Seeking Alpha

Doug Eberhardt's  Instablog

Doug Eberhardt
Send Message
Doug Eberhardt is the author of "Buy Gold and Silver Safely" and a broker/dealer selling gold and silver coins and bars at 1% over wholesale cost. We also offer a ETF Research Analysis service that follows 46 leveraged ETFs and provides entry and exit recommendations.... More
My company:
Buy Gold and Silver Safely
My blog:
Buy Gold and Silver Safely
My book:
Buy Gold and Silver Safely
  • Senior Portfolio Manager Case Against Gold Is Flawed 4 comments
    Oct 10, 2012 1:39 PM | about stocks: GLD, SLV

    I have been known to criticize advisors, gurus, and journalists, CNBC and others over the years and their constant bashing of gold. Now that gold has started to rebound off of its most recent lows, it seems these gold haters are coming back and voicing their case against gold. Each time they do this, I will write a rebuttal.

    Just yesterday a Senior Portfolio Manager from Zacks Investment Management sent out an article titled The Case Against Gold in Today's Market which you can view in its entirety below. I couldn't find it on their website, so it must have been sent to their email list of clients and prospects they are trying to get to invest in an overvalued stock market. This is all many of these advisors know. Stocks. All hail the stocks. There is no room for physical gold in one's portfolio according to these types. But lets look closely at what is claimed by Mitch Zacks, the author of this article and see where the truth lies.

    I will go through each statement from top to bottom. It would help if you read Zacks article below first, and then come back to my critique.

    Zacks said;

    I don't see gold as a financial asset. Gold doesn't generate any income, and it doesn't pay a dividend. Thus I view it not as an investment but as a speculation.

    My Rebuttal;

    I am sure that Zacks thinks that dollars are a financial asset, yet a dollar bill doesn't pay a dividend and does not generate income in and of itself, just like gold. But dollars depreciate. A dollar from 1971 is still worth a dollar today. An ounce of gold from 1971 is worth hundreds of dollars more than in 1971 when it was priced at $43 an ounce.

    Rubies, pearls and diamonds were worth less in 1971 and also don't pay dividends, yet their prices keeps going higher. Why?

    Yes, dollar bills, when invested in a bank, can earn interest. In fact, banks are so generous today they'll give you a .19 percent interest on a 6 month CD and .30% on a 1 Year CD (national average according to Bankrate.com). So a $10,000 investment times .30% and you will have $10,003 at the end of one year. Seniors love this! (as you know I am being sarcastic here)

    Comparing apples to apples, one has done much better with gold than dollar bills, even with interest, and especially the last 12 years straight.

    Zacks said;

    Gold's value completely depends on other people to act in a specific manner for it to go up in price. The price of gold is up big over the last ten years, but prior to that, it did absolutely nothing for a long period of time, even during times of high inflation. In the 1980's gold wasn't considered a great store of value; now it is. The only thing that has intrinsically changed is the perception of what the future might bring.The high price of gold is completely reliant on people's preferences. If those preferences change, the price of gold could fall dramatically.

    My Rebuttal;

    It's actually 12 years straight, going on 13 that the price of gold has moved higher.

    Referring to only the 1980's, Zacks completely ignores what occurred in the 1970's. It was Nixon taking us off the gold standard that started the meteoric rise in the price of gold from $43 an ounce to a high of $850 in January of 1980. Fed Chairman Volcker stepped in and rose interest rates which got people to sell gold and buy long term CD's paying double digit interest. Do we have anything like that occurring right now? Is there any interest rate driven reason to do so?

    But the 1980's to the year 2000 gold did in fact linger. Why? The reason it did was because we were a producing nation. People bought our stuff. At the same time, there was no competition to the dollar. The dollar was indeed king! But what happened in 2000? There was new competition to the dollar. The Euro was introduced. The dollar struggled for much of this period after 2000, and people turned to gold to hedge themselves.

    From there Zacks claims that "perception" is what the price of gold is reliant upon. Does this same perception apply to the massive amount of debt that accumulates each year? Does the $16 trillion of amassed debt and a higher Debt to GDP ratio play into this perception slightly? Does the perception of a Congress and President (Romney's proposals too) that won't make cuts, but only try and control deficit spending weigh on this perception at all? How's that working out for Greece, Spain and Italy and many other European countries? We'll find out soon enough.

    For the price of gold to "fall dramatically" as Zacks said could occur, then government spending would have to fall dramatically for peoples perceptions to change.

