Purchasing Precious Metals (Hope for the Best…Plan for the Worst)

by FI Fighter on May 27, 2015

in Precious Metals

2010-American-Silver-Eagle-Bullion-Coin

It feels like 2007 all over again. Everywhere I look, I see euphoria in the air. There are probably more investors entering the fray now than perhaps ever before. The real estate market (at least locally in the Bay Area) is booming, and stocks have never been higher… When the markets are ONLY moving in one direction (UP, UP, and UP), with enough time, eventually, you’re going to witness everyone (who were previously standing on the sidelines) start wanting to get in the game.

And that absolutely terrifies me.

The level of greed that exists today is unprecedented… At least, I have never witnessed anything quite like it before. I know that I’ve been emphasizing on the topic of “Fear and Greed” quite a bit lately, but as it pertains to finances, it’s just about the most important topic on my mind these days.

So, we’ll just refer to May as “Fearmongering Month” on this blog. 😉

Quite recently, I’ve made a lot of sudden moves… One minute, I was investing in dividend growth stocks and amassing a portfolio in excess of $100,000. The next hour, I’m changing my mind, and deciding to liquidate a huge portion (85%) of my holdings, and switching over to Dividend Growth Trading

For readers (and myself), it’s probably been quite clear that I’ve reached a crossroads of sorts… On one hand, of course I want this “economic boom” to continue, as I have invested a large amount of capital over these last few years, and who doesn’t want to see their assets performing? But on the other hand, I know that I also must play devil’s advocate, because what goes up ALWAYS comes crashing back down. To be ill prepared would be just about the stupidest thing that I could do at this point… Who wants to amass great fortune only to see their wealth suddenly come crumbling down like a house of cards?

I can’t predict the future. I can’t time the markets. And I can’t outsmart Wall Street… But I can prepare accordingly and do everything that I possibly can to help protect my wealth and life’s work. I never want to be blindsided by something that I could have prevented by simply paying more attention and considering all possible scenarios.

If you don’t have an exit strategy in place, well, you better put one together!

Current State of Affairs

On the surface, the dollar is stronger than ever. One doesn’t have to even look very far to psychologically believe that. Just login to your 401k, or brokerage account, and check out how your stocks are doing; I bet all that money “in the green” is going to make you feel pretty good… and smart.

If you’re an investor, chances are you’re well versed at reading a balance sheet. Stock investors love to look at things like debt and liabilities, free cash flow, etc.

Well, if the dollar is so strong and our economy doing so well, our country’s finances must be a tip-top shape as well, right?

Let’s see what we got! I got these graphs from a wonderful Jim Rickards interview video:

Screen Shot 2015-05-26 at 7.32.45 AM

Screen Shot 2015-05-26 at 7.33.43 AM

If you won’t invest in a company because their balance sheet is horrid and they owe too much in liabilities, would you seriously invest in Uncle Sam?

From Wikipedia:

US Debt Ceiling Visualized: Stacked in $100 dollar bills @ $16.394 Trillion Dollars. United States owes a lot of money. As of 2012, US debt is larger than the size of the economy. The debt ceiling is currently set at $16.394 Trillion and approaching rapidly.

That’s rather disheartening… Thanks to QE, QE2, QE3, QE Infinity… the Fed just keeps pumping in more dollars into the system and growing our debt to unsustainable proportions… Over $16 Trillon in debt… Can you even process such a figure?

$16,000,000,000,000

That’s a lot of zeros…

The Gold Standard

How does this even begin to happen? Well, before President Nixon took the U.S. off The Gold Standard in 1971, our policies used to be:

The international monetary system after World War II was dubbed the Bretton Woods system after the meeting of forty-four countries in Bretton Woods, New Hampshire, in 1944. The countries agreed to keep their currencies fixed (but adjustable in exceptional situations) to the dollar, and the dollar was fixed to gold. Since 1958, when the Bretton Woods system became operational, countries settled their international balances in dollars, and US dollars were convertible to gold at a fixed exchange rate of $35 an ounce. The United States had the responsibility of keeping the dollar price of gold fixed and had to adjust the supply of dollars to maintain confidence in future gold convertibility.

That all ended in 1971. Although the Bretton Woods system was not a TRUE Gold Standard (the government didn’t necessarily maintain gold reserves in exact proportion to circulating money), your dollars were more or less tied to something tangible of fixed value. These days, you can no longer bring your Federal Reserve Notes to a bank and exchange them for some gold (darnit)…

Of course, President Nixon had a reason for doing what he did. Historically, with a Gold Standard monetary policy in place, you might get the following:

Even if the price of gold is fixed, demand for it continues to wax and wane. People tend to hoard gold during periods of economic uncertainty, and this causes prices to fall (deflation). “When you take money out of the system by hoarding gold, that makes the available money able to support transactions and economic activity go down,” Gavin explained. Less money in circulation means prices fall and unemployment rises, and the government must adjust interest rates in response to try to stimulate economic activity.

But the key takeaway is this — The dollar, as it exists today, is no longer backed by gold anymore.

It isn’t money.

It’s fiat currency.

Fiat Currency

Fiat currency is what we call our “money” today. Our precious U.S. dollars.

Only, our currency isn’t really even money at all…

It’s paper.

Paper that the Fed controls… Paper that the Fed can conjure into existence out of thin air. The Fed is brilliant when it comes to magic tricks; they can do just about anything their minds can come up with.

And in case you didn’t know, the Fed, or “Federal” Reserve… is NOT owned and operated by the U.S. government, but instead by the richest and most powerful banks in the world (too big to fail or to put behind bars).

A popular saying goes: “The Fed is as much federal as Federal Express (FEDEX)

The only value that our fiat dollars have is the confidence that is backing it up. And if that confidence starts to wane (Russia and China are leading the charge), or erode away completely, that will likely spell the end of everything as we know it… Should that ever happen, our paper dollars will be worth less than blank pieces of paper; at least with a blank sheet, you can use it to write down your shopping list (I’m being dramatic of course, but you get the point)…

And that seems to be the path that we are heading towards. The world leaders have all lost faith in our paper because the Fed is a possessed madman who won’t give his printing press a break! Russia and China have already entered into partnership deals to break away from the dollar… and perhaps replace it as the world’s reserve currency someday in the near future.

