It is Gold's gift... It is Gold's curse.

[moda0306]

After listening to Rick Ferri's comments against gold, I think it really points out to you the point of opposing assets.  The fact that gold just sits and does nothing, and had such a long period of abysmal returns during the 90's, makes Rick think that it's a subpar asset.

I think it needs to be stressed how much more important it is that an asset bounces when stocks and/or bonds decline than what its long-term CAGR is.  You can combine all the 10% long-term return asset classes that you want, but if they're not opposing in nature (hopefully for fundamental, macroeconomic reasons and not simple coincidence) they are 1) not going to help you avoid volatility, and 2) not help boost your long-term return.  Gold did horrible during the 90's... but to think about it, would we want it any other way?  It's its lacsidasical performance during times of prosperity that makes people forget about, even hate, the metal as an investment, and allows PP investors to swoop in and get it for a steal.  There is nothing that will necessarily do well during periods of prosperity AND skyrocket during periods of inflation, war, fear, and panic.

Beyond that, if you have other money you can afford to lose, by all means gamble with it as you see fit.  On top of the PP's great returns for such a fundamentally conservative portfolio, it can give you the confidence to dive into a VP investment without pulling out at the bottom and/or staying awake at night.... so really, the PP's advantages can be looked at outside the realm of what you have in the PP.  Gold's curse is truly its gift.  It doesn't do well during times of prosperity, nor do we want it to.  If it did, there would probably be something fundamentally wrong with it to perform during times of inflation, fear, panic, and war.

[AdamA]

Agree completely.  I would also add that holding a hard asset such as gold in your portfolio does wonders for your psychology as an investor.  Helps avoid panic when things get bad.

[MediumTex]

If you were an Egyptian right now, would you want a portfolio made up exclusively of paper assets?

Sooner or later, instability comes to all human institutions.

Look at those King Tut pieces that the looters damaged.  They sat in the ground for thousands of years without being harmed.  Then, you put them into the stream of human action and they make it about 100 years before a mob smashes them.

The process that led to those pieces being damaged in a secure museum in a relatively stable "democratic" country is what I mean when I talk about all human institutions being transitory.  Remember, too, that the way those artifacts got in the ground in the first place was another highly advanced civilization that for whatever reason lost its way and disappeared from history.

[Pkg Man]

I just happened to run across this article from Martin Feldstein on gold and inflation and decided to post, (you may have seen it before, it was published about a year ago).  I am not endorsing this opinion, nor altering the composition of my PP, but he does bring up some points that are at least worth thinking about.

My retort would be that gold may very well lag inflation when inflation is relatively benign, but that in periods of high inflation or high geo-political distress, gold will respond powerfully.

http://host.madison.com/ct/news/opinion ... e1884.html

[moda0306]

Inflation is not one perfectly identifiable thing.  "Inflation" as a result of expanding credit will help stocks and real estate.  Inflation from an oil-rich country having political unrest will benefit gold and maybe even treasuries.  It's the latter type of event we're worried about.  To talk about inflation like it's a matter of a cpi number every quarter is asinine.  It's a complicated mix of planned and unplanned, stable and instable events.

[moda0306]

Pkg Man,

I didn't mean my post to shoot down yours.  Part of me is as skeptical of gold's true "value" as the other part of me loves what it does in the portfolio, so I'm always interested in analysis.

I was simply saying that if all we wanted gold to do was track CPI, then Rick might be right.  We DON'T want gold to simply do that.  I think his assertions that gold should simply keep some kind of inflation-adjusted price all through time is a bit ludicrous.  Even if at 5% or 10%, it would help a traditional portfolio much more successfully weather some of the storms we've had in the last 38 years, but he refuses to use it because it produces no cash flow or "no real return."

I'd ask him if the stock market produced a real return (or a nominal one for that matter) from 1966 to 1982.  MT is right, in that it all comes down to institutions.  Once we start questioning contract law, business entity law, the future of our society as we know it, all bets are off on paper investments.  They're only as good as the digital paper they're printed on at that point.  Gold, on the other hand, requires no contract, no rule of law, and no government to have value to people.  Even if you think we'll never reach a point where society breaks down, one must at least acknowledge that there are times when the rest of society will question it, and that stocks will suffer and gold will rally.  For that reason alone, it's idiotic not to have it as part of your portfolio, as the act of holding/rebalancing alone will make your portfolio 1) less volatile and 2) grow more in the long-term, or at least close to the same.

