A question arises frequently by those looking to hold hard assets in a portfolio:

Should I buy commodities or gold for my asset allocation?

This question has been covered here before, but I’m going to give three short and sweet reasons why gold is superior to any commodity fund you can buy:

1) Gold is a commodity and is also a monetary metal. You can get the protection then of both. In 2008 when commodities crashed (losing 50% in value very quickly!), Gold posted 5% gains. When the banking system was in shambles, gold was viewed as a form of money independent of what overall commodity prices were doing.

2) I don’t think most people really understand how commodity futures funds work (I don’t and I admit it). Investors shouldn’t buy anything they don’t understand. Gold is simple.

3) Gold has a track record of responding very strongly to currency problems that no other asset possesses.

There’s much discussion in the news about Gold’s new price high (about $1300). The word “bubble” is getting tossed around a lot. There are a flood of articles (and advertisements) about buying gold and an equal flood about selling gold. What to do?

Talks about gold seem to devolve into market timing arguments. But for someone holding gold as part of their total asset allocation, such as the Permanent Portfolio, it should be treated like stocks or bonds with no market timing involved.

The only reason to be timing the market with gold is if you are treating it as a speculation. In this case it’s no different than relying on various indicators to sell out of all your stocks or sell out of all your bonds, etc. So use what you feel is best because they are all equally unreliable as market timing doesn’t work.

I can recall seeing these gold conversations when it hit $600 an ounce. I recall them when it hit $850 an ounce (matching the high in 1981). I can recall them when it hit $1000 an ounce. I can recall them when it hit $1100 an ounce. And of course I am seeing them all over as gold hovers near $1300 an ounce. The price of gold could fall at any time, but then again it could just keep going up responding to world events. We have no way of knowing these things.

If you own gold in your portfolio already then be sure you keep it rebalanced and use the profits to buy your laggards. If you don’t own it already, be sure you are doing so with a logical plan in place why you are doing it and not some knee jerk reaction to what you are seeing in the news.

—

This topic is being discussed on the forum.

One of Harry Browne’s pieces of advice was to hold some assets overseas. However, options for US Citizens in this regard are very limited and/or impossible in today’s world (segregated gold storage in your own name in a foreign bank).

Some have wondered why holding an account overseas has become much more difficult the past few years for American citizens. Two words: Red Tape. This article goes into the latest reason:

Toxic Citizens?

The U.S. government – under a new law incorporated in the Hiring Incentives to Restore Employment Act signed by President Barack Obama on 18 March 2010 – is demanding that international financial institutions reveal which of their clients are U.S. citizens with accounts of more than $50,000. Foreign banks are, in effect, being asked to act as the international enforcement arms of the Internal Revenue Service. Those banks that don’t comply will be subject to a 30% withholding tax on all payments made to them in the U.S. Many banks and wealth managers have decided it is far easier to politely show their U.S. clients the door.

The basic message here is that you can be fully compliant with all tax laws but the banks will still not want you as a customer. In essence, the US Govt. is putting up capital controls without doing it overtly. They are doing it with red tape and it is deliberate.

These regulations have nothing to do with “tax evasion” and have everything to do with controlling where US citizens hold their money. A wall is being built very quietly and you have to wonder how it will be used.

This topic is being tracked on the forum. Stop by if you want to discuss it:

Overseas Accounts

A while back I ran across a blog run by an employee of the Perth Mint in Western Australia. This blog presents solid analysis from a precious metal industry insider. He does a great job of cutting through the gold conspiracy theories that seem to abound:

Gold Chat

I’ve come across a lot of really bad information about gold through the years. This blog however is an oasis in the vast wasteland for those that want to learn more about the gold market. *

* The Gold FAQ is my own attempt to cut out the bad information as well.

From the not-as-witty-as-he-thinks department:

Will Nickel-Free Nickel Make a Dime’s Worth of Difference?

“Making coins from more cost-effective materials could save more than $100 million a year, which isn’t just pocket change,” said Dan Tangherlini, the Treasury Department’s chief financial officer.

That Dan Tangherlini. What a card! Is that the best the PR flaks at the Treasury Department could come up with?

Still, industrial porcelain, embedded with an identification chip, is seen as an outside possibility. A more likely candidate: an aluminum alloy, used by other countries for coins. But any switch is likely to be controversial. (emphasis added)

The aluminum alloy part is concerning enough, but not nearly as bad as an RFID chip inside the money. I analyzed RFID applications and vulnerabilities in the past as an information security researcher. My feeling afterwards is that there would be a big push for RFID in all money to remove the ability to have anonymity in cash transactions. It would first be put out into the public as an “anti-counterfeiting” measure. From there it could be stepped up easily to require banks to scan all money to check for “counterfeits.”

