts of the Dollar and inflation) that there is not a one-to-one correspondence between gold, the dollar, price inflation, and money supply. But what is certainly true is that gold's value has remained relatively constant (in an inverse relationship) to the dollar adjusted for inflation.
Gold Is a Bad Investment but a Good Asset Protection Tool
In terms of true asset appreciation, gold is not a particularly good investment tool. (In fact, it was a horrible investment during the 1980s!) But in terms of asset protection—holding on to the intrinsic value that your possessions represent—gold has been a remarkably good option in the last thirty years.
Of course, this has been the case, not only in the last thirty years, but throughout history.
Some people will look at the chart above and see in it two huge opportunities (and three for those willing to go short) in gold. They might disagree with my assessment and say that for those who could read the market, gold was a fabulous opportunity in the 70s and it is again a great opportunity right now.
The Difference Between Trading and Investing
At the beginning of this paper I differentiated between investing and asset protection. Let me now make a third distinction. Trading is a different activity still. Investors generally seek long term gains in a market. Investors are looking for underlying value that they can take advantage of.
Traders, on the other hand, focuses on market swings and technical analysis. The trader has to be nimble while the investor can be deliberate. Since gold is a commodity it can be actively traded. As I observed above, gold is akin to crude oil, wheat, and coffee. All these markets are "traded" on various commodity exchanges.
I traded commodities for several years. I’ve traded gold often.
But this paper is not about trading, it's about asset protection. And because of that, it looks at the world from a very different angle.
And there’s a point to this rabbit track:
Investing, Asset Protection, and Trading are all great activities. Trading can produce a great deal of income if you learn to do it well. But If You Ever Confuse the Three it can seriously damage your overall asset strategy!
In this paper we are not talking about trading. We are focusing on Asset Protection. It’s very important to keep the distinction in mind.
Conclusion: Gold is a Bad Investment but Important for Asset Protection
It is my opinion that everyone ought to have a percentage of their assets in gold. But that is only a valuable strategy to the extent that you (the reader) believe asset protection (in contrast to investments or trading) is an important part of a long-term financial plan. Looking at a short term chart of gold (the last five years), one would be tempted to view the yellow stuff as an outstanding investment vehicle. But before you become enamored with a chart climbing right off the top of the page, take a careful look at the previous decade, and put the recent price into the context of the relative value of gold throughout history.
The simple fact is that an ounce of gold still is about the same value as a finely tailored suit. The difference is that gold lasts a lot longer than a silk suit.
Disclaimer: The opinions expressed are not intended to be taken as investment advice. It is to be taken as opinion only. Jim encourages you to complete your own due diligence when making any investment decision.
NEXT: Addendum: How Can the Average American Own Gold?
Copyright © 2007 James E. Nelson (Just Another Jim). All Rights Reserved.
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