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3 Reasons You Should Buy Gold (And 3 Reasons You Shouldn’t)

How to invest in gold image of bars

Recently someone asked me “Should I Buy Gold”? I promised I would answer that question, so here goes:

It depends.  Please bare with me as I explain.

No investment should be made without considering your overall portfolio, objectives, asset allocation, and how any new investment “fits” in the overall plan. I’d suggest you start with a more basic review of your portfolio and objectives before making this decision.  For those interested in discussion on broader portfolio strategy, see my article on asset allocation HERE.  For now, I’ll focus on gold (and, precious metals in general).
Gold Everything

Is there a place for gold? Absolutely, and I’d urge it to be an intentionally targeted allocation withing your retirement investment portfolio. Some would argue Platinum or Silver would be a better choice at the current price relationship to gold (if you’re not familiar with these price relationships and ratios, I suggest you study them before purchasing any gold). So, let’s change “Gold” to “Precious Metals”. Are there down sides/risks of Precious Metals? Absolutely.

Here, then, are the basic arguments for and against Precious Metals. I won’t attempt to support or refute these arguments, as I believe each reader should form their own opinion. Also, to keep this post to a manageable length, I won’t get into the various means one could pursue to “own precious metals”. Suffice it to say, you can either buy physical (e.g., coins), Electronically Traded Funds (ETF’s), or equity/stock in companies that mine precious metals. I will draw some basic conclusions at the close of the following summary:

Arguments For Precious Metals

1) Diversification. Every portfolio should attempt to diversify exposure among asset classes that are not “correlated” (meaning, they move to different rhythms and should offer some protection of a price decline across your entire portfolio at the same time). The following chart shows gold prices vs the S&P 500 over the last five years, and you can see they do tend to move independently of each other.  (Some would argue the chart supports the position that equities are over-valued and precious metals are due for a “bounce”, I’ll let you draw your own conclusion):

gold club vs sp500

Source:  Yahoo Finance

2) Currency & Inflation Hedge: If you believe the US Dollar is headed for decline, precious metals offer one means of “hedging” this risk. As a currency weakens, precious metals should increase. Regarding inflation, there are some who argue that precious metals will rise in a period of high inflation, protecting purchasing power. It should be noted that there are some who dispute this claim.

3) Economic Collapse Hedge: Media has had fun highlighting “Preppers”, or those that believe “TEOTWAWKI” (The End Of The World As We Know It) is at hand. True, precious metals could be a means of barter in the end times. As a Christian, I do believe there will ultimately be a dramatic change to life on our humble little planet. However, Precious metals will not be your salvation if/when such an event does occur.

Arguments Against Precious Metals

1) No Dividend Revenue. Warren Buffet (one of the greatest investors of all time) is strongly against precious metals as an investment, and one of his strongest arguments is that it doesn’t provide an income (such as dividends or interest). In the low interest rate such as we’re facing now, this is a smaller factor since the money you’d be investing in precious metals would have a lower “opportunity cost” (e.g., if you had it in a bank savings account it would earn a historically low interest rate anyway).

2) Low long term returns:  relative to equities (stocks), precious metals have historically been a poor investment choice over the long term.

3) It’s only worth what the next person will pay:  there’s no intrinsic value in precious metal, and it’s worth could decline if folks reduce the amount of money they invest in this commodity.  Also, some would argue it’s potentially a poor “bartering” item in an economic collapse if folks decide true consumables (e.g., toilet paper) are worth more than a metal coin which doesn’t cover true physical needs (e.g., food).

Conclusions

Every investor must make their own decision on precious metals.  I’d recommend that if you do decide to invest, recognize the pricing at the moment is lower than it’s been in the recent past.  Consider precious metals versus your other investment options, which are now trading at prices higher than historical averages.  Many argue that stocks/equities are over-valued and due for a correction, and bonds have risk if interest rates rise (bonds fall in value when interest rates rise). Regardless of your view, precious metals should not make up a significant percentage of your portfolio.  A 5-10% allocation is a reasonable allocation.

Personally, we own silver and gold (in all three forms:  bullion, ETF’s, and stocks of miners), and we’ve recently added a bit to my position.  We’ve determined various target price levels, and when precious metals fall below a target we add positions, taking the funds out of equities and/or bonds (“rebalancing”).  Our total allocation is ~5% of our portfolio, and we’re considering increasing our position slightly based on the target price strategy (e.g., another move lower will increase the allocation).   10% will be our largest allocation to precious metals, and we’ll only achieve that level if there is a 10% reduction in prices from current levels.  Similarly, if prices rise we will sell increments that we already own as certain price targets are realized.

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