Q&A: Why is Gold Increasing?

I received the following question today, and I thought that the question and my reply would be a good topic for a posting:

"Randall, I know you won't agree, but to me it looks like gold is the next bubble. It's value has increased 6 times faster than the SP500 (sic) over the last 5 years." - Jonathan 

(Note: $1,236.50 - Gold Price 5/14/10)

Jonathan, the price of gold is an inverse indicator of the strength of the currency that you will use to purchase it. Gold has skyrocketed of late, because countries are printing fiat currency, as if no day of balancing will ever come.

Let me put it to you this way: If you have an eight-slice pizza that is worth $8, and a case of Pepsi is worth $8, you could conceivably trade one for the other, right? It's an even exchange.

Now, let's say you cut that pizza into 16 slices, but you still claim that the pizza is worth $1 per slice, rather than $8 in total. Nobody in their right mind is going to let you eat half that pizza and give you the case of Pepsi in exchange for the other half, right?

Well, this is exactly how the USD and Gold interact. The government prints more bills, and tells you that they are still worth the same amount. The person selling Gold is on to the game, and makes you pay more dollars to buy the gold.

As long as countries continue to print fiat (counterfeit) money, with no value increase to justify the expansion in the supply of currency, gold and other raw commodities will continue to increase in value.

With all of the additional debt that the US is accumulating through increased spending (e.g. Bailouts, Health Care, Fraud), the only way it will ever be repaid is through the continual printing of new money to pay old debts.

This will cause a dramatic up-tick in inflation, as the costs of all goods will sky-rocket in order to adjust for the diminished value of the dollar. Interest rates will also increase as a result.

Gold is not an item subject to bubble. It has a fixed value. If Gold decreases in value, that is only because the USD has become stronger. Gold is an inflation hedge. It helps you to maintain the purchasing power you had on the day you purchased it.

If Gold increases in value, you still have the same purchasing power as when you started. If Gold decreases in value, you still have the same purchasing power as when you started.

By purchasing Gold, you are stating that you expect the value of the USD to decrease. By not purchasing, or selling, Gold, you are stating that you expect the value of the USD to increase.

Does it make more sense to you now? The hard part for most Americans is coming to the realization that the current administration is hell-bent on destroying our country from within.

----

Dear Readers:

You may have noticed a lack of frequency in my postings over the past year or so. I have been quite busy, and I have not made this blog a priority.

Hopefully, I will soon be able to start posting on a regular, even weekly, basis soon. In the meantime, I am working with a number of high-liquidity, high-return investment projects overseas.

If you have an interest in investing in projects with very high returns (5% monthly to 300% annually), please post a response to this blog. All responses are moderated, and your personal information will not be publicized.

Special Edition: Philippine Peso vs. Dollar Valuation

I posted this information in response to a question posted in Yahoo!Groups, "LivingInThePhilippines3." I thought that it would be appropriate to share here. Enjoy!

The peso and dollar should fluctuate within a narrow range for the rest of this year, at least through the time of the American election. The worst of the sub-prime mess is over now, but corrections continue in the real estate sector. Housing prices bottomed-out in many traditional markets in November, but other areas are still seeing fallout. The main reasons that real estate is still falling in certain areas, and will have a long climb back in others, is due to the high vacancy rates of homes (bank owned), tightly enforced requirements on borrowing (which are starting to ease), and a general credit crunch that is now shifting towards consumer borrowing. Average credit scores of Americans are dropping due to foreclosures, short sales, and Deeds in Lieu thereof, as well as people renegotiating their upside-down mortgages.

Higher interest rates, higher fuel prices, and an increase in unemployment are causing more credit card defaults as well, while banks are trying to raise interest rates into the stratosphere on credit cards (up to 30% or more)! Bankruptcies are also on the rise, and this trend will continue into the foreseeable future. Some banks will still incur multi-million or multi-billion dollar write downs (B of A/Countrywide $2B for renegotiations), and a couple of major bank mergers are on the horizon yet. All of this will eventually settle down, and we will have an American real estate economy again. This total recovery will take at least two years to get back to the price levels of 2006, but five to seven years to get back on track to long-term average year-on-year returns. Real estate is still a great investment if you are a buy-and-hold investor with enough liquidity and good enough credit to qualify for a mortgage.

The rental market prices are increasing, due to high numbers of recently-displaced families, so CAP rates in the multi-family housing sector remain low (gradual increases in CAP rate, but good increases in cash flow), in spite of the recent fall-out in values. Commercial credit is still surprisingly easy to attain for real estate or unsecured obligations.

In addition to the sub-prime mess, the peso has enjoyed certain benefits over the past couple of years. First, the economy has improved, so rather than the cheese heads in government taking all the money for themselves, they have chosen to try to balance the budget. This still doesn't help that poor family of 16 on the corner who can't afford rice, but the country looks better (on paper) to the rest of the world.

The improved credit rates achieved by the Philippine government have allowed fewer pesos to go farther with regard to reducing debt. The BSP's (Bankgo Sentral Philippines - Central Bank of the Philippines) policy of hoarding dollars has created an effective, although limited, hedge against fluctuations, but has put the country in the position of having to reverse itself in order to reduce inflation. In other words, they over-bought dollars, and inflation is already starting to affect the average Filipino. Over the past two years, only we (who get paid in dollars) have noticed the double-digit inflation rate, as peso-denominated prices didn't change, but our purchasing power dropped like a rock!