Banks could then refuse to accept money that couldn’t be RFID scanned as a risk control measure. This would then force stores to want to RFID scan money given to them so they are not left holding the bag. Finally, having money dispensed from banks and ATMs linked to the person who took the money out could be done. Why? Well, nobody would want to have non-RFID money because it could be counterfeit and the stores wouldn’t take it. Once this is done the circle of tracking the cash can be closed completely.

What then? No anonymous cash transactions could be accomplished. Links between cash could be made between people. Bills could be tracked from the bank to the ATM to the pocket of a person to a store and back to the bank. All RFID checked along the way. Every purchase could be tracked and, if necessary, a few quick keystrokes could disable the money in someone’s pocket by marking the RFID identifier as invalid in a central database.

Not plausible? No, it’s completely plausible.

The point of the metal in the coins is that it is a commodity value just as gold and silver are. The reason the nickel and penny are worth less is because the dollar is worth less. The markets are not fooled by this kind of rhetoric of saving money. As for RFID in the money? Yikes. I don’t want to consider the implications.

An interesting article considering the past two years I’ve heard pundits largely talking about how much gold banks were selling. The IMF announced big sales last year and the gold market didn’t budge. Other central banks snapped it right up at market prices:

Central Banks Stashing Away Gold at Brisk Pace

Central banks around the world added 425.4 metric tons of gold to their reserves last year, the biggest increase since 1964, according to the World Gold Council.

That represents a 1.4 percent gain to put their holdings at 30,116.9 tons in total. The increase was the first since 1988.

A 1.4 percent gain isn’t what I’d call Earth shattering. Yet, when I hear these central banks out pronouncing their faith in the US Dollar it makes me wonder if they really believe it themselves. They’ve got their frontman talking about the dollar being a great reserve currency, yet they’re wheeling gold bars out the back door into their vaults to diversify.

Actually that’s not bad advice. Maybe they’ve been listening to Harry Browne’s shows?

Is this actionable information? No. The Permanent Portfolio holds enough gold that I would just keep things as is. This is more of a piece of knowledge that confirms what many of us probably suspected already with respect to gold and central banks being large buyers.

Why do people freak out so much when you tell them you own some gold in your portfolio? It’s as if you had just told them you killed a dozen people before lunch. The hyper-ventilation you hear from some when you even mention this topic is just nutty. It usually starts with some juvenile comment involving tinfoil hats. Then they pull out some quote from an economist (usually one that loves inflation to solve all problems) about how useless gold is. They may even hit you with the ol’ “gold is not a form of wealth but just a shiny metal” lecture (ignoring the bulk of human history, and all major central banks, that disagree with them). Then they tell you how “risky” gold is when their own portfolio may be loaded to the hilt with junk bonds, emerging market debt or other complicated investment products. They must think the Nigerian stocks they hold in their Frontier Market fund are a sure thing (assuming they even know what’s in the funds they own).

Well, I own gold and I admit it. I feel comfortable owning gold in my portfolio. I sleep well at night knowing I own gold even though it could drop in value. I understand that in a balanced portfolio gold is a useful tool. I trust gold to protect me in high inflation more than indexed linked bonds (TIPS) ever will.

Gold has no interest or dividends. I admit these things and acknowledge that this is one area that makes gold different than stocks and bonds. However, this does not make gold useless for diversification.

Gold maintains real purchasing power over time and it’s really good at doing this. No other asset on this planet has such a long history. I don’t worry about politicians printing trillions of dollars of gold. This is because politicians can’t print gold. Gold can also be owned directly without any obligations attached to it. These are unique attributes for an asset class when used properly in a portfolio (and properly does not mean 100% gold).

While gold does not have the interest or dividends of stocks and bonds, it has other benefits that can work at certain times to protect a portfolio that does hold stocks and bonds. Gold for instance does very well under high inflation when stocks and bonds do not.

Gold has risks just as stocks and bonds have risks. I understand what these risks are and how they fit in a diversified portfolio. Yet, I do not rely only on gold in a portfolio. I also own stocks and bonds to drive returns when gold is performing poorly. In diversification there is safety which is why I own all these assets and don’t get religious about it. I accept gold’s quirks because I know when it comes time for it to perform it will do so better than all its contemporaries.

The empirical evidence says that owning some gold in a portfolio is not the death sentence academic literature would suggest. In fact, at certain times having gold can be a tremendous help. So, either reality is wrong or the academic theories are. Given a choice between the two, I’ll take reality. That reality is that all portfolios should hold some gold for diversification against stocks and bonds despite what critics state. That’s why I own gold.