This is issue #020 of our WTF is Going On With the Economy?! Newsletter. In this issue, we cover what happened with gold this summer. Not subscribed? You’re missing out. Get each issue straight to your inbox.
Hey there! We hope you had a great August despite the weird circumstances that are our current world.
In August, a lot happened, including wild rides on global stock markets, real estate prices soaring, and the euro reaching two-year highs against the dollar.
Those are all important topics. We’ll be covering them either in future issues or via our Instagram account (which you should totally be following).
For this issue, I want to go over everyone’s favorite precious metal: gold!
Why investors like gold
Besides being one of the world’s most sought-after and useful metals, gold has historically acted as a store of value.
For millennia gold acted as a common currency, allowing global commerce to work, which, in turn, helped create the global economy we live in today.
Over the past 100 years, gold lost its status as a ‘reserve’ currency as the central banking system evolved.
In the early 1970s, the US delinked the value of its currency to the price of gold. It’s a bit more complicated than that, but that’s the gist of it. Other countries soon followed, creating the exchange rate system we use to this day.
However, this decoupling made gold an even more attractive asset to investors as its value was no longer linked to any particular economy.
As a result, people saw it as a ‘safe haven’ to shelter their money from global economic volatility.
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Since the great decoupling 48 years ago, investors have consistently put their money into gold during economic downturns, steadily driving up the price per ounce in the process. Whenever the economy recovered, investors sold their gold, got back cash, and invested it in stocks, bonds, real estate, etc.
Why has the price been going up so much lately?
To the surprise of absolutely no one reading this, there is one thing we can say with absolute certainty about the current economy:
No one has a clue as to how this year or even next year will shake out.
There are plenty of risks out there. To name a few:
- While we’ve made tons of progress on beating this pandemic (seriously). There still isn’t an endgame in sight, meaning no one can effectively plan the immediate future with any certainty.
- The serious issues of the world that existed before the lockdown: climate change, shifting geopolitical centers, and a reckoning with the downsides of globalization haven’t disappeared. They still need addressing.
- The upcoming US election will be the most consequential in decades. On the one hand, Biden will most likely raise taxes, which investors generally don’t like. On the other, we know that with Trump, it’s to expect the unexpected. That’s hardly a guarantee for stability.
Put together, many investors are nervous, and as a result, are shifting their money into gold.
And, like anything, whenever demand goes up, prices do, too.
We can actually see this phenomenon in action. In this chart below (yeah, we’re doing charts now), I’m plotting out the price of the iShares Gold Trust ETF. This fund purchases physical gold bars which investors indirectly own a piece of (note: IAU is for US investors only. SLGN is the same fund but for most everyone else).
This fund’s price comes directly from the price of gold, so it’s a great representation of the change in demand for the metal.
In the chart, we see the price go up at four different points, showing investor nervousness in:
- 2008 at the start of the US financial crisis and the great recession
- 2010-2013 as Europe grappled with its credit crunch in southern Europe and Ireland
- 2016 after Donald Trump won the Presidential election
- 2020 because of the pandemic.
In each of the first three spikes, the price subsequently dropped when investors thought the economy was on a more stable footing. Here, they sold their shares for cash to invest elsewhere.
We haven’t seen a steep drop just yet as we’re still in economic uncertainty. The price of gold could very well tell us when we might see the light at the end of the tunnel.
Should people living abroad invest in gold?
If you’re thinking of investing in gold, there’s a couple of points you need to be aware of.
First, gold is a store of value. It doesn’t pay dividends or income. The best it can do is appreciate in value. Buying shares of a fund like the one I used in the example above is probably the easiest way to invest in the metal.
The best investors (and the ones who can sleep at night) invest within their risk tolerance. Do you know yours?
Suppose you’re looking to use gold to protect yourself from economic turbulence. In that case, you’ll probably want to time your entrance and exit. Otherwise, you’ll wind up back with what you started with (or worse) if you leave too late. Trying to time markets is essentially gambling. Good luck.
Second, there’s an exchange rate risk involved for many investors.
We measure the price of gold in dollars. If you’re not expecting dollars back, then your investment would be:
price of gold in dollars * the exchange rate.
Changes can erase or increase your returns. In other words, there’s extra volatility.
Plus, holding physical gold is expensive since you need to keep it in a vault or a safe. Even then, you’ll have to find a broker who will buy or sell you the physical pieces, which come with its high costs.
Outside of physical gold or a fund that directly holds the metal,, there are a couple of other options.
First, you could invest in a fund that follows gold mining companies, processors, refineries, and distributors.
Their performance generally follows gold’s price, making it a good proxy for the metal’s performance.
Plus, many of these firms pay a dividend, which generates income. Of course, if the price of gold goes down, these firms suffer. There’s also an exchange rate risk. These firms operate almost exclusively in dollars meaning that the fund’s price is set in greenbacks and not euros or pounds.
Finally, you could also place gold bets with CFDs. However, as we wrote in a previous issue, that’s not exactly a prudent way to grow your wealth. Do so at your own peril.
For the long-term, gold can play a role in a well-diversified portfolio. Getting the right mix isn’t always easy (although spoiler alert: we’re working hard to solve that problem for people living abroad).
Anyways, that’s it from us this week. As we wrote in our last issue, we’re planning many great things for this fall. Thanks again for reading, and, you know, share it with all your friends cause, in all honesty, it’s like giving them the gift of gold right into their inbox.