Should the U.S. dollar ever lose its place as the reserve currency of the world, look out below!!

Real Money

So, if our fiat dollars aren’t really money at all, and are only being propped up by the frail confidence that still exists… what is REAL money?

By definition, money is a store of value.

When you own REAL money, it does not degrade over time and buy you less things in the future. Unlike your dollar bills which have lost 96% of their purchasing power, real money preserves your wealth.

Throughout history, the defacto standard of money has always been gold.

Gold works tremendously well as real money because it provides the following:

  • Portable and easy to store.
  • Durable. Gold is the most non-reactive of all metals. It will not rust, tarnish, corrode, or react with oxygen.
  • Fixed supply. Gold cannot be conjured into existence. It takes physical labor and capital expenditure to extract it from the earth.
  • Rare. There is simply not enough of this stuff that exists in the earth. Therefore it is valuable.

Gold is REAL money. History has shown that gold has always been a valuable commodity and prized by human beings. When Zimbabwe fell victim to hyperinflation and its economy collapsed, its fiat currency was rendered useless.

Have you ever seen a bill this large?

Zimbabwe_$100_trillion_2009_Obverse

Regardless, when fiat currency fails, people always resort back to gold. They who have the gold, survive…

The value of gold:

Now I’m not trying to be “doom and gloom”, but if things hit the fan and our entire economic system collapses, gold will be at the heart (front and center) of the post-apocalyptic reboot.

For bartering and trading, nothing beats gold.

FYI, there is more “doom and gloom” to follow, so maybe indulge yourself with this entertaining (but educational) cartoon video first:

Manipulation of the Markets

As mentioned above, we all know that the top 0.01% (the country’s largest banks and most affluent) are the ones who are really calling the shots in this country. Further, you don’t have to work in the government or on Wall Street to realize just how much corruption exists in our current system today.

The wealthy are manipulating the markets on a daily basis. People make billions of dollars rigging the game… Just look around you. There is no Middle Class that exists in our society anymore. On one end of the spectrum, you have the affluent who control the vast majority of wealth. On the other end, you have the rest of us.

Sheeple.

People that sadly get slaughtered along the way…

When Ben Bernanke was trying to con the public into believing in the mystical powers of QE, there was a lot of funny business going on in the commodities markets. As we know, mass hysteria by the people can lead to sudden attacks on the trading markets, and we can’t have that if we want any semblance of peace… A massive exodus from the equities markets would have been devastating at this most sensitive time.

To inspire confidence in the system and our almighty dollar, the Fed turns to its most trusted (and secret) buddies to manipulate the markets when desperate times arrive. Back in 2011, an independent bullion trader by the name of Andrew Maguire suspected such activity and accurately predicted a forthcoming “glitch” in the Matrix.

Tune in at the 25:45 mark for more details:

From Wikipedia:

Maguire described a sudden and massive wave of selling of up to 45,000 contracts which drove the price of silver down. “Investors big and small try to cut their losses and sell as the price drops.” People who had invested heavily lost everything. Then the mysterious seller just as suddenly started buying the electronic silver again. The price of silver soared as did profits for the seller. 45,000 contracts with a profit of $80,000 per contract totaled $3,600,000,000 for the mystery seller.[6]

According to Maguire, the precious metals markets trade “pretty much in tandem”, but because the silver market is so much smaller, it is harder to disguise one’s activities and therefore easier to figure out who is behind a manipulative event.[7] After Bear Stearns and their short silver positions were acquired by JPMorgan, manipulative events in the silver market became more frequent. Maguire decided to inform the CFTC. He contacted commissioner Bart Chilton, who had Eliud Ramirez, a senior investigator from the CFTC’s enforcement division, get in touch with Maguire.[7][8] Maguire explained the manipulations in great detail, both over the phone in an hour-long interview and afterward, in a series of e-mails with screen shots.[7]

Maguire then predicted a manipulative event in the silver market and gave detailed information in an e-mail to the CFTC about what to expect, sending it on February 3, 2010, two days prior to the event. The event transpired exactly as Maguire predicted.[9][10] While the event was taking place, Maguire sent e-mails in real time, pointing out certain details because the CFTC enforcement seemed not to know what to look for or how to interpret the data.[7]

GATA chairman Bill Murphy gave a detailed account of Maguire’s allegations to the Commodity Futures Trading Commission (CFTC), stating how “JP Morgan Chase signals to the market its intention to take down the precious metals. Traders recognize these signals and make money shorting the metals alongside JPMorgan. [He] explained how there are routine market manipulations at the time of option expiry, non-farm payroll data releases, and COMEX contract rollover, as well as the ad hocevents.”[11]

As of present day, no one has been arrested and the investigation is still on-going… Go figure.

Here’s an entertaining video that is short, to the point, and perhaps a “less dry” way of exposing the manipulation (from 2010-2011) that goes on in the commodities markets:

So, one minute you have JP Morgan selling naked shorts on silver to suppress the price (much to the delight of Ben Bernanke), and the next, you read something like this — In 2015, the same JP Morgan is now stockpiling 55 million ounces of the physical silver.

What’s going on here?

As of today’s prices, gold is trading for about $1,200/oz and silver is at $17/oz. The Gold-to-Silver ratio is about 70-1.

Historically, let’s see how that holds up:

Looking back in history to 1687 (the oldest records we have), this ratio has swayed between 14 and 100, but was stable at around 16 for centuries. According to the U.S. Geological Survey, silver is about 17.6 times more abundant in the earth’s crust than gold, which provides some rationale for the long-term average of about 16.

16-1 ratio. Currently, the ratio is at 70-1… Silver sounds like it’s still being manipulated and selling at a screaming discount TODAY!

