Jun 092015
 

OK readers, we’ve had the uppers, now it’s time for the downers.  Ownership of any ‘asset class’ is never a one way street – there are clear advantages and disadvantages and it pays to consider both.  Only seeking out confirmation bias with your investment decision making is potentially a one way trip to the poor house.  Read on for some of the issues you should consider before taking that plunge into gold and other precious metals ownership. Please note, as with the prior ’12 reasons’, these are in no particular order of importance.

1. No Yield

Gold (and other precious metals) typically doesn’t offer a yield.  Although some central banks and the larger bullion banks may have the opportunity to lease out their respective metal holdings, this is not an avenue available to the majority of precious metals owners. As identified in prior blogs, the low interest environment we are currently in does somewhat mitigate the opportunity cost of forgone yields, however it is important to acknowledge that there are still competing investments available that offer reasonably enticing yields (whether these are enough to offset the risk to capital is clearly debatable). Clearly this must be appropriately weighed up by anyone considering purchasing gold.

2. Ownership Costs

Depending on how and where you hold your gold, not only may you not receive yield, you may actually need to pay storage (or other related admin fees) on your account and/or holdings.  Any reputable custodian of your metal should have secure storage facilities (underground vaults etc.) and complete insurance coverage – none of these facilities are likely to come free.  There are certainly some cheaper alternatives, for instance our own unallocated product has no storage or other such annual fees. If pursuing any of these potentially more economical alternatives, individual owners will need to satisfy themselves around counterparty risk as often many of them will not have specifically allocated metal held in your name.

3. Historical Returns

Looking historically, and given enough of a timeframe, total returns on stocks have always outperformed gold.  For the last 100 years, the return on gold has annualised at 4.2% whereas the total return on stocks (with reinvested dividends) has been roughly 10% annually.  You can see this is quite a difference and given the magic of compounding, it provides a very substantial difference to long term returns.

To illustrate, 1 oz of gold was roughly USD19.25 in 1915 and in 2015 has hovered around USD1,180.00, good for a little over 6000% in gains. Not bad, but at the same time USD19.25 invested in shares in 1915 would now be worth upwards of USD265,277.00 – and this is roughly 250 times the return received on gold.  Interestingly, if you shorten the time horizon to when President Nixon severed the last link to gold (1971) which removed direct price fixing of the yellow metal (although debatably not price manipulation – but that’s a whole other topic), the returns become far more similar although they still favour shares. In short, gold is a great way of staying, but not necessarily of getting, wealthy over the medium to long term.

4. Medium of Exchange

Although historically precious metals, specifically gold and silver, have regularly been used as a direct medium of exchange for goods and services in one form or another, this is certainly not the case in the contemporary environment.  In essence this means you can’t walk into your local grocery store and pay with a minted precious metal coin, certainly not if you want to receive fair value (many minted coins have a legal tender value far below the intrinsic metal value…but would it be sensible to use at face value?).  The moral – definitely don’t hold all your wealth in the form of precious metals, you still need to be able to easily access circulating currency in most modern urban environments.

5. Price Volatility (when measured in fiat currency)

Somewhat related to the above, the price for gold can fluctuate quite dramatically when measured in fiat (paper) currency, be it the USD, Euro, GBP or even the little old Aussie battler, AUD.  As most people’s revenues and costs (to use accounting speak) are usually received and paid in fiat currency, and often only one at that, the movement in value of gold holdings in this respective currency may be a little disconcerting.  As the gold market is largely USD based (although you can buy and sell in pretty much all internationally traded currencies), this volatility is typically, though not always, heightened for those whose main currency of exchange isn’t USD.  The advent of ETFs, derivatives and various other financialisation tools appear to have led to an increase of speculative inflows into gold (and other precious metals) which also seem to amplify this price volatility.

6. Commodities Link

There is little doubt that gold is largely an ‘investment’ metal with a low relative percentage of industrial use, however it is still more often than not considered a commodity by the majority of the participants in the modern global market, and this means it is vulnerable to movements within the commodities market in general.  This is likely exacerbated by all three of the ‘blanco plateado’ precious metals (silver, platinum and palladium) having strong industrial uses and therefore more commodity like characteristics – guilt by association one might say…  Although this has been identified as a con in our little pros and cons exercise, it could also be considered a pro, particularly when commodities markets are strong.  Given our emphasis on Gold and precious metals acting as an anchor in somewhat turbulent global financial markets, we’ve decided that a commodities association is more of a negative than a positive (albeit a very minor one).

 

So there you have it – our first 6 considerations which should give you pause for thought before rushing head long into sinking all of your available funds into gold, or other precious metals.  We’ll pick up where we left off tomorrow and fire off another 6 points to carefully consider before progressing your gold or precious metals purchase.