Gold Investing

Since I am often asked by people how to invest in this gold bull market, I wanted to take some time to address these questions in a post. My main focus as an investor isn’t worrying about choosing between gold juniors, gold seniors, physical gold, or other minor aspects of gold investing. My primary concern is knowing that I am investing in the right asset class. If you pick the right horse, the profits will take care of themselves.

I’ve noticed over the years that investors have an irrational fear of taking drawdowns. Now let me ask you something: If you think gold is going to at least $2,000, why do you care if you buy at $1260, only to see gold drop to $1200? I never knew there was some kind of award for timing moves perfectly. In the long run, it makes no difference whatsoever.

I personally think we are due for a correction in gold. A correction to $1240-$1260 is reasonable in my opinion. Now this doesn’t mean I am going to sell any of my positions; it simply means this is a price level I would consider adding at. If the correction doesn’t arrive and gold shoots straight to $1500, do you think I care? I’ll be dancing on the streets. I have my core position intact and I won’t sell until economic conditions materially change.

I know the average person gets perturbed when their investments don’t rise the exact moment they buy. Most people pay lip service to a “long-term” approach to investing, but the long-term approach to investing for them usually means ignoring losses because they don’t want to recognize them. As for gains. they take them as soon as possible to offset losses. This is honestly how the average person invests. The way I think is on a truly long-term time horizon. I really don’t care about short-term drawdowns if it allows me to build a big position. I’m not scared of timing mistakes because you know what? Every single timing mistake I have made has been forgiven because I bought into a bull market.

Gold will have to do what every other asset does in a bull market: It will have to undergo a paradigm shift. That paradigm shift has yet to arrive because people are still fighting this move. There is a direct correlation between investor sentiment and dynamic price movements. When there are no more corrections in gold, that’s when I am going to start getting nervous. This type of price action will indicate that the public is starting to get involved.

Now take a look at the charts of gold since last December. This is what has essentially happened: Rally, pullback, consolidation. Rally, pullback, consolidation. Now tell me, how the heck is this a bubble? This is normal bullish price action if I ever saw it.

Just ask yourself these questions: Do you believe gold is in a secular bull market? Is more quantitative easing ahead? Is our economy improving or deteriorating? Is confidence rising or falling? Go to the root of the problem instead of over-complicating things. What people don’t realize is that there is real beauty and genius in simplicity. If you can’t explain things in a simple manner, chances are, you don’t know what the hell you are talking about.

Let me give you one example. Many of you are aware of Fed economist Kartik Athreya’s critique of economics bloggers. If you haven’t read his piece, you should take a look- it’s pretty hilarious. Apparently Athreya believes economics is so damn complicated that you need a PhD to understand it. This is such a joke of a comment that I don’t know if it is worth addressing. Anyway, here is a brief excerpt from his little diatribe:

“Many of those I am telling you not to listen to will more than successfully be able to match wits, in any generalized sense, with me. This is irrelevant. The question is: can they provide you, the reader, with an internally consistent analysis of a dynamic system subject to random shocks populated by thoughtful actors whose collective actions must be rendered feasible? For many questions, I and my colleagues can, and for those that the profession cannot, the blogging crowd probably can’t either.”

So what did this guy say in his elegant little essay?

Markets are dynamic.

Everything else he said was fluff. Is it any wonder then that this economist at the Federal Reserve didn’t warn us about the financial crisis? Am I the only one who sees the irony in his little rant? Apparently there are people who understand economics a lot better than our financial leaders, and that is at the core of the problem we face today. Our leaders are too arrogant to listen to us little peasants. What a shame.

Anyway, I assume most of you aren’t enamored by fancy titles and are more concerned with tangible track records. So let me tell you, if you want to actually crush markets, you have to use the energy of the market to your advantage instead of imposing your views on the tape. I’ve seen it over and over again: people get fixated on expecting a certain event, and this is what loses them profits. Think back to the correction in February. Most people were devising a master plan about buying gold when it hit $900. Gold then corrected to only $1040 before zooming straight up. From an expected value viewpoint, you should be buying every dip in a bull market instead of scrimping on a couple of dollars. In the long run, you will be fine.

A lot of people are expecting weakness in the stock market to bring down gold stocks. They are expecting a repeat of November 2008. I honestly think we will not see a correction of that kind again in this bull market. 2008 was the time to add to gold stocks when it wasn’t popular. Now, even the village idiot can pull a chart and see what happened in 2008 and mechanically wait for that event to repeat so they can buy. This is not how markets work though- you rarely get a chance to amend your errors so easily. While we probably will see many 20% corrections in gold stocks, the 90% collapses are likely behind us.

The Value Approach to Gold Investing

Most investors should be aware of Benjamin Graham’s approach to value investing. Basically Graham invested in companies whose liquidation value was greater than their market capitalization. This approach is far better than most blind approaches to investing, but it is still flawed in many ways. One of the obvious flaws is that assets will not necessarily sell for the price it is carried in your books. This approach also doesn’t account for flawed and deteriorating business models.

Warren Buffett was a disciple of Graham and took his approach to value investing to the next level. Buffett, unlike Graham, had no problem investing in great companies at fair values. From a Graham perspective, you would probably not buy gold right now- the price is too high. But the fundamentals for gold are very bullish. This is an asset that is likely to outperform in the future. Buying at current prices isn’t ideal, but you are buying a great asset at a fair price.

Never assume anything about the markets. The natural inclination for people is to think markets are orderly and efficient. This is the kind of garbage that is taught in business school. Now is this true based on empirical observation? Let’s see.

Prior to a crash, do markets fall 0.1% day after day so everyone has ample warning to get out and preserve their capital? Do price and value converge gradually? Yeah right. Markets crash suddenly and wipe out investors who assume there is order in markets. The market is a dynamic beast. The coming move in gold will be a stock market crash in reverse. Do you think gold is going to rise steadily day after day, thereby allowing everyone to jump on board? No way. There will be a  truly shocking dynamic move to the upside that very few will capture. You can see why I don’t want to lose my position until then.

Conclusion

I keep on telling you that the most exciting times to be a gold investor are ahead. It is hard fror me to fathom some of the possibilities in gold. I hope that I have successfully drilled it into your head that you must be able to hold for the epic gains. This is what separates the men from the boys. I can tell you with a great deal of confidence that we won’t have this kind of pervasive stupidity in our government for a long time, most likely generations. This is just one of those times in history when crazy stuff happens. A complete collapse of confidence is a rare event,  but it is what’s coming. There is not much else I can say. You either believe me or you don’t. The truth will be crystal clear soon enough.

Source: http://expectedreturnsblog.com/?p=1040