If that weren’t enough, due to the extremely strong consumption of silver through industrial uses, silver is actually more rare than gold today. In other words, there’s less of the stuff floating around. Whereas gold is being nothing more than hoarded (mostly), silver is being readily depleted everyday.

From GoldSilver:

Screen Shot 2015-05-27 at 10.56.23 AM

Who knows what the implications will be in the future… But unlike with fiat currency, I know for certain that the odds of gold and silver going to ZERO are in fact ZERO!

Here are today’s prices for gold and silver:

Screen Shot 2015-05-27 at 11.37.23 AM

The chart of gold over the last 10 years:

Screen Shot 2015-05-27 at 11.36.24 AM

For starters, gold and silver have been in a bear market over the last few years (coincidentally, while stocks have been ON FIRE!). Whether or not this is due to market manipulation matters not, as prices are clearly affordable TODAY.

While the sheeple and everyone and their mom, dad, uncle, dog, cat, etc. is rushing in to buy equities and real estate right now, there exists a market that is flying well under the radar… You know what they say about “buying low and selling high”…

But that’s not the point of this article! At this stage of the game, an investor should only be looking at precious metals as insurance (hedging) to preserve wealth.

If our fiat currency is in fact one day rendered to nothing more than toilet paper, we’ll be looking back and screaming about how much a bargain gold was at $1,200/oz and silver at $17/oz!!!

The Shift to Precious Metals

Something is brewing… JP Morgan is loading up on physical silver. China and Russia are furiously purchasing up gold.

Buying surreptitiously allows Beijing to buy bullion at bargain prices; if the world knew how much gold China was really amassing, a run on gold the likes of which the globe has never seen would likely ensue. “We believe China is controlling the gold price because it is buying in such a way so as not to push prices up.” That’s the opinion of respected precious-metals analyst Julian Phillips of The Gold Forecaster, along with a host of other informed sources. (source)

Russia’s increase is the most dramatic, according to the recent report from the IMF. The Russian central bank has almost doubled its gold holdings within the last 5 years to 1,094.8 tonnes in June of this year. China’s Central Bank followed with an increase of 75% from its holdings in 2009.

Sounds like we’ve got manipulation all across the board in the commodities markets. Since I’m not an insider, I have absolutely no way of knowing what’s really going on behind the scenes… But to me, one thing is clear — All the big players are loading up on precious metals NOW!

The superpowers that be are always 10 steps ahead of the rest of us… Precious metals get a bad rap in the Western world because everyone is conditioned to believe in the institutions and fiat currency. But as we know, fiat currency isn’t money… it’s debt. We are a debt-addicted society that solves our problems by creating more and more debt…

Let’s not be so arrogant and quickly dismiss these precious metals as archaic. Gold and silver have withstood the test of time and have always been highly treasured and revered, especially by those in power. Even today, gold and silver are worshipped in the East.

All the claims that precious metals hold no value because they can’t multiply and issue you a quarterly dividend are indeed misguided. Precious metals have never been about generating offense, but about preserving wealth.

If you have any doubt at all in the future vitality of fiat currency, perhaps it wouldn’t be a bad idea to at least diversify and hedge by purchasing some precious metals before it’s too late…

At least I like to believe, better a year early than a day too late. Because if the markets do indeed plummet, precious metals will without a doubt be sought after (good luck trying to buy some then!) and take off like a shining star.

In particular, gold is most defensive, and burns brightest when:

  • Blood is in the streets and everyone is exiting out of equities.
  • There is no trust in the government or government backed fiat currencies.
  • Hyperinflation environment that can ensue when fiat currency becomes “worthless”.

I’m buying gold and silver now, while supplies last…

Buying Precious Metals

There are many ways to “purchase” precious metals, but if you are doing so as a hedge towards a very possible economic collapse in the future, you ONLY want to buy and hold the physical.

Sure, you could buy ETFs such as SPDR Gold Trust (ETF) (GLD) or iShares Silver Trust (ETF) (SLV), but at a time of desperate need, do you really want to be waiting in line (with everyone else), hoping and praying that your paper certificate that entitles you to redemption of the REAL stuff will actually materialize?

If you already have limited faith in the current system, why would you take on the risk of holding even more paper? And who even really knows how much physical supply these ETFs even have on hand… My guess is that any supply is going to the big banks first and foremost at a time of crisis.

Don’t take that risk… don’t buy ETFs. If you’re going to be buying precious metals, you ONLY want to own the physical goods.

My Gameplan

I realize that the outlook of this article is rather sad and depressing… By no means am I trying to elicit any fears and doubts with readers; just like with anything else, you must ultimately do your own research and form your own conclusions.

Nothing that I have presented should be misinterpreted as “a calamity of epic proportions is guaranteed to happen”. In general, I’m an optimistic guy and I like to stay positive. 🙂 But as I’ve mentioned many times this month (in numerous articles), it does me absolutely no good to live in fantasyland and just assume that things will always work out splendidly.

I try to be a realist as much as possible. And right now, I simply know this much:

  • I am heavily invested in the markets (real estate, stocks, etc.). If the markets keep booming, I only stand to profit. Even if I continue to do NOTHING and never invest another $0.01 again. I will be more than OK!
  • If the market does correct, or worst-case CRASH, then I could very well lose EVERYTHING. If I don’t take the proper precautions, I’m putting my entire portfolio at risk.

I believe that there is a misconceived notion that people who purchase precious metals do so because they are looking to make it rich; that’s completely false. People acquire precious metals because they want to preserve and store the value of their money (the whole freekin’ point of money in the first place!). Today, the dollar is worth 96% less than it was worth in 1913. The same does not apply to gold or silver.

Ron Paul makes some great points as to why we need to hold money, not fiat currency:

Makes sense to me. As such, I’ve been on a mission to reconstruct my portfolio so that I can protect from the downside as much as possible.

In general, most advocates recommend a person hold between 5-10% of their wealth in precious metals. Just like with stocks, real estate, etc., there’s no right or wrong answer. Do what you think is best for your own situation!

All I know is that I was previously holding 0% of my net worth in precious metals… That’s going to have to change!

Who Really Knows?

