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Monday, November 15, 2010 1:49 AM

"Midas Crush" - MarketWatch Attempts to Explain "Why Gold is a Bad Investment"

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Jonathan Burton at MarketWatch attempts to present a case Why gold is a bad investment.

Gold isn’t like a stock or a bond. It offers no income, no dividend, no earnings. It is considered a store of value, an alternative currency that’s safe beyond reproach, but it is not cash in the bank, or even the mattress. Gold has no untapped intrinsic value; it is worth only what people are willing to pay for it. And lately, many people have been only too willing.

“Gold is going up because people are buying it, and people are buying it because it’s going up,” said Leonard Kaplan, president of Prospector Asset Management in Evanston, Ill., and a longtime gold trader.

“Gold is always a speculation,” James Grant, editor of Grant’s Interest Rate Observer and a longstanding gold bug, noted in his latest newsletter.

To Jon Nadler, senior analyst at Kitco Metals Inc. and a veteran gold-market watcher, Wall Street’s buy recommendations remind him of speculation in 2008 that propelled another must-have commodity — oil, the “black gold” — to stratospheric heights.

“I don’t think gold is an opportunity at $1,400 an ounce,” Nadler said. “Just because gold has been above $1,000 for 14 months, everybody thinks it’s a new paradigm. This is very much what we heard about oil a couple of years ago.”

“Gold at $1,400 is not what I would call an investment,” said Kaplan, of Prospector Asset Management. “An investment is something you buy near its value. If gold costs $450 or $500 to produce, at $1,400 you don’t have value, you have momentum.”

“I called gold the ultimate bubble, which means it may go higher,” Soros told an investor conference in New York in mid-September, repeating a warning he’d made earlier this year. “But it’s certainly not safe and it’s not going to last forever.”

“Gold would probably provide a decent hedge against a declining dollar, but so would foreign stocks, which you can value,” said Scott Kays, an Atlanta-based financial adviser who does not include physical gold in client portfolios. “If gold becomes overvalued, there are places you can cash in on factors that drive up gold, without as much risk,” such as emerging-market bonds.
Everything Is Speculation

“Gold is always a speculation,” says James Grant.

The legal dictionary defines speculate "to assume a business risk in hope of gain; to buy or sell in expectation of profiting from market fluctuations"

By that definition, what isn't speculation?

Buying bonds is speculating that a company will be able to pay you back. Sometimes it works and sometimes it doesn't as the collapse in GM shows. How many widows on fixed income counting on GM yields got wiped out?

Little did GM bond investors realize they were foolishly betting (speculating) that GM would not go bankrupt. They lost.

What about technology stocks, especially "bellwethers" like Cisco?

The results for 10 years running speak for themselves: Congratulations to Cisco Insiders for Dumping 6,620,750 Shares, 60% of Holdings in 6 Month; Cisco CEO Whines about Taxes; Is Chambers Worth a Dime?

Purchasing any stock is speculating whether or not the company can return value to shareholders.

Cisco has not paid a dividend ever. Whether it starts to now is moot. Those buying dividend stocks are speculating the dividend will not be cut. In addition to GM, look what happened to the dividends of Citigroup, Bank of America, Wells Fargo, and the entire financial sector in the last few years.

Buying those stocks was not speculation? And gold is? Please be serious.

Nadler Nonsense

Jon Nadler, senior analyst at Kitco Metals Inc. and a veteran gold-market says "Just because gold has been above $1,000 for 14 months, everybody thinks it’s a new paradigm."

Excuse me for asking Jon, but can you please name some names of people who proclaimed gold to be "a new paradigm."

While you are addressing that question Jon, please comment on this: Nadler Nonsense "Gold Is Not in a Bull Market"

Buying Near Value

Kaplan, of Prospector Asset Management says “An investment is something you buy near its value." Really? Is a value-bag of potato chips an investment?

More seriously, and since I am in a question asking mood, why is Kaplan the arbiter for determining the proper "value" of gold?

Holding Dollars is Speculating

By the definition I gave above, even those holding dollars or treasuries are speculating. The speculation in this sense is that dollars will buy more (or lose less), than other investments.

In light of the fact that everything is speculation, which of the following is the better bet?

1. The Fed continues to debase the dollar and gold soars
2. Cisco or Microsoft goes parabolic once again (and gold doesn't follow)

Bear in mind, gold is not a sure thing. Gold fell from 850 to 250 over a 20 year period with inflation every step of the way. Gold is not an inflation hedge as most think.

Rather, gold is a hedge against deflation or extreme inflation. In ordinary inflation, and periods of disinflation, gold tends to do poorly.

Reflections on "Sure-Things"

Gold is not a "sure-thing". Then again, there are no "sure-things" anywhere.