    Zacks said;

    Gold has performed very well over the past ten years - its price has gone up nearly six-fold over the past decade. This is another reason why I don't think gold is particularly desirable at this point. The same way trees don't continually grow up into the sky, the price of gold will not continue to rise indefinitely.

    My Rebuttal;

    Again, going on 13 years of performing well for gold, not 10.

    While trees may stop growing, they do provide an unlimited amount of paper for the government to print. The Fed via the Mint can print unlimited amounts of paper to throw at problems. You can't say the price of gold will stop going higher when the Fed continues to give Congress all it wants in the way of paper and Treasuries. One must take away the alcohol from the alcoholic to reverse the consequences. One must stop the Fed and Congress from destroying the purchasing power of the dollar by curtailing their spending. Until the disease of spending is resolved, gold will keep moving higher without the growth limits in your tree analogy.

    Zacks said;

    Some brokers or portfolio managers will tell you that gold should be a part of everyone's portfolio, because it's just a good way to diversify assets. This is one point of view, but an outdated way of thinking. Yes, it meant something when gold was inversely correlated with the equity markets. But with assets now correlating together via gold-based exchange-traded funds (ETFs) and the like, this view has less and less credence. These days we see equity markets trending along with gold, not in opposition to it.

    My Rebuttal;

    Yes, diversification is what I preach and did so in my book, Buy Gold and Silver Safely. But how is this view "outdated?" Far from being outdated, most financial advisors have never recommended gold because the entire system down to the CFP books viewed it as a risky asset. All they ever recommended was stocks for decades, then stocks and mutual funds prior to the introduction of ETFs. Allowing investors to now invest in gold via ETFs has caused the price of gold to move higher much faster when sudden announcements by Bernanke like QE infinity are made.

    As far as stocks moving the same direction as gold these days, we can look at 2008 as an example where stocks ended the year down and gold positive. The fact that stocks are up today along with gold however is pure manipulation of the stock market. How do I know this? Because the data tells me this which I have pointed out in a couple articles;

    Stock Market Bubble and QE3 Surprise

    What the Data Really Tells Us and How It Will Affect Gold and Stocks

    The data simply is not there to support this stock market. Look at the Baltic Dry Index of 2008 and the S&P and how we're at the bottom again, yet the S&P has risen, keeping pace with gold. We'll see soon enough how this plays out, but that race to devalue the world over will soon have paper money chasing the only real wealth around; gold. At some point, gold will separate itself from the stock market, just as it has begun to the last 13 years.

    Zacks said;

    In short, gold prices are being driven by 'animal spirits,' not any sort of evaluation of its intrinsic value. There's no real reason for gold to go up -- or down -- in value. That's not to say you should think of it in terms of being 'bullish' or 'bearish,' but recognize gold as something other than an investment - it is a speculation.

    My Rebuttal;

    And this is where most advisors or portfolio managers miss the point. Saying something is driven by "animal spirits" and saying there is "no reason for gold to go up or down in value" is ignoring the entire nations debt, political structure and without any forward understanding of what this debt and future debt can lead to without it being addressed (which neither Obama or Romney have a plan for it).

    How can gold be a "speculation?" A couple times in your article you called gold a "rock." Of course its not even a rock, but a metal, but that's besides the point.

    You bury $319 of cash in your back yard 10 years ago (the price of gold at the time), dig it up today, it's the same $319 of cash. Can the $319 buy you more or less than 10 years ago?

    If you buried a one ounce gold American Eagle coin worth $319 in your back yard 10 years ago and dig it up today, it's the same coin but worth over $1,700 dollars and can buy you so much more. So what changed?

    What gold is priced in changed.

    Why does it take more dollars to buy gold today than 10 years ago? Because, using Zacks terminology, people "perceive" gold to be worth more now and in the future. One cannot discount the future. But people don't have to perceive current debt and government spending. We know it's there. They can easily draw conclusions about future debt too as they know Congress won't curtail their spending. When have they? From the era of Reagan to today, Congress has gone deeper and deeper in debt. Look at the debt clock at buygoldandsilversafely.com It's now over $16 trillion.

    To discount Congressional spending and pretend it's not there and not a future problem is a mistake. To ignore Fed action and think that someone will be there to buy back the assets at a future date without any consequences to the financial system, is also a mistake.