The Federal Reserve Boards' actions in keeping interest rates low (2.00% as of today - Don't expect it to fall any farther), as a hedge against both inflation and a total meltdown in financial markets, has fueled an exodus from investments in the dollar, as higher interest rates are to be found elsewhere. Just look in the newspaper at the difference in interest rates offered by banks for the dollar vs. the peso. European banks give higher rates for Euros as well. If the demand for dollars was higher (usually meaning a lower trade deficit and/or more foreign investment streaming into the country), interest rates would have to rise, and the currency would do the same. (Side Note: Local banks have now adjusted CD rates on peso and dollar accounts to about the same rate, whereas the peso paid much more for the past few years This is an indication that the dollar and peso are expected to hold steady for the next year.)

If not for the sub-prime mess, we probably would have seen the dollar recover to at least 45:1 by now, with a target of 50:1 possible within the next 12-18 months. As it stands, 42:1 or 43:1 is the best it is likely to get by the year-end, unless some major breakthrough happens in the world. Unfortunately, big news is usually negative, so don't hold your breath for this one. The good news is that the dollar is unlikely to fall any lower against the peso, as Malacanang is not going to be able to balance the budget this year. Rising gas prices, a worldwide food shortage, and tightening of financial markets have served to rein in the currency exchange markets, and reduce volatility. In English, this means the exchange markets should be pretty stable the rest of the year, and trade in a narrow range.

Barring any terrorist attacks on US soil, the nuking of any rogue state, global warming putting us under water, or the Lord returning to take over, the exchange rate should be within 41:1 to 43:1 the rest of the year. In sum, a peso:dollar rate of worse than 40:1 is highly unlikely, as is 45:1, in the next six months. We could get to 45:1 by this time next year, if the world economy improves and fuel prices drop (they actually should), but don't expect to see a ratio of 50:1 or better anytime soon (perhaps never).

If you are looking for ways to increase the total return to your portfolio without taking on aggressive risk, please contact me regarding solid investment opportunities in the Philippines.

Received this the other day from a client. (Thank you, Samantha!) I think you might enjoy it:

I had a bunch of Canadian dollars I needed to exchange, so I went to the currency exchange window at the local bank. Just one lady in front of me, an Asian lady who was trying to exchange yen for dollars and she was a little irritated.

She asked the teller, "Why it change? Yesterday, I get two hunat dolla fo yen. Today I get hunat eighty? Why it change?"

The teller shrugged his shoulders and said, "Fluctuations". The Asian lady said, "Fluc you white people, too"

Investing: Dollar Cost Averaging

Happy New Week!

Many people often ask me if I have any stock tips. Usually, they hope for some kind of inside information, as if I had a clue! My basic recommendation is that if you have less than $100,000 liquid, investible cash, don't worry about buying ANY individual stocks. Stick to a mutual fund with an above-average management team. The cost benefits and professional management outweigh the risk involved in trying to make a killing on an inside tip. We will talk about Mutual Funds in more detail in another post, but today I want to talk about a way to maximize returns through systematic investing. We are talking about Dollar Cost Averaging.

Dollar Cost Averaging (DCA) simply means that we will invest a fixed amount of money, on a regular basis, without regard to market conditions. In an unpredictable market, DCA helps to minimize market swings, removes some of the investment risk, and allows for continuous market investment, regardless of market conditions.

Two methods of Dollar Cost Averaging are prominent. Lump Sum Allocation and Regular Contributions.

If you have a lump sum of money to invest, whether from an inheritance, lawsuit proceeds, or transfer from another investment (i.e. house sale), it is probably not a good idea to just throw all of this money into the market at once. If you pick a day that the market has peaked, you could see your investment diminish quickly in the short-term. Of course, you might get lucky, and pick the low point of the market, but I've never been that lucky.

With a Lump Sum, you would place the money into an investment account, but you would allocate that money for investment over a period of time. Let's say you wanted to allocate over one year. You would place the bulk of the money into a low-risk fund (i.e. Money Market, Bond Fund), and allocate the rest of it to your other investments (i.e. Diversified Mutual Fund). Each month, or even weekly if allowed, you would transfer a portion (e.g. 1/12, 1/52, etc.) from the low-risk investment to the diversified portfolio. A regular contribution would mean that you are investing money on a fixed schedule, such as weekly or monthly.

The goal of either method is simple. Each time you transfer or make an investment, you buy the maximum number of shares or investment units that you can for the amount invested. This ensures that you buy less shares when the price is high, and more shares when the price is low. Let's break this down with an example. Let's assume that you invest $200 per month for six months as follows:

As you can see, the average share price during the year was $11.72, however your average cost per share is only $10.98. Now, it doesn't always work this way, but more often than not, you will have a lower average cost per share, just by virtue of buying less shares at a high price and more shares at a low price.

This can be illustrated in other ways as well. Let's say that you own 2,000 shares of an issue that is worth $20 per share on January 1. That is $40,000 in your portfolio. If the market drops to $12.50 per share on February 15, you have lost almost 40% of your holdings in one fell swoop. Your first instinct would probably be to sell. That is almost always the wrong choice. You would just lock-in your loss at that point.

If you have faith in the company, your better decision would be to continue buying shares on the way back up. If you had been investing $500 per month previously, you should continue to invest the same amount. If you bought 40 shares at $12.50 the first month, and then continued to buy each month, you would be back to even, on a price-per-share basis, much earlier than if you just let your investment sit, and waited for the market. By the time the market fully recovered to $20 per share, you would be showing a gain, due to the many shares that you purchased when the price was down.

The nicest feature of Dollar Cost Averaging is the fact that you never have to worry about trying to time the market. Many people sit on the sidelines waiting for a price to fall, only to miss the opportunity to ride the price up. With Dollar Cost Averaging, you invest systematically, and you buy more shares at lower prices, which will make your average price per share lower.

I welcome your questions and comments. Invest regularly and wisely. Good luck!