Interestingly David Tepper, a billionaire hedge fund titan and president of Appaloosa Management disagrees, telling CNBC "The Fed is going to come in with QE. Right? Then what's going to do well? Everything! In the near term - Everything!"

Please see Sure Thing?! for a discussion and video of Tepper.

As a followup to that story ZeroHedge points out David Tepper Dumps 20% Of Financial Holdings During Quarter Of Infamous CNBC Speech.

Question of Probability

When it comes to speculating (investing if you prefer), it helps to think of things in terms of probabilities. Please consider this snip from "Straight Talk" with Economic Bloggers
9. What's the question we should have asked, but didn't? What's your answer?

: I guess it would be: "Does your crystal ball have a forecast for the stock market? For Gold? The US Dollar?" Let's start with gold. I see articles everyday by some prominent people saying things like "I know gold is going to ... whatever".

The thing is, they don't know and neither do I. Only a charlatan or a fool can make such a claim. Of course the fools and charlatans may be right, but it is not because they "know" anything.

One thing I do know is that I don't know things of that nature. That puts me ahead of all those who claim to know the unknowable.


I prefer to look at things in terms of probabilities. It is highly likely the Fed embarks on Quantitative Easing. That should be good for gold, but short term that QE may easily be priced in.

Moreover, the Fed may go slower than what the market thinks.

Thus, there could be a huge "sell the news" event in both gold and the stock market on the QE announcement, no matter what that announcement is.

Should that happen, given that gold is in a long-term bull market, and given that Bernanke will likely go back to the QE well, I expect buying the next big dip in gold would be a higher probability event than buying a 10% correction in the stock market.

There is a lot going for gold, but it is by no means a "sure thing".
Investing vs. Speculation

No matter what you do with your money, even holding it, you are taking a chance. The prudent thing is to have a cash cushion of a year's worth of living expenses in case you lose your job. If you don't have a cash cushion and you don't have insurance you are speculating you won't lose your job or you won't get sick.

I believe it's prudent to own some gold, but no more than you can sleep with.

Putting everything you have on gold is neither prudent nor practical, especially for those managing other people's money.

Risk management is crucial, no matter what you do.

In a practical sense then, one can make a case that "a" differentiating factor between investing and speculating is risk management.

Gold is Money

The bottom line to me is that "gold is money". We know that gold is money because it acts like it. Please see Misconceptions about Gold for a discussion.

By the way, that "Misconceptions" article was written by "Trotsky" also known as my friend "HB" who now has his own Austrian Economic blog called Acting Man. His latest article is Robert Zoellick Mentions the Un-Word.

The "Un-Word" is of course gold.

Stunning Skepticism

The skepticism in the face of this rally is nothing short of stunning. The silliest line in the MarketWatch article is that "gold is worth only what people are willing to pay for it."

Excuse me, but no tangible assets are worth more than people are willing to pay for them.

Although there can be a huge pullback at any time, the fact that there is so much skepticism about this rally, from so many places, suggests gold is likely to go higher. Bottoms are formed when nearly everyone is agnostic. That happened with gold in 2000.

Tops are formed when nearly everyone is a believer. In regards to housing, belief peaked in summer of 2005. I called the peak of the housing bubble in real time, precisely on time, in It's a Totally New Paradigm.

Note that in contrast to what Nadler says about gold, people did use the phrase "totally new paradigm" in regards to home prices. Time Magazine even went "gaga" right on the cover.

For a series of real time updates on housing, please see Collapse of the "Ownership Society"

In regards to gold, we are a long, long way from everyone being a believer. By that measure, it's highly unlikely the top is in.


From "Andy" and a number of people who made similar comments.
Point: Gold has no untapped intrinsic value; it is worth only what people are willing to pay for it.

Counterpoint: Federal Reserve Notes have no untapped intrinsic value; they are worth only what people are willing to exchange them for.

Only difference: gold can't be created out of thin air.
Measuring "Value"

From What Has Government Done To Our Money? by Rothbard.
Many textbooks say that money has several functions: a medium of exchange, unit of account, or “measure of values,” a “store of value,” etc. But it should be clear that all of these functions are simply corollaries of the one great function: the medium of exchange.

Because gold is a general medium, it is most marketable, it can be stored to serve as a medium in the future as well as the present, and all prices are expressed in its terms2. Because gold is a commodity medium for all exchanges, it can serve as a unit of account for present, and expected future, prices. It is important to realize that money cannot be an abstract unit of account or claim, except insofar as it serves as a medium of exchange.

2Money does not “measure” prices or values; it is the common denominator for their expression. In short, prices are expressed in money; they are not measured by it.
Mike "Mish" Shedlock
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