No one knows what will ultimately happen… Some people predict deflation. Some say inflation. Some say first deflation followed by hyperinflation. Others believe that the Fed actually knows what they are doing and will somehow find a way to navigate us through this mess (wishful thinking but I like the optimism!).

I don’t have much faith in Uncle Sam right now, but I sincerely hope that I am wrong for underestimating him!

When it comes to building wealth, preserving wealth, and finance in general, it doesn’t matter if your opinions and viewpoints are right or wrong (the market will do what it needs to do). Check your ego at the door. It’s not about being the smartest and the brightest person.

I couldn’t care any less about that nonsense!

I’m interested in learning and not being ignorant… Just because I’ve been buying up a lot of real estate in the past, it does me no good to just keep on doing the same thing over and over again (assuming that what I’ve done before will always keep working)… Not when I know how overpriced and insane the market is at this time! Like I’ve said before, I’m not gifted enough to time the market… but I would be a damn fool if I didn’t pay attention to at least what’s going on in the world. And right now, I think that I’ve got an overwhelming amount of evidence to at least warn me to tread carefully from this point moving forward.

Again, I hope for the best, but need to plan for the worst.

Greed is insidious and knows no bounds! I’ve been seduced before in the past, and am doing everything in my power now to tame it. By now, I should know well enough that when times are euphoric, it’s time to panic!

The U.S. has got a very serious problem on its hands. Who knows if we’ll be able to overcome these challenges without having to reboot the entire economic system…

Of course, I hope this wonderful country keeps doing well and keeps prospering! But that doesn’t mean I should turn a blind eye and not take proper precautions. If I’m well prepared, at worse, nothing bad will happen and I’ll just end up owning a lot of physical coins! 😉

Things are going to get very interesting in the near future. In the meantime, I’m just about done with investing. I’m going to buy some precious metals, instead.

  • If things keep going Up, I win.
  • If things come crashing down, I want to be as best prepared as possible.

 

Diversifying into precious metals is a start.

 

Fight On!

{ 29 comments… read them below or add one }

1 Dofu May 27, 2015 at 4:17 pm

Interesting analysis as I’m thinking the same as to how best to invest and preserve my wealth today. Though with your strong real estate portfolio I believe your wealth is more than protected and you can essentially repay your mortgage debt balance with “worthless dollars” if your doomsday scenario plays out. I think regarding gold, I agree more with Warren Buffet that holding gold means spending to protect it while it doesn’t create any real additional value vs. buying great businesses that will continue to make you more wealth whether it’s in USD or the new currency type that takes over. Something to think about. 🙂

Reply

2 FI Fighter May 27, 2015 at 4:42 pm

Dofu,

Yes, definitely, putting your dollars into gold is about preserving your purchasing power, not trying to build wealth.

Gold is perhaps the best defense there is, but right now silver looks even better because of its scarcity and mispricing relative to historic valuations to gold. Further, in a doomsday scenario, silver would come in more handy as a currency for trade… Odds are that you’ll have a ton more silver than gold at that time and compared to 99% of others, whatever you’ve got will be considered substantial. 1 oz of silver, or even junk silver should easily help you procure goods when everybody else is surviving off of scraps…

Warren Buffett gets quoted a lot but I believe a lot of the things he says and does are not applicable to the rest of the world. Dear Warren could just as easily stuff his fortune into a standard savings account and earn more in interest in 1 day than we earn in income in a lifetime…

With that said, even Mr. Buffett has been conservative as of late and is now sitting on more cash that perhaps ever before (you can google this). His latest purchase of Burlington Northern Santa Fe is an investment into a HARD asset that will always be needed, in good times or in bad…

But again, his perspective is entirely different from you and me. He owns the company… We would simply be smalltime shareholders of any stocks we own. And if people are scared, the equity markets will sell off mercilessly… The computers will probably short-circuit with the amount of sell orders being executed… Depending on how much cash or other assets you have in reserve, this may or may not be catastrophic to your net worth and overall portfolio.

In any event, having an emergency plan and exit strategy is always something worth thinking about.

All the best!

Reply

3 Dofu May 28, 2015 at 5:40 am

Thanks for the long reply. I guess my point is that you have more than enough “hard assets” via your large real estate portfolio to not have to feel insecure about protecting your wealth via buying and holding more precious metals. Point is if US Dollar goes the way of the Zimbabwe dollar (highly unlikely), your real estate holdings will still be worth what they are relative to the new value of the fiat currency.

I would also point out that China and Russia selling USD and buying commodities is similar to your argument that what they are doing (like Buffet) probably doesn’t apply nor make sense to follow, for us small individual investors. They have FAR more exposure than we do to the USD. They are smart enough to realize the US is printing money and repaying their debt with less valuable printed dollars. It makes far more sense for them to diversify and use their USDs to buy hard assets given the astronomical exposure they have to the USD.

Also for real doomsday scenario, silver coins may be great for bartering and trading, but i’m not sure it’s going to provide us the expected protection you think it will. Weapons, ammo, food storage, a plan for your family and loved ones like what “Doomsday Preppers” do and practice will be far more valuable.

Reply

4 FI Fighter May 28, 2015 at 6:52 am

Dofu,

Agreed, The U.S is too strong and it’s highly doubtful the dollar will go the way of the Zimbabwe dollar… But again, the point of the article was to consider the “worst case” scenario.

Also, in the event of a real “doomsday”, yes most definitely one needs to focus most on: shelter, weapons, ammo, food storage, etc first and foremost. I didn’t touch on any of those items, but assuming we get over the initial mass hysteria and normalcy resumes, then silver/gold would be the natural way to go as it pertains to initiating commerce. I really don’t believe the dollar will plummet all the way down to zero, but nothing is for certain either.

Take care!

Reply

5 Income Surfer May 27, 2015 at 4:58 pm

One way to look at it, is that those hard assets (like precious metals, real estate, commodities) are a form of alternate currency. An insurance policy against bad times. I own a few such things, and am glad to have them.
-Bryan

Reply

6 FI Fighter May 28, 2015 at 6:54 am

Bryan,

Yes, that’s a good way to look at it. It’s just another way to diversify and protect the overall portfolio which is something as investors, we are always trying to do.