[Lone Wolf]

Good job on grasping what Rick Ferri missed about gold.

I just happened to run across this article from Martin Feldstein on gold and inflation and decided to post, (you may have seen it before, it was published about a year ago).

Yeah, it seems like Feldstein is also looking at gold from the Rick Ferri perspective of expecting it to act exactly like TIPS and "track" inflation somehow.  The giveaway that he has the wrong idea is that he expects TIPS to act as an "inflation hedge".  But this isn't what they do.  TIPS are good at preserving their own value in the face of reasonable inflation, but they don't react strongly enough to save your stocks and bonds.

Who here believes that holding a slice of 15-25% in TIPS (if they had existed) would have rescued a stock\bond portfolio in the 1970s?

Gold has a different role.  It is there as a permanent guardian of purchasing power whatever may come.  If there's some modest inflation that is well-compensated by the prevailing interest rate, instruments based in the US dollar can preserve purchasing power just fine.  Such a scenario is no threat to the dollar.  But things like double-digit inflation, war, political unrest, and deliberate trashing of the currency do pose real dangers to purchasing power.  That's why we hold gold.

[moda0306]

If all gold did was track CPI it actually wouldn't be very ideal as it wouldn't be as volatile at the right times as we need it to be.  I just did a little analysis, and a 60/40 stock/gold portfolio would have returned you 11.17% over the last 39 years.  It's worst years were 1981 and 2008, with 15% and 20% losses, respectively.  So gold has a growing AND calming effect on a stock-heavy portfolio (not like we didn't know that).

It's certainly even better if you use decent rebalancing bands.

Interestingly, as I changed the allocation to more stocks and less gold, the CAGR got worse.  60/40 was the best allocation you can get +/-.  (coincidentally matching the coffeehouse portfolio allocation but with gold instead of bonds)

So Rick has his head in the clouds saying that "it doesn't help your long-term growth, but just blips up when people panic."  Even if we were to pretend every panic was not justified, investing in the right assets anyway lets you rebalance and get the other assets for a steal.

[Pkg Man]

I'm not questioning the holding of gold, I began purchasing it before I discovered the PP.  Nor am I suggesting something else in it's place.

But I do think that is an empirical question as to how well gold compensates one for the effects of inflation.  Whether inflation stays at zero percent for years and then jumps significantly, or stays at 3% year after year, the effect on one's real wealth is the same.  Does gold tend to only perform well in the former case and not the latter?  This is not a question of beliefs, it is something that can be examined with data.  One of these days I will get around to performing my own analysis of the matter.

When someone who I believe to be smarter than myself, like Martin Feldstein, says something, I tend to give it some thought, even if I intuitively think he may be wrong.

[MediumTex]

Here is a helpful shorthand I think:

During a secular bull market for stocks, gold will do poorly, regardless of what inflation is doing.

There are only so many places for capital to go--one of the reasons it goes to gold is that there isn't a better place for it to go at a given point in time.

What we are seeing in equities right now is almost sad to watch.  It's a beautiful cyclical bull market within a secular bear, but it will end in tears.  Nothing fundamental about the economy has changed or improved.  The only thing that has happened is companies have cut costs and this has juiced earnings.  Does anyone think it is strange that in a 10% unemployment environment companies are reporting huge earnings?  I suggest that they are connected--companies have slashed payrolls and this makes their numbers look healthier.  Is that a sustainable path to recovery?  Of course not.  It's good for a few quarters of good numbers and then the weight of unemployment will begin showing up in softening demand across the whole economy and there will then be pressure within companies to cut costs even more...it's not a good cycle.

It's not surprising that gold hasn't taken this 2009-2010 equity bull market seriously (just like it didn't take the 2003-2007 market seriously either).

Gold can tell you a lot about things if you know what to look for.

The subtlety of the PP's design never ceases to amaze me.

[moda0306]

MT,

Are you sure gold's growth during that period didn't come (somewhat at-least) from the securitization of ownership of it (ETF's)?  I am intrigued by your theory/prediction, but part of me thinks that the ease of ownership has played into the spiking of the asset during the 2000's.

