Wednesday, January 16, 2008

Why Gold?

Why gold indeed. It is often said that money talks. Well, if money talks then gold screams.

Gold has been steadily climbing since the turn of the millennium and if that is not a scream I don't know what is.

It has been said that "the price is being driven by growing investment interest, safe-haven demand and strong market fundamentals." Actually it is more driven by the decreasing value of paper currency. In addition to that we have a stronger than ever Asian interest in gold unparalleled even in the 1980s. China, is buying gold as if there was no tomorrow and the stocks of gold increase by only 2 percent per year meaning that soon it is going to be in very short supply.

Apart from some expected profit taking, gold is now in the 900 dollars an ounce range and analysts are expecting that magic 1000 dollars an ounce to be reached early this year.

Then it will be time to break out the champagne.

But what does this mean to the fellow in the street? It means everything in short. Gold is the barometer of finance. It is the handkerchief fluttering in the wind. The canary in the gold mine. The wind up the Khyber Pass. In short gold tells you what the state of the economy is.

Inflation could be said to be an increase in prices or a decrease in the value of the currency mostly cause by too much money in circulation. How can that be, some might ask. "I don't have too much money," I hear someone say!

Inflation is not caused by ET or strikes or greedy company CEOs. It is caused by printing more paper money to pay for more debt created by banks using the fractional system.

Meyer Rothchild once said, "Give me control of a country's money and I care not who makes the laws".

The apparency of inflation is that prices, like oil for example, are going up. But the actually value of products and services is not going up. The dollar is going down in value and so it takes more of them to buy the same product or service. This is not the case with gold. In 1900 one ounce of gold would buy you a very nice men's suit in London. Gold was about 20 dollars an ounce then. Today you can buy a very nice men's suit in London for one ounce of gold. I bet you know how much gold is per ounce today.

The difference, of course, is the drop in the value of the dollar. Hence higher oil prices, Higher property prices. Higher food prices. Higher everything prices.

So when you read about greedy oil companies, or high property prices know that it is not true. The value of commodities are not rising. The dollar is falling.

So Why Gold
"The central banks are flooding the market with paper. Does anybody now take the dollar, the euro or the pound seriously? People are turning to gold because it is the only hard store of value."
- Peter Hambro of Peter Hambro Mining

There is 641.81 tonnes of gold held in the vaults of StreetTracks gold ETF (exchange traded fund) for private investors. They are the 7th largest holder of gold in the world. Impressive when you consider that most of the gold holdings are owned by banks. This is a private company, not a bank. This fund only began in 2004 so is only 3 years old.

Evidently private investors, in the face of ineffectual economies, are turning to gold as a safe haven and a protection from the Begger-thy-neighbour practice*

Bond guru at Morgan Stanley, Joachim Fels has stated that the central banks will tolerate an upward creep in the underlying level of inflation because the pain required to kick the habit at this late stage is deemed too high. "I strongly doubt that they will tighten the screws. I expect 2008 to mark the beginning of another global liquidity cycle."

So there is to be no relief anytime soon it seem as far as the economy, inflation and value of the dollar is concerned.

So it is no surprise that gold is valued so highly.

Objections to Buying Gold
A gold analyst recently gave the following responses to objections to buying gold.

You can't eat gold
Response: So? You can't eat paper money either. Gold isn't in competition with food. It is in competition with paper money.

You can't put gold into your car's gas tank
Response: You can't put gasoline in your pocket either. See previous response.

Gold is only worth what someone is willing to trade for it
Response: That is true. It is also true of paper money. The difference is that to get gold you have to find it, dig it up, smelt it, and coin it. The stock of gold usually only grows at about 2 percent a year. Paper money, on the other hand, can grow by infinite amounts because all you have to do to create it is punch some keys on a keyboard. This is why gold retains its value and paper money always becomes worthless in the end. For example, in 1899 London an ounce of gold would buy you a nice men's suit. In today's London an ounce of gold would buy you a nice men's suit.

Now compare that to the purchasing power of a U.S. dollar.

Gold isn't money
Response: Then why do Central Banks around the world have 13,000 tons of it in their vaults? Why would a bank put something into their money vault if it isn't money? "But they are selling it," you say. Well, they are buying it to.

There's not enough gold around to be a currency today
Response: Not at today's gold prices there isn't. But then there is no reason for gold to remain at today's prices.

When currencies collapse you want a gun, not gold
Response: First of all, when whole societies collapse only precious metals are money. Nothing else is (for example, Roman coins were used as money for centuries in Europe after Rome had fallen). Precious metals became money without government coercion, and when the government becomes powerless, precious metals will return as common currency. Because unlike paper, precious metals aren't built on debt.

Secondly, every idiot in the country (USA) has a gun. Your gun isn't going to impress them.

Thirdly, society rarely collapses when its currency does. A good example is Weimar Germany. History is filled with examples of paper money becoming worthless, impoverishing whole sectors of a nation, and then the nation moves on and learns from the mess for a couple generations before they make the same mistakes all over again.

Gold is a bad investment based of its track record since 1980
Response: The argument sounds good on face value, but not if you look closely.

First of all, gold spent all of two trading days above $800 in 1980. So extremely few people bought gold at the top of the 1980 mania, thus very few people lost the kind of money that gold-haters like to portray.

Secondly, the same people who criticize gold as an investment probably won't tell you to never buy tech stocks, despite the fact that a lot more people bought NASDAQ stocks near 5,000 (and lost quite a bit more) than ever bought gold near $800. The lesson here is: don't buy into a mania.

Finally, and most importantly, people didn't start buying gold in 1980. People have been buying and selling gold for 5,000 years. It has a track record that almost no other investment class can beat. It neither gains value or loses it. It just sits there...retaining value.

Gold is a risky investment
Response: Gold is probably the safest investment you can make. Looking at the chart above, there is really only one instance in history that caused gold to make a dramatic fall - Spain dumping stolen Incan and Aztec gold onto the market. Barring a half-mile wide asteroid made of solid gold hitting the Earth, that is unlikely to ever happen again. The huge gold strikes in California and South Africa barely even made a dent in the price of gold.

So there is the answer to the question, why gold. Gold keeps its value even while the dollar doesn't. Besides, you never know when your going to need a new suit.

*An international trade policy of competitive devaluations and increased protective barriers that one country institutes to gain at the expense of its trading partners.

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