All the best!

Reply

7 Roadmap2Retire May 27, 2015 at 7:06 pm

Interesting post, FI. I think every investor should own some gold in the portfolio or other forms of hard assets. I own some gold mining stock – which has been a complete dog, but when things go south, Im sure ppl will rush to gold.

Interesting to see your note that the Fed is insolvent. I was just listening to this on the radio this morning – and was thinking of reading up on it. The interviewee was talking about how some companies are a lot more stable, with great credit ratings and have less CDS than some of the sovereign nations. I need to read up more on it though.

Thanks for sharing. Best wishes
R2R

Reply

8 FI Fighter May 28, 2015 at 6:55 am

R2R,

Yes, I also think that hard assets should make up some portion of an overall diversified portfolio. They say that diversification is “for the ignorant” and unnecessary if you know what you are doing….

I don’t know what I’m doing and I don’t know what the Fed and world powers are doing either… So I need diversification! 😉

Similar to you, I’ve got a lot more reading and research to do as well.

All the best!

Reply

9 Dividend Beginner May 27, 2015 at 10:13 pm

Hi FIF,

This was a fantastic read. I’ve been pulled into this exact conversation a few times with a friend in the past couple months. Reading this cleared up a ton for me. I’m glad you even addressed whether one should purchase physical metals or ETFs.

I had just recently purchased a Canadian Gold Mining company, Goldcorp Inc (TSE: G) which hasn’t been doing so hot for years now. Bought it primarily for the dividend and hedge on inflation in stock form, but you opened my eyes a bit to the physical side.

I learned a lot. This was a very informative post and those are always good.

Best regards,
DB

Reply

10 FI Fighter May 28, 2015 at 6:59 am

DB,

Glad you enjoyed the article! As a whole I have heard that mining stocks haven’t been doing so well as of late… Should the price of precious metals take off, I can’t say I know enough about the industry to know whether or not the same correlation would apply to the mining stocks…

In general, my own prefer would be just to own the precious metals themselves since the margins of operating the mining companies aren’t exactly the greatest… So far I’ve come across mixed reactions and think it’s just a whole lot easier to just own physical and diversify away from paper… If you own a lot of stocks, you have more than enough paper.

Take care!

Reply

11 The Dude May 27, 2015 at 10:56 pm

Some thoughts:

1) A reasonable amount of inflation is a feature, not a bug
2) Why are you concerned about the national debt?
3) There will not be hyperinflation any time soon. If we were at risk of inflation, why would the 10 year treasury be at 2%? A lot of people think that increasing the money supply = inflation. Don’t listen to these people as they likely failed introductory macroeconomics. What were the Austrian School dudes predicting in 2009? Were they right? It is a lesson to go back to the basics to learn and understand the components of inflation
4) The strong dollar is currently a drag on our economy, not the other way around. Please reference every earning call for q1. Currency headwinds was a more than popular theme
5) Do you really think the only value the fiat currency has is the confidence backing it up? Do you think a share of stock is just a piece of paper with no value?
6) Gold is not real money. Seriously it is not. It is a mineral and a component of an asset class.
7) There is not currently a serious contender for the replacement of the US dollar for the world reserve currency. There will not be for quite some time. If you do not understand why, you need to spend more time learning about macro. What major trade imbalance exists and what part does this play? Why is oil prices in dollars?
8) Look at the gold chart and repeat several times, “I am thankful we no longer on the gold standard”. If currency headwinds are not ideal, this would have caused currency mega tornadoes! While you’re looking at the graph, pay attention to 2008-2009 and ask yourself why the value of gold didn’t go up during this time.
9) If there is a global financial meltdown (not going to happen) then having precious metals will be the least of your worries. Also, unless a large portion of people have gold and silver, what will you use for people who don’t have gold or silver? What if they only have livestock to trade? Then why not stock up on livestock futures as well?
10) Why is Apple making gold iPhones and laptops? Why did the MGM install a golden lion at the entrance? Seemingly unrelated questions, but they may provide some insight into your questions on gold and China.

You’re losing discipline and your blog is starting to read less like and investor blog and more like a trader/speculator blog.

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12 FI Fighter May 28, 2015 at 7:22 am

The Dude,

1) Up to this point, the American public has not witnessed this inflation yet… It’s just sitting in the banks’ books right now.

2) I think we should all be concerned about the national debt. It impacts all of us. A default has never happened, but we can’t always just assume that things will work out ok… especially not when we look at the debt and realize how much it really is spinning out of control. It’s starting to look unsustainable.

3) Ultimately, we all have to do our own research and draw our own conclusions. I’m not an economist, politician, and I don’t work on Wall Street. I’m heard various arguments and am considering all possibilities. Inflation, Deflation (which is what we are most concerned with RIGHT NOW), and hyperinflation…

4) Many people think that the dollar is indeed “strong” today. In regards to tomorrow, we’ll see..

5) To a large degree, yes. If you are playing with a house of cards, it will only be a matter of time before the whole thing collapses. Many who are much smarter and more well versed than me believe the Fed really doesn’t know what they are doing… I’m not saying stocks aren’t priced based off of real earnings and being properly valued… But fear is more deadly than greed. Greed takes the stairs up to the top floor… Fear takes the elevator straight down. If the dollar falls, so will stocks, real estate, everything in a blink of an eye.

6) We will have to agree to disagree. I believe precious metals are more representative of real money (a store of value) than fiat currency could ever be.

7) Not saying it would ever happen anytime soon, but it’s not impossible either. China and Russia are forming partnerships and already moving in that direction. From CNBC:

Despite the details for the deal being scarce, many analysts predict that the oil exports would mean Chinese yuan being exchanged directly, into the Russian ruble. Thus the two countries would bypass the U.S. dollar – the traditional currency used in oil trades and considered to be the international reserve currency of choice.

