Why I Don’t Trade Gold

It apparently surprises a lot of people that I prefer not to trade gold or gold related securities in spite of it’s amazingly profitable run in 2010. I also get a lot of queries on the shiny metal as to how high it would go or if it’s too late to trade it now or if they should profit take on their positions seeing that it is very profitable now.

For all intents and purpose, I don’t give out such advice. In my opinion, if you bought it then you’d better know when to sell it because you never start something if you can’t or don’t know how to finish it. If you haven’t bought it then you’d better know why you’re buying it instead of relying on the useless and uninvested opinion of someone else. You have to be responsible and accountable for your own actions because it’s your own money on the line.

So do your own research and form your own trading plan and be responsible for your own investment. And you’d better know when to exit.

And that is why I don’t trade gold – I don’t know how to trade it!

Sure there are a lot of “experts” out there who will tell you it’s a good trade with gold expected to hit $1500 or $2000 by this date or that date.

How do they know? Fundamentals? Technical Analysis? Valuations?

Gold has no earnings, guidance, P/E ratio, intrinsic value, etc to tell me if there is indeed any upside in the coming months. Gold is at historic highs and as my #1 rule, I never buy the high if there is no historical technical level to tell me how much higher it is likely to go. Gold has no realistic value any more relative to it’s historical price.

That last statement is my main concern and deserves a rational explanation …

Gold is a strange commodity. Unlike ferrous metals, aluminum, copper, crops or oil, you can’t consume the shiny stuff. Like in the case of oil, it is mined, refined and consumed at a voracious rate. Sometimes it seems we can’t pump out enough of the stuff to meet the demand. It is this demand-and-supply that dictates the push and pull of oil’s price and it is easy to understand it to know where the price should rightly go. And most of the time, it does which makes it a predictable trade for the experienced trader.

Crops, likewise, are consumed at a faster rate than it is grown and harvested and there is never enough of it. Thus, the demand of these very precious commodities, the lifeblood of the human form, keeps it more predictable than oil.

Inventory data, crop reports, weather conditions and rate of consumption gives these commodities it’s value based on demand and supply.

I can’t say the same for gold however.

Once upon a time, gold was rare and precious. Up till 1972, it even had a value as most global currencies were pegged to the yellow metal depending on how much each country held in it’s reserves. It was known as the Bretton Woods Agreement to which the U.S., E.E.C. and Japan agreed to abide by. This effectively limited the amount of money a country could print and kept currency values and sovereign debt in check.

Gold was a very much sought after commodity then as countries needed more of it in order to justify their financial standing in the global market.

In 1971, the U.S. under Richard Nixon, divorced itself from the Bretton Woods Agreement which allowed America to print as much money as they needed to support the Vietnam war effort and offset high interest rates and inflation. The U.S. dollar became the reserve currency of the world, became inflated and overvalued while depleting its gold reserves till it had only 22% gold coverage of foreign reserves. The U.S. dollar in a sense was pegged to oil instead. I guess it made sense then because oil was (and still is, in my opinion) a much more precious and faster depleting commodity then, and even more now.

Soon, many of the other countries under the Agreement also broke ranks and created their own currency valuation through various monetary policies.

For a long while, Gold lost it’s shine.

Today, monetary valuations are derived from debt. How much your currency is worth is dependent on how rich your country is based on trade and budget surplus or deficit. Monetary policy in the U.S. today is based on how much money the Fed pumps into the economy via Quantative Easing or purchasing of debt (read; printing money). Even the old Interest Rate policy has become redundant much like what happened to Japan 20 years ago.

Gold does not figure into any of these monetary policy equations.

So unlike crops, oil and the like, gold today is constantly being mined and hoarded but not consumed. Gone are the days where monetary valuations depended on it. Gone are the days where war made it the only valued currency

Gold also, for the most part, is hardly used in industry, manufacturing or production. In that sense, copper and even silver have a more significant role than gold which today, carries mostly an ornamental value.

A total of 165,000 tonnes of gold have been mined in human history, as of 2009. This is roughly equivalent to 5.3 billion troy ounces or, in terms of volume, about 8,500 m³, or a cube 20.4 m on a side. The world consumption of new gold produced is about 50% in jewelry, 40% in investments, and 10% in industry.

~ Wikipedia

I can’t think of how gold is benefitting modern society today. In our recent past, gold was used extensively for dental purposes. Today, with modern technological advances in dentistry, gold teeth are deemed as passé and out of style.

My Bose headphones’ jack is plated with the stuff as gold is deemed to be a great conductor of electrical and electronic circuits.

*Pause* … I am taking a long time thinking about other uses of gold in our lives today …

Give me a minute …

Make it an hour …

I give up. I really honestly cannot fathom gold’s value other than an ornamental one.

So where is the current demand coming from? Why is the price at record highs if no one is consuming it? And those who are “buying” it are not buying to hoard or use it. Rather, it is a quick trade for monetary returns on the market.

Gold, like most commodities, drive up the charts when the dollar is down simply because you can buy more of it with cheap money. And that is exactly what is going on today.

What started as a flight to safety in 2008 as a result of the Sub-Prime Mortgage Crisis quickly turned into frenzied bull run and into a purely speculative trade today driven by herd action and not price action.

Gold related businesses are no different. Like oil related companies, gold related companies do not trade like fundamental companies according to their valuations or earnings or guidance. Rather, their price movement is, more often than not, heavily influenced by the movement of the commodity. I have always preferred to trade Light Sweet Crude futures than XOM or CVX as long as the historical high is above the current price.

One day soon in the not so distant future, the world is going to wake up and wonder about the phenomenon that is the value of this very useless metal.

I reckon that by the time I die and my grandchildren start working, gold will be no more than an expensive paper weight.

So after all that, the main reason I don’t trade gold is because I have many other better trades to make easier money from.

Why then would I bother with Gold?


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