Posted by Nolan Miller on May 27, 2010

Filed Under (Uncategorized)

The other night I was watching TV and flipping through the newspaper.  In some sort of cosmic coincidence, at the same time as I was reading a newspaper ad about why I should package up all my gold and send it to somebody who would buy it from me, I was listening to a commercial about how gold is a great investment and I should be buying gold coins.  Since the price the scrap-buyers were offering (which they didn’t mention in the ad, by the way) was undoubtedly lower than the price of the gold coins that were being sold (which they didn’t really spell out in terms of dollars per ounce, by the way), this “sell-low/buy-high” strategy seemed a bit off to me.

So, gold.  It’s shiny, but is it a good investment?  The gold hawks would tell you that it is a good hedge against inflation.  But, as Martin Feldstein argues in this project syndicate piece, gold is not fundamentally an inflation hedge.  It is a shiny metal whose value sometimes moves counter to prices since prices rise when there is too much money, and as money loses its value people trade it in for (i.e., buy) gold.  Sometimes.  Other times, price and the value of gold move together.  If you really want to hedge against inflation, there are securities that are designed to do that, like Treasury Inflation Protected Securities (TIPS) or I-bonds.

So, is gold a good investment?  Maybe, if its price keeps going up.  Is its price going to keep going up?  Maybe, if people buy it.  Will people buy it?  Maybe, if they think its price is going to keep going up.  See the risks?  This is a bit of an overstatement, because there are uses for gold – some for jewelry and some in electronics.  But, one has to wonder whether the uses of gold can sustain its high prices forever, or whether we’re headed for a gold bubble.

And that brings us to an excellent three-part series on gold that Brett Arends is writing for the Wall Street Journal.  Parts one and two are available.  Part three comes out tomorrow.  In part two, Arends quotes Warren Buffet’s view of gold as “Gold gets dug out of the ground in Africa, or someplace.  Then we melt it down, dig another hole, bury it again and pay people to stand around guarding it. It has no utility. Anyone watching from Mars would be scratching their head.”

Or, as Feldstein ends his piece, “… The dollar value of gold has nearly tripled since 2005. And gold is a liquid asset that provides diversification in a portfolio of stocks, bonds, and real estate. But gold is also a high-risk and highly volatile investment. Unlike common stock, bonds, and real estate, the value of gold does not reflect underlying earnings. Gold is a purely speculative investment. Over the next few years, it may fall to $500 an ounce or rise to $2,000 an ounce. There is no way to know which it will be. Caveat emptor.”

So far, Arends seems to be arguing that we’re headed for a gold bust, but the price may shoot up before it drops.  So, it might be a good bet (and I do mean bet) if you time the market right.  My advice?  Whatever you do, don’t put your jewelry into an envelope and send it to a company that advertises in the newspaper or buy coins advertised on late-night tv!