8) As I tried to present in this article, the commodities markets are routinely manipulated. If you don’t believe any of that is really going on, then feel free to trust the price charts and take them verbatim. If you suspect there’s some fishy business going on (e.g. JP Morgan shorting silver as described by Andrew Maguire), then those charts mean nothing to you… If somehow the price of gold and silver are really being suppressed then those precious metals are selling for a huge discount today.

9) If things hit the fan, survival will be of utmost importance at first. This means, shelter, weapons, ammo, food, oil, etc. Basic human survival. Precious metals wouldn’t enter the picture until we restored some balance. But as Zimbabwe showed, when there is a system, reboot, people inevitably revert back to trading/bartering with precious metals… It’s the most practical way to conduct commerce if there is no viable fiat currency around. It’s the most practical. But again, I don’t think the U.S. dollar will be rendered obsolete… This would be a worst-case scenario, but not the most likely outcome.

10) Gold has and always will have appeal. Whether used as money, or on display in the form of consumer products, etc.

Investing is great and I’m a big fan of buying stocks, real estate, etc. However, I’m certainly not the type to just keep on investing, regardless… Sure, this is wildly speculative, but as I mentioned in the post, I have NOTHING to lose if I’m wrong and things just keep going up indefinitely. It’s the downside that I’m worried about and to consider that angle you must absolutely be open minded and let in these radical ideas… Trust me, I hope none of this materializes as the ramifications would be terrible for everyone…

It’s not about “winning” all the time. I believe it takes discipline for an investor to consider all options and form a defensive strategy… There is no point in amassing a great fortune and taking no measures to protect it.

Take care!

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13 The Dude May 29, 2015 at 5:49 am

1) What I was meaning is that having a moderate amount of inflation is good thing as too it encourages people to spend or invest money rather than hoarding it. Sure the dollar has lost 96% of its value, but not if you invested the dollars.

2) I’m unconvinced. If you look at recent CBO projections, things do not look bleak. A simpler argument would be this: if investors were worried about the debt, why wouldn’t long term notes have higher interest rates?

3) Inflation: you’re covered with your houses, deflation: not much you can do, hyperinflation: not going to happen

4) This is not an opinion. It is a fact. The dollar is very strong right now due to low oil prices. There will always be currency fluctuations, but the role of the U.S. dollar will not change any time soon.

5) If you believe stocks hold value, why? It’s a just a piece of paper, right? Or does it represent a legal share of a cash generating (most times) company? If the latter, then why wouldn’t the legal tender of a massive country capable of levying taxes be any different. The dollar is not going to collapse. If you actually believe this, lay out your argument as to what could precipitate the fall of the dollar.

6) I think we are using different definitions of money. You appear to be using it with a strict definition of store of value, whereas I’m thinking of it as a trade-able monetary unit. If you think so strongly about gold being a better store of value than the dollar ever will be, then why are you holding any dollars then? Why not just abandon the dollar and go 100% gold?

7) It is for all practicable purposes impossible today. The Ruble and Yuan represent 3.6% of daily traded share as opposed to 87% for the US dollar. I can’t even imagine the events that would need to unfold to change this.

8) What I was trying to point out is that commodity based currencies have several disadvantages. This is why every country has moved to floating currencies and no country today has a gold or silver standard. If you look at the graph from the standpoint of what would happen if our currency suddenly rose that much in value relative to other currencies. That would be disastrous!

9) I don’t think we know what people would use to trade in that scenario. Who would have precious metals in that scenario? Nobody. You need something common to trade. Spend just a short period of time reading the history of currency.

10) Yes, absolutely. The point I was trying to make was that the Chinese love gold!

My point about discipline was that you seem to be changing strategy very often and you’re beginning to speculate instead of invest. Not only that but you are speculating on macro, which, self-admittedly, you’re not an economist and you don’t have an economics background.

If you’re worried about inflation (which I’m unclear why anyone would be worried about that right now), you have your real estate portfolio to protect you. And you will profit handsomely!

If you’re worried about worst case scenario, like the dollar spontaneously collapsing, then 1) Gold will likely not protect you from that and 2) That’s not even worth thinking about.

If it’s about getting defensive, that can be handled by having a well diversified portfolio, and a strategy to stick to the portfolio allocation. If you want your portfolio to have some precious metals, by all means, add some to a degree that makes sense. But, this will be your best defense. Getting defensive doesn’t mean trying to time the market and switching over to trading or speculating on precious metals based on something you read on a blog.

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14 The Dude May 29, 2015 at 5:56 am

Also, the irony that my automatically chosen avatar is an illuminati-esque pyramid with a huge fake grin on it, is not lost on me!

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15 Reepekg May 27, 2015 at 11:12 pm

You’ve really gone off the deep end, FI Fighter, piling up silver coins in your basement and rambling about fiat currencies.

First, Nixon put the US dollar effectively on the oil standard which makes a lot more sense in an energy driven economy than precious metal.

Second, buying precious metals is a pure speculation pay based on pricing. It is just as fickle as the dollar and the overall economy. For example, 2 years ago I bought $500 worth of platinum for fun (I like automotive catalysts). The -34.11% return to date isn’t exactly a great “store of value”.

Maybe I should invest in tin for the inevitable run on foil hats. 🙂

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16 FI Fighter May 28, 2015 at 7:29 am

Reepekg,

It smells like 2007 to me. I hope I’m wrong.

Following the daily charts for precious metals is already defeating the purpose of holding them in the first place… especially right now in this environment. Precious metals are meant to be DEFENSIVE. Their true value won’t be known until there is fear in the air.

If you don’t believe that anything bad will happen or ever happen, then you can of course choose to ignore precious metals altogether. No one says you have to own them in your portfolio. Again, they are only necessary on the way down.

Do what works best for you! 🙂

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17 bob May 28, 2015 at 7:00 am

Sounds like someone read Ron Pauls website

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18 FiHopeful May 28, 2015 at 8:57 am

I agree with The Dude and Reepekg… the doom and gloom is unwarranted given the current macroeconomic state. The people stirring up all the doom and gloom are people trying to unload their gold positions at a profit, probably. That’s not to say we’re not headed for a correction, but that correction will not be something that exotic assets are going to protect you from.

