Gold Aversion

[ThisDinosaur]

I have an irrational distaste for investing in gold. Yet I find the idea of the Permanent Portfolio's agnostic approach to investing extremely appealing. These two beliefs are conflicting.

I explain my pro-stock bias by pointing out that businesses actually produce things of value from raw materials. A chunk of shiny metal just sits there waiting for you to sell to a greater fool. But, empirically, having gold in your portfolio reduces volatility by diversifying away from stocks, cash, and bonds. I'm nagged by the thought that gold is an obsolete form of currency, who's value only comes from panicky people who foresee an impending disaster that very rarely ever comes, and would be useless if said collapse did occur.

Please persuade me to take gold seriously.

[bryan]

ditch gold, get (something like) Bitcoin instead.

but really, gold just has this mindshare, perception worldwide (throughout human history) that it is nearly a universally accepted/useful/valuable money. That's all.

[BRUTE]

what about REITs or commodity indices?

[jennypenny]

I understand every rational argument against holding gold. When you use the portfolio growth calculator on Tyler9000's site though, it's undeniable that including some gold in your allocation really tightens up all those lines. It doesn't take a lot, and I can't say that I intuitively understand why, but it acts almost like gravity within the allocation, if that makes sense.

[BRUTE]

brute's theory is that the reason is psychology. since gold has that image of being the "last resort backup", every time other things crash, people rush into gold. that's why it's so uniquely uncorrelated. and yea, it seems only gold does it as well.

[Tyler9000]

The multitude of ways that gold is tied to the world economy are certainly complicated, but it's definitely more than pure psychology. To reduce it to the "greater fool" argument while implying that only doomsday preppers would ever buy it neglects economic history and how central banks operate. This article is kinda thick, but offers a thorough and balanced perspective.

From a portfolio perspective, gold plays a double role with strong inflation-fighting qualities and a notable negative correlation to US economic performance. Both of those qualities make it a particularly powerful portfolio diversifier, especially for a US-based investor.

[chenda]

I've never quite got some people's aversion to gold; there are sound reasons as to why humans choose it over all other elements:

http://www.livescience.com/32863-gold-b ... money.html

[JL13]

I think it's negative correlation stems from the fact that people rush into gold AFTER bad things happen, not before. It's the price action that results from the mass of people closing the barn door.

[vexed87]

Gold is an unparalleled hedge against inflation and monetary collapse.

Just remember the cash in your wallet/bank is meaningless too if others do not want to take it, and with inflationary monetary policy, it's literally withering in value on the long term, unlike gold, although its price can be manipulated in the short term, it does exceptionally on the long run.

[ThisDinosaur]

It makes more sense to use a basket of other national currencies than bitcoin to hedge US inflation, as bitcoin is kind of a bet in favor of the popularity of that particular cryptocurrency over others.

REITs and commodities make the most sense as inflation hedging, but they don't seem to function the same way as gold stand-ins in back testing. I love REITs in theory, because property is a hard asset that you can collect rent on while you own it, and REITs are the only liquid way to own property. Unfortunately, REITs correlate way too strongly with stocks to be useful here. Commodities make sense because, while "gold is money," commodities are the food, fuel, and materials people will be exchanging money FOR, and so SHOULD be better inflation protection. But, again, backtesting doesn't seem to support it.

The beginning and end of Bretton Woods led to the rising popularity among nations of fiat currency. I don't foresee the government use of monetary policy manipulation becoming less common in the future. It gives them way too much control. And central bank gold reserves strikes me as banks behaving like doomsday preppers; hedging against their own currency. I don't mean to condescend to preppers BTW, I just think gold reserves would be worth more to banks than to individuals in a doomsday situation. And, of course gold tracks commodities in inflation, because inflation just means that the currency is becoming less valuable compared to EVERYTHING. So, the psychology aspect appears more important here (differentiating gold performance from commodities), likely BECAUSE gold has a long history as currency, even if that use of gold may be functionally obsolete.

Portfoliocharts is a major factor in my reconsidering the PP of late. But to get on board with it, I have to find some way to justify either owning gold or finding an acceptable replacement, hence this thread.

[vexed87]

And central bank gold reserves strikes me as banks behaving like doomsday preppers; hedging against their own currency. I don't mean to condescend to preppers BTW, I just think gold reserves would be worth more to banks than to individuals in a doomsday situation.

Considering potential SHTF scenarios (not necessarily doomsday!) is what really made me want to consider owning a little gold, you know, just in case! The PP, made me want more, lots more!