[Pkg Man]

I just realized that my post probably should have been put into the "Correlation between Gold and Inflation" thread.  I've posted a link to an article I found (Gold Is A "Crisis Hedge" Not An  Inflation Hedge) discussing the evidence in that thread.

[MediumTex]

MT,

Are you sure gold's growth during that period didn't come (somewhat at-least) from the securitization of ownership of it (ETF's)?  I am intrigued by your theory/prediction, but part of me thinks that the ease of ownership has played into the spiking of the asset during the 2000's.

I think you are talking about effects, not causes.

The PM ETFs didn't drive up the price of gold--rather, the strong demand for gold led the market to create more convenient ways of owning it.

Compare the point above with the explosion of equity ETFs--has the availability of these ETFs (as well as falling commissions on their purchase) driven up the stock market? 

[moda0306]

I think gold is a hedge against destabilizing inflation to a degree that real estate, stocks, and st bonds can never be.  Rising CPI can come as a result of expanding credit, full employment and prosperity to a degree... or it can come as a result of horrible economic management by a government, war, high oil prices, currency disasters, etc.  

MT is right that there's no place for gold if stocks and bonds and high employment are easily absorbing rising CPI... it's when the inflation comes in a very destabilizing form that it causes huge problems for stocks and/or bonds.  We don't need gold for that reason either... in fact, we almost don't want it to track inflation, because then it wouldn't behave as something that jumps when really scary events pop up. (think Egypt).

So I'll give it to you that gold doesn't track inflation note for note.  I'm not sure if HB thought it should, but it's proven to behave in a way that is almost perfect for the needs of the PP.

[moda0306]

MT,

You very well could be right about ETFs being an effect, not cause... but I like to be open minded about these things and always doubt my assumptions.

I think ETFs have had a fraction of the effect on stock funds as they've had on gold.  Buying stock mutual funds was much easier than buying gold coins, was it not?

[MediumTex]

Inflation runs with a bad crowd.  Therefore, any time inflation pops up it may seem like it is the cause of whatever bad thing is happening; the reality is often that inflation is simply an effect of one of the rough causes with which it travels.

Gold reacts to the other causative members of this rough crowd, among them poor political leadership, poorly conceived financial and monetary institutions, and man-made disasters such as war, whether or not these causative factors are actually causing inflation at a given point in time.

[MediumTex]

I think ETFs have had a fraction of the effect on stock funds as they've had on gold.  Buying stock mutual funds was much easier than buying gold coins, was it not?

Not to be contrary, but I would say gold coins are much easier to buy than shares of a mutual fund.

They don't sell mutual fund shares at pawn shops (though they probably should).

If I had $1,000 I could convert it to gold or silver in a couple of hours in most cities.  Converting that $1,000 to shares of a mutual fund would take much longer and would involve many more steps and intermediaries.

[KevinW]

So I'll give it to you that gold doesn't track inflation note for note.  I'm not sure if HB thought it should, but it's proven to behave in a way that is almost perfect for the needs of the PP.

One difficulty in determining causality ex post facto is that the Fed creates money in bursts that are absorbed into different parts of the economy at different rates.  The new money hits the primary dealers first, then they write loans, and the recipients buy things, then the companies they bought from get more sales, which bids up retail prices, which bids up wholesale prices, which bids up wages, which bids up retail prices again, etc.  It's unclear which of these phases counts as "inflation" and which one ought to trigger an inflation hedge.

Layered on top of that, speculators try to front-run everyone else, so movements could be caused by inflation, expectation of inflation, expectation of expectation of inflation, and so on.

If I had $1,000 I could convert it to gold or silver in a couple of hours in most cities.  Converting that $1,000 to shares of a mutual fund would take much longer and would involve many more steps and intermediaries.

I imagined transacting gold coins to be a huge hassle until I "workshopped" actually doing it.  There are three independent coin dealers within a short drive of my corner of suburbia.  Each has a website with bid/ask prices and policies that are all competitive with each other.  And there are several competitive online dealers.

I was reminded of the first time I ever arrived at an airport in a strange city.  I had this sense of panic because I felt stranded.  Then I learned that airports always have an information desk, taxi cabs, transit connections, hotels within walking distance, and so on.  You don't see any of that stuff until you have a need to look.  So too with coin dealers.