As far as “you can’t create more gold”… we used to think that of diamonds, and then we figured out how to synthesize them (fairly cheaply too). Producing gold from other elements is actually possible (in a particle accelerator), but the current cost of doing so would far outweigh the current value of gold. Someday in the future we’ll figure out the way to do this in an energy-efficient way (http://en.wikipedia.org/wiki/Synthesis_of_precious_metals). At that point, any element-based physical asset is going to sink to a value of zero.

So, gold is no more “real money” than the dollar, and it’s significantly less real than holdings of real estate or more importantly, holding intellectual property. In the event of a global economic meltdown, your best bet are the skills and knowledge you acquire … use those to make you more hard assets.

I’d like to see how the doom and gloomer gold admirers address the issue of holding gold. If you hold it in a fund, it’s subject to all of the same manipulations that fiat currency has, and good luck trying to get the physical asset in the event of a real meltdown. If you are holding physical gold, then where are you storing it and keeping it safe (see the Aesop’s fable of the miser and his gold)? Do you realize how heavy and cumbersome that is? That is why we don’t use it for bartering anymore.

There is no such thing as defensive asset planning for severe edge case economic events (e.g., hyperinflation like pre-war Germany or the Zombie Apocolypse). In the event of a truly unique event, there really is no “safe” asset class… what you end up doing is over-diversifying and missing out on really big opportunities that a normal asset allocation would get to enjoy.

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19 FI Fighter May 28, 2015 at 9:16 am

FiHopeful,

If you feel like this “worst case” scenario is overblown and won’t happen, by all means keep on investing like you’ve been doing. There’s nothing wrong with that and you just have to do what works for you.

In regards to synthesize gold or silver, or other precious metals, I’m not going to speculate on that and what its market value would be…

In the doomsday scenario, absolutely nothing will beat having: skills, shelter, food, weapons, ammo, etc. Basically, whatever is necessary for human survival. You can’t eat gold. It won’t keep you warm. But to dismiss it as having no value in a time of chaos is also to underestimate it greatly. Gold has always had value in our civilization. It most likely always will.

For myself, I certainly don’t see the harm in preparing for the worst. As I’ve mentioned before, I’m already heavily invested in the markets (both stocks and real estate) so if the market keeps performing, that’s all fine and dandy in my eyes.

It’s not about picking sides and having to be right or wrong. I don’t care about that. Just because I’m hedging with gold and silver doesn’t make me a gold bug…

That’s one of the problems with investing, whether anyone will ever admit it or not… Once we pick up a strategy, we tend to ride it out until the very end. I’m not endeared to real state, stocks, precious metals, or any of those things… At the end of the day, all of this work is for FREEDOM alone. That’s the only team that I’m playing on.

I just don’t want to be caught on the wrong side of things… Do I trust the Fed implicitly? No. And I don’t really know what really goes on behind the scenes either. So I’m hedging my bets.

All the best!

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20 FiHopeful May 28, 2015 at 10:25 am

Actually I agree with your reasoning (yes, there will be a correction… how severe and in what form it will take is a debatable point), but my argument is that precious metals are not a really good hedge against the most likely scenarios. If you look at the historical price of gold from 1974 onward: http://goldprice.org/gold-price-history.html, we’re currently in a downward trend from an all-time high… and there’s a lot of room too fall.

Utilities would be a smarter play for a “real asset” that is currently undervalued and more likely to appreciate in an economic downturn (just ask Mad Max whether he’d like to have gasoline or gold 😉 ). I actually don’t hold any utility stocks, but if defensive planning is what you’re going for, there are a lot better ways to do it.

The two issues I see are:

1) precious metals are not a better hedge than any other physical holding, and I’d argue the data points to them being a worse investment right now (maybe if the price dips below $800/oz, then gold looks more attractive)

and

2) there’s an opportunity cost for everything. If you’re investing in precious metals, that capital could be better invested somewhere else… there is a real danger in over-diversifying.

It’s really hard to predict the future, which is why so many recommend a fairly straight forward asset allocation per risk tolerance as the way to handle the 99% case of what can happen in the future.

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21 The Dude May 29, 2015 at 8:02 am

A much more likely scenario is that housing prices and rents are rolled back to 2009 levels. Would gold help you in this case?

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22 FI Fighter May 29, 2015 at 8:26 am

FiHopeful,

Yes, there’s always an opportunity cost with every decision; in this case, I am comfortable with allocating a portion of my portfolio for “insurance”.

If you are using precious metals as insurance, then charts and market prices really don’t mean much… Again, it’s a hedge against a “worst case scenario”. In that type of environment, you would assume that prices are indeed manipulated and the true value wouldn’t be apparent until after the fact.

Again, I’m not saying that owning precious metals alone would protect you from any possible downturn, but it would at least be a starting point.

I agree, hard assets would be a good way to proceed with caution at this point.

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23 joe May 28, 2015 at 10:31 am

also agree with the dude.. and your response to his 4th comment makes no sense.. a “strong” dollar makes it more difficult to sell exports.. thus if part of your doom and gloom is a weak dollar coming to fruition.. well that would be awesome for American companies / stocks. Also – your strategies are starting to become pretty out there.. I am more reading for entertainment now than anything else..

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24 No Nonsense Landlord May 28, 2015 at 12:13 pm

It’s hard to say of we have inflation in the cards, or deflation… I do own 100 shares of GLD, which is down quite a bit in my portfolio.

When you buy physical gold, there is a large spread; both when you buy and when you sell. Then, you have to store it. A few pounds of gold is OK to have at home, but there is no way to just spend it. If you buy gold coins, there is a HUGE spread in the metal worth and the coin worth. What will someone pay for an imprint?

Real Estate is a hard asset, much better than gold. It cash flows.

It’s up to you, but in the past 130+ years, having physical gold has not been a good decision. It was illegal to own for a long time, then jumped up quite a bit.