Gold would be useful in such a situation, as a means of exchange, for reasons highlighted in articles above. Barter is particularly inconvenient if you don't want what someone else is offering but still need what they have. If there were to be a medium/long term banking holiday, cash would become useless to most people, once the trust in the system is gone, your capital becomes worthless. Gold has a long standing history as a means of exhange and the benefits of doing so haven't changed, even if you don't want to follow the PP, it makes sense to have just a little gold, just as an insurance policy. Sure, 1oz bullion coins won't be particularly useful for buying loaves of bread in a hyper inflationary crisis, but don't forget that the Au is a soft metal and therefore is easily divisible, I see no reason why gold cannot be used by individuals. If it were useless metal, the CBs would have sold it all off a long time ago!

Craig Rowlands book is all you need to read to understand why gold works as part of the PP, if you replace it with anything else, it's simply not the PP, not to say you will perform better or worse, you just break the warranty!

One thing to consider though, as with all investing strategies, once they become popular and herd mentality sets in, they seem to break, maybe we should stop discussing it

[FBeyer]

I'm just looking at that graph thinking: I'm definitely NOT buying gold now...

[vexed87]

Think about it though, how low can gold really go without massive cash deflation? Even with deflation, your gold maintains it's purchasing power on the long run.

For a different perspective look at this 10 year chart: http://www.kitco.com/charts/popup/au3650nyb.html

[ThisDinosaur]

In a SHTF scenario, I think you'd be better served with a rifle and a large garden than some gold coins. In any event, I don't think gold's potential use after judgement day explains the Permanent Portfolio's success.

With respect to said success, I've noticed that PP and all "antifragile" portfolios seem to lean heavily on the performance of their most risky asset; the stock. What I mean is, the idea of having four uncorrelated assets is supposed to result in always buying low and selling high. Fine, except the only way that results in a positive non-zero return is if at least one of those assets is oscillating around an upward trend. Thermodynamically, you have to put energy/material (value) into the system, and that HAS to come from the stocks. Gold produces nothing, bond principle either goes up or down with money supply, but neither add value to the system. Try backtesting a version of the PP with a steadily declining stock allocation. It will not end well. Alternatively, try backtesting four uncorrelated non-productive assets. Also unimpressive. It doesn't help to keep rebalancing into a secular loser.

On the MMM forum, there is a long thread critiquing the Golden Butterfly portfolio where some accuse Tyler of data mining. I dont agree, I think the theory is sound. However, the returns of that portfolio depend entirely on which selection of stock indices are input. Bonds and gold reduce volatility by 1)prohibiting the sale of stocks after a drop and/or 2)buying after a crash and selling before one. If you're gonna use two different types of stocks in a permanent portfolio derived concept, it makes sense to me that one of them should be an international stock. In keeping with the rationale of the PP, a TSM + Total International would be a reasonable, obvious choice. Total international is just one more hedge against US market decline as well as currency issues, while the STT, LTT, and Gold are now hedges against a GLOBAL crisis. But this allocation doesn't produce as well as Tyler's LCB+SCV. Because the US market and these two subcategories of it have indeed outperformed the global market for decades. There's not even the slightest hint that that should continue moving forward.

So, again, the gold works awesome in those cycles where bonds, cash, and stocks all decline simultaneously (constructive interference), but I don't see why gold ALONE should be so good at this. And you still need to have predicted the correct stock blend for it to work at all.

[vexed87]

Try backtesting a version of the PP with a steadily declining stock allocation. It will not end well. Alternatively, try backtesting four uncorrelated non-productive assets. Also unimpressive. It doesn't help to keep rebalancing into a secular loser.

Yes your right, but a 100% stock/bond allocation doesn't have the advantage of preserving 25% of your wealth should SHTF and the monetary system collapse overnight. Although the chances of that happening are slim... however in such a scenario, you can pretty much bank on the fact that your gold value increases dramatically, as capital seeks safety. One would do well also to have a rifle and a garden and a strong community to boot and not just simply rely on gold, I don't think anyone has suggested such a thing?

Where PP really shines is the reduction in overall portfolio volatility, where stock/bond investors may be more prone to try time the markets and ultimately end up buying high and selling low.

If you are looking at gold alone as a single asset, it may never make sense to invest in it, but if you want the dependability of the PP, there's no way getting around the fact you need to allocate 25% to gold!

[Dragline]

I'm just looking at that graph thinking: I'm definitely NOT buying gold now...

Funny to read this thread on a day like today with gold up 2.4% while I type this.

But most investors either seem to have an irrational taste for it or distaste, with few in the middle. I think the middle is the place to be if you are looking to stabilize an otherwise volatile portfolio. I would not own it, though, if it were not almost universal accepted as having value (owned by central banks) and were it not uncorrelated with other asset classes.

Part of the problem in these discussions is that people are likely pursuing unstated goals that are not aligned. One such unstated goal is to maximize returns over a very long period. Another, conflicting, unstated goal is to minimize drawdowns or the prospect of crashes. Another one is maintain a particular SWR. Depending on your priorities, holding some gold may or may not be attractive, and may become more or less attractive at different points of your investing career.