    Zacks said;

    When everyone who has been parking their assets in gold decides it would be more productive to go into equities or other investments, the price of gold will reverse itself. Once people decide they want to stop buying the pretty rock, the price of gold will fall.

    What is driving the price of gold is not fundamentals, not income streams, but fluctuations and perceptions about expectations. It's essentially a speculation on mass psychology, and that, quite simply, cannot be predicted.

    My Rebuttal;

    What would make anyone go into equities at these valuations? What are companies producing that people want? While I do agree with diversifying into stocks that pay dividends, my recommendations are to be cautious at present. I leave 80% of one's portfolio to "speculate" in the stock market. Dont' mess with my 20% into precious metals. Go find something else to critique.

    Gold is insurance against government spending, Federal Reserve madness and banking shenanigans, as well as future inflation. You insure your home and hope to never use it. You insure your car and hope to never use it. If you never need your gold, it won't end up worthless like those other insurance policies you bought. But don't discount the "mass psychology" that will come when people don't trust in what the Fed can do to fix things any longer. What happens if they can't? What happens when the fiscal cliff turns into a black hole?

    When Bernanke is talking of QE infinity, you may do well to get yourself some insurance that only gold provides (and of course silver). If you think you can't predict the fact that Congressmen and women don't get elected by saying "I'll raise your taxes" to pay for all this debt and future debt, then please understand that only through inflation will it be paid for. This means a weaker dollar and a need for gold insurance.

    Bernanke is fighting deflation while trying to control future inflation. Instead of letting the good weed out the bad, he throws QE at the bad. Instead of letting markets bottom out and rebound to profitability again, he prolongs the market high which can only lead to a bigger crash with the added debt. This is reality. This is why you own gold.

    The case is for gold, not against Mr. Zacks. And it's easily predicted. There is no reason you can't change your mind about it rather than stick with the industry hate of gold. Your clients will naturally benefit.

    The Case Against Gold in Today's Market
    by Mitch Zacks, Senior Portfolio Manager
    Mitch ZacksThe current dynamics in the market are causing many investors to act defensively. Whether it is the fear of inflation due to open-ended quantitative easing from the Fed, worries that the U.S. economy will fall off the "fiscal cliff," or trepidation about a possible depression hitting the Eurozone, investors can find plenty of reasons to feel anxious these days.Typically, when people fear the causes of inflation, currency debasement or other potential economic downfalls, many feel it is a good time to invest in gold. Not me.I don't see gold as a financial asset. Gold doesn't generate any income, and it doesn't pay a dividend. Thus I view it not as an investment but as a speculation.3 Reasons Investors Buy GoldGenerally, there are three reasons investors buy gold: one, as a store of value, two, as a hedge against inflation, or three, as a hedge versus the debasement of currency. Gold's value completely depends on other people to act in a specific manner for it to go up in price.Historically, gold has been known as an effective store of value, but this has gone in and out of favor. The price of gold is up big over the last ten years, but prior to that, it did absolutely nothing for a long period of time, even during times of high inflation. In the 1980's gold wasn't considered a great store of value; now it is. The only thing that has intrinsically changed is the perception of what the future might bring.Right now, countries around the world are trying to devalue their currency in order to improve exports and fight high unemployment. To some degree, real assets like gold should increase in price, but this idea is wholly dependent on people responding in a specific way to its inherent value, even when there's no fundamental reason to do so.Gold is something you can hold in your hand and it looks very pretty. Buying gold is very much like buying an antique or an expensive piece of artwork. But think of it this way: as an investor, you wouldn't buy a nice painting or an antique as a means of generating returns. Yes, the debasement of currency would have some positive effect on the value of these items, but these values are completely reliant on the perception of value of, that painting, that antique, that rock.My experience in investing has taught me that the asset class that is the hardest to own tends to perform the best. The one that's easiest, the one everyone is rushing towards, tends not to do as well.The high price of gold is completely reliant on people's preferences. If those preferences change, the price of gold could fall dramatically.When It Crashes, It Crashes Fast

    Gold has performed very well over the past ten years - its price has gone up nearly six-fold over the past decade. This is another reason why I don't think gold is particularly desirable at this point. The same way trees don't continually grow up into the sky, the price of gold will not continue to rise indefinitely.Historically, when the price of gold crashes, it crashes fast. The charts always look the same -- up, up, up and then down in a hurry. No one ever calls these turns. There is no floor when the price falls because there is ultimately no intrinsic value in gold, and no income stream to keep its value tethered to reality.As long as people continue to see gold as a hedge versus inflation or the debasement of the dollar, the price will stay high. But what if people stop seeing it this way?

