I’m probably going to make a few people very upset by writing about this, but the short answer is more YES than NO.  So before I start getting some hate mail about why I think the Yellow Metal is useless, let me clarify that it’s technically useless for the purpose that most investors are using it for–protection against inflation.  

It’s been countless times where I have had someone ask me “why don’t I invest in Gold to protect against Inflation?” or read some newsletter talking about how investors are supposed to protect themselves from the coming “Hyperinflation by investing in GOLD TODAY.” This question has, of course, become much more popular as many of us saw the yellow metal nearly quadruple in price over the last decade.  Well in order for gold to protect someone against inflation, it technically needs to be tied to the dollar in some way.  Many investors are continuing to pour billions of dollars into it because they believe that the bars are tied to the paper currency.  This is being done by individuals and institutions through open ended funds, ETF’s, money managers and even outright purchases of gold bars.  Unfortunately, this assumption has been an incorrect for nearly 40 years.

Throughout the last several centuries, all of the major monetary systems were anchored by gold.  When countries traded with each other, using currency, they made sure that it was backed by the yellow metal–hence the need to consistently mine more.  In 1971, the Bretton Woods system, or so-called “Gold Standard,” broke down and was eliminated by the United States Government.  The current backing of each dollar, that we hold or owe, is the “Good Faith of the United States of America.”  In so many words, we have had and extraordinary amount of currency being printed without knowing whether or not we have enough Gold Bars to make the paper worth the denomination printed on it.  Are you still questioning why all of our country’s bondholders are getting worried?  To scare everyone a little more, we also don’t know exactly how much money is currently in circulation since the Fed decided to cease reporting the broadest measure of the entire supply of money within an economy in March of 2006–M3 (money supply). Note that M1 and M2 are still being reported, but they are not as broad.

With all of the new money being printed at high speeds in Washington over the last several months by our new administration, it has brought the “how much” question to mind more than a few times.  A very wise old man once told me “don’t go write a check you can’t cash!” I think he was referring to something else at the time, but somehow I get the feeling like it can also be used here.

So a few obvious questions that come to mind at this point are:

1.  How/Why is Gold going to protect anyone from inflation if it isn’t pegged against the paper currency?
2.  What is the current Gold to Currency ratio?
3.  Why are all these funds and fund managers lying to people (again)?
4. Why did gold go up so much if it’s not pegged to dollar?
5.  What kind of printer does the government use? (pure curiosity)

I can’t answer all of those questions, but will do my best with a couple of them.

I am not trying to alarm you or scare you more than you may already be with everything that’s going on in this world.  The United States of America has the best credit and economy in the world.  If we really put everything in perspective, our economy is larger than the next 4 largest economies in the world……Combined!. We do owe an extraordinary amount of money (approximately $55 Trillion and counting), but that’s an issue for another day.  The point is that Gold is a very limited metal, and cannot protect you against inflation.  Only about 1/8 (12%) of all of gold is actually used by the general consumer (i.e. jewelry etc.), with its largest customer being India.   I’m guessing that the only reason why its become so hot is because Wall Street needed something to temporarily market and replace the “old products,” because it definitely wasn’t demand going up by 400%.  It’s a very similar, if not the exact same, reason to why Oil (the Black Gold) skyrocketed to nearly $150 per barrel last summer–pure speculation.  Remember, Wall Street is the biggest and best marketing firm in the world.  It’s not always a matter of profits and losses, but a matter of consumer demand!


So the next question would be “why would anyone invest in Gold?” Having family in the jewelry business, and growing up with the day to day teachings of the profession, I still can’t bring myself to see a fundamental reason.  But if someone wanted to speculate that the precious metal will have more demand than “projected supply,” then you have the only reason you ever need to speculate into something.  Gold Jewelry is luxury first, investment second (and you’re probably not buying 100 ounces of it).  If you are using Gold as an investment, based on supply and demand for something tangible, than it may find a small place in your portfolio.  The main purpose of this article is to educate you so that you don’t go into it blindsided, thinking that President Obama is helping your investment cause by printing more money.   In my opinion, if you wanted to protect yourself against inflation, you are better off buying a company that is growing at a pace that’s at least double the rate of the historical average of inflation. The good news is that you can buy that company at a steep discount today.  If you don’t like the stock market, than you can still do very well in the Muni bond market by buying some tax free bonds for a small discount.  Either way, they are simpler, and the securities are backed by the solvency of an entity rather than dependence on continued speculation.  This is not a fact, but it’s better than an opinion!




About Ron Reuven

Yaron “Ron” Reuven is the President & Chief Investment Officer of Reuven Capital Investments, LP. His expertise is in business valuations, financial model & theory analysis, and financial industry compliance.
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