Allocate 5% to GLD, no more.

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25 dan23 May 28, 2015 at 6:22 pm

Hopefully this isn’t a dupe as I don’t think my first went through:

In your past 3 posts I see 2 common denominators.
1) You are highly leveraged into real estate which makes you a bit nervous and you want a high cash or cash/like cushion.
– This makes sense.

2) You believe you know when stocks/gold/bonds etc. are overvalued/riskier than usual and the reverse and will alternate between being more and less invested in these things based on your sense of the market. Currently, for example, you think the stock market is way overvalued and will shift to other things.
-This, I think, is not a good way to make allocation decisions, and as I posted before is just market timing. Lots of literature on why this is bad.

You may find it interesting that most investors in index funds far underperform the index funds themselves (due to timing). Interestingly, I think I read that the target date type funds do not see nearly as great an underperformance, perhaps because people investing in them have accepted that they have assigned to the funds themselves the task of allocating.

No offense intended, but I don’t see why you think you are special and will succeed with the timing aspect when most people fail. I previously also linked to an alpha architect post that went through systematic market timing strategies and found even the ones that worked, weren’t worth that much – the key though is to apply them regularly and systematically. I imagine you have not laid out a set of rules describing how you would engage in your market timing in advance.

Separately, just to note, while, I am not a huge fan and the evidence is mixed, there is some academic support for investing in commodities as part of a portfolio, where you keep a small fixed percentage. If you plan on doing this as a permanent part of your plan, this is not a terrible idea, but as No Nonsense Landlord mentioned above, physical is not a great way to do this.

I think you might greatly benefit from writing an IPS for yourself (http://www.bogleheads.org/wiki/Investment_policy_statement) and deciding on an approach to take with rules that you can stick with for many years to come – coming up with rules and sticking with them is likely more important than the particular rules you pick (in most cases).

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26 The Dude May 29, 2015 at 5:57 am

Very good advice. I could not agree more.

The IPS is a great idea.

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27 FI Fighter May 29, 2015 at 8:32 am

Dan,

Underperformance is not my concern. Buying precious metals is no different to me than buying fire insurance or earthquake insurance on a home.

I don’t know what will happen, but this is definitely one angle I wasn’t considering before. It’s not like I’m cashing out of all my assets and dumping everything into physical… I just want to consider more possible scenarios.

I believe it’s possible to invest in a portfolio and in addition have a cash/reserve plan. I’m already holding a lot in cash. Holding some precious metals is just a way of diversifying further…

All the best!

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28 george puck June 1, 2015 at 12:47 am

FI,

I have recently read through the last couple years of your blog, very interesting and very impressive how well you have done over the last few years.

I think you have done an excellent job of getting a portfolio of real estate accumulated.

And I think you have done a good job of outlining a case as to why there is froth in the Bay Area real estate market.

I also agree that bonds are incredibly over valued. We will look back on this era and wonder why anyone owned bonds. And I know there is a whole belief in the need to have them to diversify a portfolio, lower the volatility etc. It seems to me it is a lot smarter to avoid bonds of all types and just keep money normally targeted for bonds in money market/cash accounts.

I quibble with the idea that the stock market is massively overrated. A 20/PE is a little higher than the 15-16 average. But its not that bad if you look at how low interest rates are. And the market has had long historical runs at that level. Yeah, there are some sectors that are a little frothy. And we could see a good old fashioned correction. But if you look around the market isnt so out of sight to think that we would go down more than 10-15%, and if that happened I think we would recover pretty quickly.

There isnt a 50 or 60% correction sitting around, we just dont have that sitting there.

I suppose its ok to own some gold. as a normal asset allocation strategy. but I would ask is it necessary in your case?

What I mean is you are highly levered, and that seems to have you a little nervous. And I get that. But I would encourage you to look at your risk from risk management perspective.

If we have a total end of days Mad Max societal breakdown then the stock market and bonds will go bust, so would and gold/silver ETF’s. The gold mining stocks would crater as well as most of them have mines in foreign countries that would likely confiscate the mines. And most importantly, gold /silver coins would become more or less worthless. Things like freeze dried food, water, fuel, generators would become the currency of choice.

If we have a normal correction, then gold may be at risk as China and India likely end up as big sellers in an attempt to protect their portfolio.

If we have huge inflation, then I think from a risk management perspective you say, does it matter? say we go back to 15-20% annual inflation, then your properties become very valuable because the rents go up drastically.

I think you should think about a stress test on what you own from a risk management perspective. It seems to me your biggest risks are California real estate, the state of Illinois financial issues.

Your Bay properties are heavily tied to high tech companies. A Bear market in technology startups would likely cut heavily into real estate and tenants. That 100K earners with 750 credit scores go poof if they lose their jobs. And California real estate has a history of boom and bust cycles. If I were you I would think in terms of what would happen if rental rates/property values returned to 2008/2009. What would you do?

I think you also have some exposure to Illinois, because of the financial issues the state is having, I think it is likely that property taxes will go up substantially. And it may force some people to leave the state. I think this is a much smaller issue than your exposure to California, but I thought I would mention it.

What I dont understand is if you are worried about property values, and if you have a really nice appreciation on your non cash flowing properties. Why not book it? You go the run up you wanted, lock in the profits.

If the bay area is as big of a bubble as you say (and your examples suggest that is the case) Load up some cash, lower your leverage, maybe do a fix and flip to keep busy. But otherwise lighten up a little so that you can react and buy again when the bubble bursts.

-George

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29 DivHut June 5, 2015 at 12:01 am

Great article essentially showing us that long term we’re ‘screwed.’ I guess the thing that really hits home is when you describe fiat currency and money versus something that has a store of value and gold and silver have always been a store of value from the beginnings of modern man. I hold some gold and silver but not enough to feel totally secure if things get really bad. Just enough to ‘get out.’ These are very scary times from a fiscal perspective and history suggests that the U.S. will be done as we know it just like the destruction of the Italian lira, Zimbabwe dollar, Weimar Republic marks, etc. etc. Geez, thanks for cheering me up.

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