[FBeyer]

Actually I just haven't found a sensible way to include it in my portfolio. I can't figure out how to safely store and where to buy gold at the actual prices. Owning virtual gold via an ETF seems like it has a million holes in it that I can't quite put my finger on, so I'll rely on Browne's advice: don't put your money into things you don't trust or don't understand.

I've seen plenty of evidence that a gold component makes sense, and given that I know jack-s**** about investing, I'm leaning much more towards indexing/global portfolio kind of allocation. I can understand the pros and cons of gold in a portfolio and one of the cons is that you're always dependent on someone being a bigger fool than you, in case you want to sell your gold again.

In reality I'd love to know how to include commodities and gold, but I'm hampered by an expensive selection (annual expenses of 2+ percent) or an obscure way of dealing with said assets. Edit: and blatant, m' f'n ignorance on the ins and outs of said assets of course

For now I'm just bowing out. If cold crashes somehow, I might have to reconsider whether to buy something shiny or not...

I don't know man. I don't know...

[Tyler9000]

Craig Rowlands book is all you need to read to understand why gold works as part of the PP

+1. I can't recommend it enough. @FBeyer -- If you haven't read it already, the book has an entire chapter on different ways to buy and hold gold.

If you're gonna use two different types of stocks in a permanent portfolio derived concept, it makes sense to me that one of them should be an international stock. In keeping with the rationale of the PP, a TSM + Total International would be a reasonable, obvious choice. Total international is just one more hedge against US market decline as well as currency issues, while the STT, LTT, and Gold are now hedges against a GLOBAL crisis. But this allocation doesn't produce as well as Tyler's LCB+SCV. Because the US market and these two subcategories of it have indeed outperformed the global market for decades. There's not even the slightest hint that that should continue moving forward.

So, again, the gold works awesome in those cycles where bonds, cash, and stocks all decline simultaneously (constructive interference), but I don't see why gold ALONE should be so good at this. And you still need to have predicted the correct stock blend for it to work at all.

There's a big difference between having inferior returns to the best case scenario and not working at all. If you play with the Portfolio Finder long enough, you'll see many Golden Butterfly permutations bubble to the top.

FWIW, a link I provided earlier gets into the fundamentals of how gold plays with US and international stocks. Long story short, gold is negatively correlated to US stocks and positively correlated to international stocks. Play with a 50/50 TSM/GLD and I-TOT/GLD portfolio with the heat map and you can see it visually. That's why international stocks don't do quite as well in the GB as you'd expect -- they're more correlated to gold than you realize.

But again, "sub-optimal" is not the same as "not working". It's still a huge improvement over many popular alternatives. I see absolutely no problem with a Golden Butterfly portfolio with the stocks split between Total US and Total International.

[ThisDinosaur]

Agree with everything FBeyer just said, especially that first paragraph. But, before I can even think about whether I should put a quarter of my life savings in a vault in my house, I need a damn good reason for owning it at all. The "inflation-protection" argument alone just doesn't add up for me, even while the "uncorrelated / rebalancing" evidence clearly holds up. Tyler's third link (https://snbchf.com/swissgold/gold/gold-silver-prices/) elaborates on why inflation hedging alone cant explain gold's performance in the PP. And the Gold price chart that vexed87 posted further argues that a gold bubble may be responsible for past PP numbers as well.

Inflation hedging with a hard asset makes sense, but it would have to be something that people would conceivably buy from you during stagflation, even after the world realizes that gold is nearly useless. If you owned a farm, the market price of your food is relatively higher than any other commodity or investment in hyperinflation because its the last thing people will stop buying when their currency becomes less valuable and their income and investments are not there. I like the idea of investing in a Consumer Staples fund in place of gold. But I haven't found any evidence for backtesting that allocation (portfoliocharts.com doesn't have that data).

This paper made me think of a Permanent Portfolio -like strategy using only stock sector funds that outperform in the four different economic conditions:
https://scs.fidelity.com/common/applica ... proach.pdf

But, I'd like to be able to compere it to just owning the whole market that these funds compose (VTSAX), for much cheaper, and no losses from rebalancing.

[Dragline]

Guys, the way to "own gold" without actually owning gold (either physical or paper), is to own stocks in gold mining companies, which are now conveniently packaged in funds like GDX. Word to the wise, though -- these are even more volatile than gold and do not trade in exactly the same way (they are more correlated with stock markets), which would mean you probably want an even smaller proportion of them in your portfolio if you are using them for diversification. As little as 5% would likely improve the risk/reward performance of a standard stock/bond-heavy portfolio.

For comparison purposes, GLD (paper gold) is up about 15% this year, while GDX is up about 65%. The down years are similarly like roller coasters.