Investors want to know whether the Gold (NYSE:GLD) rally can continue. I caught up with John Jagerson and Wade Hansen, authors of the new book All About Investing in Gold, to ask some of the most frequently asked questions about investing in Gold now …
Eric McWhinnie: Is it too late to start investing in Gold now? If not, why?
John Jagerson and Wade Hansen: We approach gold (NYSE:GLD) investing strategies differently than many other authors/managers. We are not making the case that gold is a great investment in 2011 (although personally we think it looks pretty good) and will continue to rise indefinitely. What we wrote in the book was designed to help investors understand what moves the gold market, and how they can use those principles to time a new entry into gold (NYSE:GLD) in 2011, 2015, 2025, or whatever. Using a book to “time the market” is going to be pretty tough, and we wouldn’t attempt it.
Also, its important to understand that the book emphasizes the importance of gold as a component of a well-diversified portfolio not a portfolio unto itself. Long term traders interested in this subject are much less concerned with market-timing and whether its “too late” for gold in 2011. We spent a lot of time in the book discussing why gold is a benefit (regardless of timing) in a long term portfolio, and how it can improve overall performance significantly in the long run.
Finally, I think we should define the term “investing”. From our point of view, as primarily short term traders, investing means putting assets at risk in anticipation of a profit. That means we might be long gold (NYSE:GLD) today, but short in a month or two. Gold is an incredibly liquid asset and is ideal for shorter term traders looking for ways to profit from bullish and bearish moves. We spent a lot of time in the book on strategies that can be used to profit from a bear or bull market in gold as a short term trader.
The most direct answer to your question is – Yes, now is the right time to “invest” in gold. Will it continue to rise for the next 10 years? We don’t know, but we are much more confident that it can be used in a variety of trading strategies to produce profits over the next 10 years even if it doesn’t.
Eric: What are the major variables driving the price of Gold? How can investors monitor them?
John and Wade: Three key factors drive the price of gold on a short and long term basis:
1) Shifts in supply of the metal can create major price changes. We would suggest that when central banks slowed and then stopped selling gold in the early 2000’s it made a significant impact on price and was a major contributor to the subsequent rally in the gold market. Supply from the official sector (central banks, IMF, etc.) will always have a big impact on the metal. This factor is a little difficult to track because there isn’t much transparency. The best we can probably do here is to watch for longer term shifts in the disclosed holdings from the official sector. The IMF has been the most recent major seller, and they typically telegraph their intentions to the market well in advance of any sale.
2) Because we price gold in dollar terms in the U.S., the dollar will be a big factor as well. If the U.S. dollar loses value (NYSE:UDN) against a basket of major currencies we would expect gold to rise in price as well. This is convenient for non-FX traders who want to profit from or hedge a falling dollar, but aren’t sure how to do it. Buying a gold ETF (NYSE:GLD) or stock could be a great strategy in a weak dollar market. You can keep a minute by minute watch on the value of the dollar through the futures market, forex charts and quotes, or ETFs that follow the dollar like (NYSE:UUP) or (NYSE:FXE).
3) Fear and low interest rates are the best stimulus for gold (NYSE:GLD) prices. If interest rates are low at the same time that fear is elevated (the last 3 years are a good example of this condition) then gold is likely to rise in value. Interest rates are easy to track through bond funds and interest rate indexes, but fear is a little more nuanced. In the book we went into a lot more detail about quantifying investor-fear, and how you can use tools like the VIX (NYSE:VXX) to keep a close eye on that issue. Low interest rates means that gold doesn’t have to compete with bonds for yield-seeking investors, and a fearful market is prone to using gold as a store-of-value or shelter to protect pools of assets.
We would argue that these two conditions are currently co-morbid with each other right now and aren’t likely to ease off in the near term. As the credit crisis in Europe lingers and the chances of a muni-crisis in the U.S. and a currency crisis in China (NYSE:FXI) remaining high we expect to see gold act very defensively and continue to profit.
Eric: What will happen to Gold if Central Banks start tightening?
John and Wade: It depends. That is a terrible answer, but it is true. Lets assume that the ECB and the U.S. Fed start to tighten, but they do it slowly and economic growth remains low. We wouldn’t expect that situation to result in a big change for gold because alternatives would still be weak. If the central banks were forced to tighten at a rapid pace and without growth, we think that would be good for gold because it probably means there are still limited investment alternatives and inflation is in play. Finally, if monetary policy gets tighter and growth starts to accelerate we would expect gold to suffer significantly. Central banks tend to be “return-chasers” so in that environment they may also resume selling gold reserves, which would further exacerbate the problems for gold. In our opinion the third scenario is the least likely in the short term.
Consider the situation in China. The government there has been tightening monetary policy for some time, but gold sales continue to be very strong. The tightening has been slow, and inflation has remained high in China, which has helped keep gold an attractive investment.
John Jagerson and Wade Hansen are the authors of All About Investing in Gold (McGraw-Hill, 2011).
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