Why Investing In Makes Sense

Gold is the one single physical asset that people worldwide hold in the highest esteem. It has been a part of cultures around the world for hundreds if not thousands of years. Gold coins appeared as early as 800 B.C and have continued to be used as major trading commodity, or simply to preserve wealth, ever since. So, why invest in gold when there are hundreds of other investable commodities in the market, many of which are perhaps more liquid than gold? There are several reasons why, as follows:

Weakness of the US Dollar

The U.S. dollar is the essential the global reserve currency; when the value of the dollar declines against the world’s major currencies as happened between 1998 and 2008, people shift to gold, leading to a sharp rise in prices, which nearly tripled between 1998 and 2008. The upwards price continued between 2008 and 2012 with prices again almost doubling again. The devaluation of the US dollar was triggered by various factors including a major trade deficit, an increased money supply, and more. Factors we are seeing again today.

Price & Demand

Gold is priced below its marginal cost of production and near its average cost of production. On this alone, gold should be an acquisition for any investor. One of the most basic investment rules is to buy assets below their replacement value. Gold is currently trading around its cost of incremental production. Since the sharp increase in gold price over the last decade, mining companies have raced to produce more product. The incremental production costs for many mines is above $1,300. The rising cost is very likely to keep production depressed. There is also increased demand for gold in emerging markets especially China and India who are seeing a rising middle class that are wanting to buy precious metals. India is one of the world’s largest gold consumers, due its high demand for gold jewelry which is used extensively in wedding ceremonies and really to store wealth. The Chinese use gold bars as a popular mode of saving and gold in general as wealth storage. The Chinese government’s increased acquisition of gold demonstrates this. In the United States, many investors view gold as an investment class. The SPDR Gold Trust has consequently become one of the largest ETFs in the U.S., and one of the world’s largest holders of gold bullion in the world (although is is still not the same as holding physical gold). The relationship between low production and high demand is likely to keep gold prices high in the foreseeable future.

Value

If you are a value investor you are probably aware that stocks of mining companies are currently rated as some of the most undervalued shares in the market today. The overall market is currently trading at historic highs, and finding value stocks is difficult. Mining stocks have generally been selling off and several are currently selling well below their fair value. Value stocks like these tend to hold up better during a market downturn than the average stock. Political uncertainties, which we are seeing everywhere these days, are likely to drive up the price of the metal as well.

Portfolio Diversification

For an investor’s portfolio to be properly diversified, it should partly be invested in gold, with about 2% or 3% of your total portfolio allocated to gold, or other precious metals. The main key to diversification lies in finding instruments that are not too similar. Gold has historically had a negative correlation to other financial instruments, meaning when the go down, gold tends to go up. For instance, the 70s were great years for gold but bad for stocks. In the 80s, the trend reversed as stocks soared while gold lagged, but not necessarily reversed. Consumers have been migrating into gold since around 2008, which has pushed gold prices higher. With the U.S. stock market trading at all-time highs, chances of a major market correction are extremely high, which should lead to soaring gold returns once this happens.

Hedging Against Inflation

Gold has historically been used as an effective hedge against inflation, because its prices tend to rise when the cost of living rises. The five years when inflation in the U.S. was at its highest are 1946, 1974, 1975, 1979, and 1980. The average real return of gold during those years was 130.4% compared to -12.33% for the Dow Jones Industrial Average.

How to Invest In Gold

There are several ways to take advantage of gold’s proven ability to preserve wealth and retain value. You can simply and easily buy gold coins or bars. These are somewhat more liquid than other gold assets and their value is much easier to gauge. You can also rollover your IRA to physical gold to protect your retirement fund against inflation, an investment vehicle that has gained popularity and traction these past few years. Gold coins generally sell at higher prices than the spot value of gold due primarily to their design and manufacturing costs, although it does depend on the coin type itself. Gold bars sell near gold spot price since they are easier to produce and store. They are available in various sizes as small as 1 ounce, 400 ounces, and 1kg, and various weights in between. If you do not like the idea of buying physical gold, you can invest in exchange-traded funds (ETFs), but ensure the ETF you invest in holds physical gold as the primary investment.