Gold Investment Strategies

For those looking to invest in gold, there is often a great deal of confusion as to when to invest. NOW is an all too common answer, and all too often incorrect. Although at present, it is correct. But to answer this question more thoroughly, we need to examine our trading agenda, which is conveniently the same for all of us; namely, to buy low and sell high.

This is deceptively simple. As soon as you attempt to examine a gold futures chart you’re pulled into moving averages, banners, triangles, resistance and support, and a myriad of other factors influencing countless traders out there. So we need to have some way of defining ‘low’, if we are to buy low. There are long term tools I use to determine this.

The first tool is the Commitment of Traders report. Steve Briese generously graphs this data for us in an easy to read format at commitmentoftraders.org. For details on what that report entails, click the link above. Essentially what we’re looking for is the commercial trader position. Commercial traders are the buyers and sellers of the physical commodity, they’re not speculators. And they have the knowledge and resources to know when a commodity is cheap and when it’s expensive.

When commercial traders are net long, signified by the red bars on the histogram moving above the zero line, then they are indicating a long term value zone, unlikely to be taken out through excessive selling. As you can see in the chart, commercials were long as gold declined to below $700, and then created and/or picked the bottom itself in the $650 range. The rally we’ve witnessed since was clearly forecasted by commercial longs, who have as a matter of fact predicted each rally in gold in the last 8 years. This is a long term indicator which provides changes in intermediate to long term trend.

Once a trend is established however, the COT report becomes much less reliable, and we need other indicators that allow us to determine ‘relative’ cheapness on corrections in a bull market. In other words, the price may be rising for months on end, and we don’t want to buy at the high. We need something that tells us when prices are cheap while still within an upward trend. These two tools are the simple trend line and moving averages.

A trend line is nothing more than a line that shows the overall trend in a market, if there is one. In a bull market, so defined by higher highs and higher lows in prices, a trend line connects the higher lows. This is incredibly simple and incredibly accurate across a large number of markets. When a trend line is broken by falling prices, you should take immediate action or stand aside all together and wait.

Moving averages are price averages of the days leading up to the present, accounting for 8, 18, 50, or any other number of days deemed relevant by the trader. For me, a 20 day moving average is large enough so I don’t have to compulsively jump in and out of the market, and small enough so as not to leave great sums of money on the table while prices bottom or peak. As you can see by the chart on the left, gold futures prices tested both the long term trend line (just connect the bottoms with a ruler) and all 3 moving averages (an 8, 18, and 40 day MA).

Prices quickly rallied off of that test, signifying they those lines represent a relative ‘low’ in an otherwise bullish market. This is a textbook case of when to buy low. As prices retreat to the trend line or moving averages we have a relatively good entry point. But we couldn’t have done this without defining low, and then selecting reliable indicators that point that out to us. And so, to answer our initial question of when to invest in gold, the answer should be clear…NOW. This week was a great entry point and evidence of a strong market.

Gold Investment
In today’s turbulent investment climate, gold investment may be the single best option for the private investor. Gold investment strategies take a myriad of forms, which allow both the novice investor who is averse to risk and the sophisticated commodities speculator looking for greater leverage an avenue to own gold in a way that appeals to their risk/reward ratio as an individual. Not only is gold investment a realistic option for every type of investor, it may prove to be the most rewarding over the next few years.

Why Invest in Gold, Why Now?
Now, perhaps more so than any time in history, is the stability of the financial, economic, and geo-political climate in question. Gold, throughout history, has been viewed as a safe haven against inflation, the devaluation of a fiat (paper) currency through excessive money creation. Gold is nearly indestructible, it’s durable, has many industrial functions, and looks pretty on women. But its physical attributes don’t compete with the Psychological appeal it has when people are greedy or fearful. There is some ineffable quality about gold that stirs the hearts of men when they see it, always has, always will. And to top that, there is a finite amount of it.

So here is a simple question for you. If you and nine friends want to own 1 gold bar, of which there are only ten, and each of you has only 1 dollar to spend, what would the value of a gold bar be? Hopefully you’ll argue 1 dollar. Now, let’s create out of thin air as our government likes to do, double that amount of many, so that each of you has 2 dollars. You all still want a gold bar. Now, what will the cost of that gold bar be? Hopefully you’ve said 2 dollars. This is what it will take for me to acquire a piece, and also keep the others from scooping up my portion of gold. This is what occurs on a mass scale with gold investment. Gold bullion remains at a static or slightly growing level while money creation adds trillions of dollars to the money supply while fearful investors flock toward its safety. Investing in gold allows you to bypass inflation while leveraging a weakening currency.

Now, as you may have guessed, most commodities meet this criterion of having a limited quantity per dollars in existence. And as those of you who eat food and drive cars may have noticed, commodities prices have all risen drastically over the last 8 years. But each of these commodities has its own supply and demand setup, a difficult thing to analyze and profit from. And none of them, with the exception of silver, has the reputation of being the greatest retainer of value through inflationary periods. It is quite difficult to add gold at the same rate the world can produce more corn or wheat. And it is something that won’t expire or go bad. So for these reasons gold investment brings security against precarious economic and political times.

While many question whether we are amidst a deflating economy or an inflating one, there is no question as to the exorbitant amount of money that has been created in the last year. There is little consistency in the exact dollar amount, but great consistency in the mind-boggling enormity of it. By most accounts, our national debt (money borrowed from the future, and thus created from nothing today) has increased somewhere between 5 and 10 times in the last 8 years. The sum used for government bailouts looks to trump the initial 800 billion that was the official public number. It appears to be more in the 1.3 to 3 trillion range, an enormous range at that. For those who want more precise figures, stay tuned and I’ll include those in later posts. The gist of it all is clear, that more money has been created in the last 5 years in the USA than in the entire history of the USA. Similar patterns are surfacing in Europe and around the globe, though as of yet, not to the same degree. This in time will drag the US dollar down to nothing in value and skyrocket the nominal value of hard assets like gold beyond imaginable levels.

Gold Investment Strategies
There are many options for investing in gold, ranging from very high risk/high return to very minimal risk/good return. The most direct way to own gold is to buy physical gold bullion or jewelry. There is no debating the long term safety of buying and holding physical gold in times like ours. But depending on the amount of money you have to invest, you may not want to hide a ton of gold under your bed.

The second option is to buy stock in gold mining companies. This is a great long term option for conservative investors. The likelihood of gold mining companies to collapse is slim at current bullion prices, and should gold prices continue to rise, we’re talking about companies with limited costs and unlimited profit potential. That’s a tough combination to find and beat.

The third option is to buy and hold an ETF, an exchange traded commodity fund. GLD is a fund that actually buys and holds the underlying gold commodity. You don’t quite have the leverage you would if you were trading gold futures contracts, but you also don’t have the same tremendous risk. This has great potential returns, but also bears the potential risk of product defaults should investor demand exceed deliverable supply. This hasn’t been tested yet, but has been safe thus far.

And finally, you can trade gold futures. The first three options allow the investor a buy and hold strategy, but unless you have millions on deck for margin calls, you’ll have to be a trader of futures, rather than a buy and hold investor. This is for the experienced and knowledgeable trader only. Futures are the Super Bowl of the investment world. High risk, high return, and fast action characterize these markets. There is no place else for an investor to leverage their money and make it bigger faster than in the futures markets. And there is no place like the futures markets for a wealthy man to lose his shirt in an afternoon. If you choose the route of gold futures trading, study and study.

In sum, gold investment is not only a conservative option for our current investment climate, but an essential one for all investors. And fortunately for all of us, there are many gold investment strategies from which to choose.