[moda0306]

If I had $1,000 I could convert it to gold or silver in a couple of hours in most cities.  Converting that $1,000 to shares of a mutual fund would take much longer and would involve many more steps and intermediaries.
[/quote]

MT,

Maybe I'm not thinking of literal ease, but maybe easier for investors to add to their stock/bond portfolio when their broker also offers them a gold ETF and they don't have to go down to Skeeter's Pawn & Gold and buy gold coins.

I just think a lot of big money would never go buy physical gold, but a gold ETF would be extremely attractive for ease.

I'm not thinking of myself... simply trying to put myself in a rich man's shoes.

[rickb]

[The big mystery is why TPTB let ETFs come into existence. 

Actually, if you believe GATA, GLD and its ilk are an integral part of TPTB's gold suppression scheme.  For example, see http://fofoa.blogspot.com/2011/01/who-i ... g-gld.html.

[rickb]

From what I can tell, buying shares of PHYS is like buying gold from a bullion outlet.  It eventually DOES affect the price of gold as it is real demand. 

PHYS and GTU (and CEF) are closed end funds, i.e. they own what they own and buying or selling shares has no effect on what they own.  When you're buying shares of these you're not directly creating demand for gold any more than buying GLD or IAU (when you're buying any of these, you're buying shares that already exist from someone who already owned them).  However, Sprott and the folks who run GTU (and CEF) make very strong claims that they never lease the gold these funds own and any share creation/destruction events (which do affect gold demand) are publicized and completely above board (these events help these funds track the price of gold).  The "authorized participants" involved in GLD and IAU apparently create shares (buy gold and transfer ownership to the funds in return for a basket of shares which they then sell on the open market, increasing the amount of gold owned by the funds) and destroy shares (trade shares they've bought on the open market for gold owned by the funds, reducing the amount of gold owned by the funds) whenever they feel like it.  These events are supposed to help GLD and IAU track the spot price of gold (new shares should be created if the GLD price gets too high and existing shares destroyed if the GLD price gets too low) - but if you can correlate changes in the amount of gold these funds own with increases in tracking error, you're a better man than I.

If you want your purchases to affect demand for gold you need to either buy gold coins (or bullion), or put your money in something like goldmoney.com.

[dualstow]

Not to be contrary, but I would say gold coins are much easier to buy than shares of a mutual fund.

They don't sell mutual fund shares at pawn shops (though they probably should).

If I had $1,000 I could convert it to gold or silver in a couple of hours in most cities.  Converting that $1,000 to shares of a mutual fund would take much longer and would involve many more steps and intermediaries.

MediumTex, you are far and away my favorite poster here, but the above post made me scratch my head. I mean, once you have an investment account, buying shares of a fund is trivially easy. Perhaps it's *too* easy, making frequent trading a temptation. And, all those intermediaries are abstracted. On my end, I click a button and suddenly I own more shares than I did before.

Where I live, it's easy enough to find a shop that sells gold, and I can get there on foot. But, I'm concerned that unwanted "intermediaries" in that neighborhood might make buying physical gold unpleasant. (I have a thread about buying it through the mail and not seeing it for 20 days, but that did work out and I will continue to do it that way. Still, a phone call and a check in a stamped envelope seems rather archaic next to the way I buy my index funds).

Are you more likely to receive $1,000 in cash or in your bank account via checks, transfers, direct deposit? For me it's the latter.
And, what if you receive $10,000? Is it easier to bring that over to the gold shop or to deposit it and then buy shares online?

[AdamA]

I think Medium Tex meant that he could have $1k cash in hand in a few hours, during a crisis.  If you sell a mutual fund or and ETF or whatever, it's gonna take 3 days or so to have cash in hand, and that's when everything is running smoothly. 

Under the circumstances in which you'd be cashing in gold coins (bank failure or something) things may take much longer.

I still get your point, though.  In good tines, it's way easier to buy etfs, etc.  Not to mention the storage issue associated with physical gold.

Adam

[dualstow]

Ah, makes sense, Adam. I hadn't thought about the lag between trade and settlement dates, not to mention the possibility of interference during a crisis.

[MediumTex]

My point really was that buying gold isn't difficult if you look into it.

Most people who are accustomed to investing by purchasing shares of this or that have never really looked into buying gold, so it may seem like a harder thing to do that it really is.