Why You Still Shouldn’t Listen to “Gold Bugs”

Alexander Green
by Alexander Green, Chief Investment Strategist

Many gold bugs are pounding the table for investors to buy gold - now that it's dropped to roughly $1,200 - and sell stocks.

Don't listen to them. Not because gold won't rally from here or stocks won't sell off - or both. But because - unbeknownst to many of their listeners - this is what they always say. Gold bugs don't offer an investment analysis. They offer a world view that changes over the decades about as much as the constellation Orion.

The economy may expand or contract. The dollar may rise or fall. Governments may fail. Currencies may collapse. But one thing is constant: their advice. Sell paper assets and buy gold.

To their credit, they said this in 1999 when gold slid to a 20-year low of $257.60 an ounce and stocks were about to enter their worst decade in modern times. But to their shame, they were still saying it a few years ago when gold was peaking at $1,900 and stocks were a screaming buy.

If you love broken clocks, you have to love gold bugs. Both are lovely antiques.

But what if they're right this time? What if we're headed into an inflationary spiral?

Not likely. Why? Well, for one thing, look at the price of Treasury Inflation-Protected Securities (TIPS). They have swooned in recent months. Or look at the price of gold. In the second quarter, it posted its largest quarterly decline since the start of modern gold trading. Gold fell 23% in the period to close at $1,223.80 a troy ounce.

If the trend is your friend, look out below.

But the truth is gold isn't such a hot inflation hedge, anyway. It hit a high of $875 an ounce in January 1980. And even though we experienced double-digit inflation that year, it lost a third of its value by Dec. 31. And it kept dropping for almost 20 years.

Gold bugs who purchased gold at the high 33.5 years ago still haven't broken even in inflation-adjusted terms. Heck, they still hadn't even broken even when gold peaked above $1,900. If that's an inflation hedge, I'm Woodrow Wilson.

But just wait, the gold bugs insist. "We'll be vindicated in the long run." This is when I'm reminded of the one thing John Maynard Keynes said that I actually agree with: In the long run, we're all dead.

A 50-year old who bought gold at the peak in 1980 is now 83 years old. I'm guessing he wishes he had done something smarter with his money, like invest it in common stocks, a genuine inflation hedge.

Gold hasn't just badly underperformed stocks and bonds over the last 30+ years. It has badly underperformed stocks and bonds for the last 200+ years.

The long run can be very long indeed.

Am I suggesting you shouldn't own gold? Absolutely not. Gold is an excellent portfolio diversifier and - occasionally - an explosive mover. Blue chip gold equities, in particular, have only underperformed the S&P 500 by about one half of one percent annually.

However, if you're one of those investors who has 30%... 50%... or more of his portfolio in gold, you're really rolling the dice.

And probably listening to the wrong source.

Good investing,

Alex

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