All that Glitters is not Gold

As the world economy reels and markets around the globe plummet, gold has made a comeback as the darling of speculators and terrified investors alike. Some folks are so worried about the collapse of the economic system they are purchasing gold bullion and having it delivered to their homes. (See WSJ article).

Up more than 9.7 % this year, gold has been one of the few opportunities for positive returns in a dreadful period. So why aren't we jumping on the bandwagon and recommending gold to our clients?

Historically, gold has been a terrific hedge against inflation. As the dollar, or any currency, weakens, investors turn to commodities with perceived value, driving up their prices. In today's world, where long-standing institutions are failing and once-in-a-lifetime events seem to happen on a daily basis, many buyers are again looking to gold as a "safe" asset.

Unfortunately, it is anything but that. Contrary to popular belief, gold has no intrinsic value -- it is simply worth what the market will pay at any point in time. And that price has been extremely volatile over the years, rising and falling very dramatically over short periods of time. In the last gold rush, during the early 1980's, many speculators lost their shirts by mistiming the market. In fact, individual investors have been notoriously horrible at deciding when to buy and sell gold. With prices up so dramatically this year, it's not surprising that frightened buyers are piling in.

As with anything else, the smart time to buy gold is when the price is low, not at a high level. And the smart way to hold it is in a mutual fund or ETF and as a very small (2% or less) percentage of your total portfolio.

Gold pays no dividends or interest, and for those who choose to physically hold gold the costs of shipping, storing and securing their investment are very high.

Moreover, gold is best used as a hedge against inflation, yet most economists worry that the biggest risk we now face is global deflation.

On balance, we don't see gold as a panacea for an ailing portfolio, or even as a good buy at current prices. We're sticking to our boring mantra -- diversify, diversify, diversify -- and in these tough times adding a folksy adage: Patience is a Virtue.

Copyright 2009 Money Dames