    Buying Gold Has Gotten Very Easy

    Some brokers or portfolio managers will tell you that gold should be a part of everyone's portfolio, because it's just a good way to diversify assets. This is one point of view, but an outdated way of thinking. Yes, it meant something when gold was inversely correlated with the equity markets. But with assets now correlating together via gold-based exchange-traded funds (ETFs) and the like, this view has less and less credence. These days we see equity markets trending along with gold, not in opposition to it.

    Part of the reason for this: it is now easier than ever to put your money into gold. Fifteen years ago, you would have had to buy gold futures, but now gold ETFs give easy exposure. However, just because it's easier to put gold into your portfolio doesn't make it a good idea.

    The Wise Alternative

    In short, gold prices are being driven by 'animal spirits,' not any sort of evaluation of its intrinsic value. There's no real reason for gold to go up -- or down -- in value. That's not to say you should think of it in terms of being 'bullish' or 'bearish,' but recognize gold as something other than an investment - it is a speculation.

    The huge increase in the price of gold reminds me of the late 1990s. Recall the technology bubble that was driven by all the IPO activity for technology companies that weren't generating any earnings. People believed these corporations were intrinsically valuable and bought them up, but without being grounded to earnings or income most of these stocks eventually collapsed.

    In contrast solid companies that report growing earnings or pay a dividend are true investments. The intrinsic value is measurable with these firms, and as such they therefore are more sensible - and far less risky - assets to own.

    When everyone who has been parking their assets in gold decides it would be more productive to go into equities or other investments, the price of gold will reverse itself. Once people decide they want to stop buying the pretty rock, the price of gold will fall.

    What is driving the price of gold is not fundamentals, not income streams, but fluctuations and perceptions about expectations. It's essentially a speculation on mass psychology, and that, quite simply, cannot be predicted.


    Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

    Additional disclosure: I am long physical gold and silver bullion bars and coins

Back To Doug Eberhardt's Instablog HomePage »

Instablogs are blogs which are instantly set up and networked within the Seeking Alpha community. Instablog posts are not selected, edited or screened by Seeking Alpha editors, in contrast to contributors' articles.

Comments (4)
Track new comments
  • winningtrader
    , contributor
    Comments (2466) | Send Message
     
    I have to say that:
    - Gold has no balance sheet.
    - Gold has history of not cheating people who invest in it.
    - Gold has 6000 years of history.
    - Gold may go up and down in terms of its purchasing power but never goes to 0, while paper money always goes to 0.
    - Gold cannot be harmed by incompetent politicians and central bankers while paper money can easily be destroyed.
    Well, central banks do try to damage gold (and also silver) through market interventions but that only works for some time and then the market forces blow up the interventions. This exactly happened to the London Gold Pool.
    Gold is significantly undervalued and over time is likely to go up and up. This will happen due to QE infinity which will not be enough and the FED will start something like QE infinity to the power 2.
    11 Oct 2012, 05:39 PM Reply Like
  • ozarkia
    , contributor
    Comment (1) | Send Message
     
    $10000 x .003 = $30 not $3. How am I the only one that caught this? This this threw your whole argument out the window for me.
    24 Mar 2013, 11:22 PM Reply Like
  • Doug Eberhardt
    , contributor
    Comments (3117) | Send Message
     
    Author’s reply » Wow, $3 vs. $30 return on a $10, 000 investment, which today would be 1%....here's a gold star for you. Can you buy more gas with it today vs. 5 or 10 years ago? 2 years ago?
    25 Mar 2013, 03:30 AM Reply Like
  • AgAuMoney
    , contributor
    Comments (4521) | Send Message
     
    '''$10000 x .003 = $30 not $3. How am I the only one that caught this? This this threw your whole argument out the window for me.'''

     

    Seriously? You consider 0.3% to be such a significant return that the overall point of the article is negated?

     

    You're not the only one that caught it. But when talking about fractions of a percent on an annual basis I'm not exactly excited by 0.27% difference in the example used in illustration of a bigger issue.
    25 Mar 2013, 11:08 AM Reply Like
Full index of posts »
Latest Followers

StockTalks

More »

Latest Comments


Posts by Themes
Instablogs are Seeking Alpha's free blogging platform customized for finance, with instant set up and exposure to millions of readers interested in the financial markets. Publish your own instablog in minutes.