Vedran Vuk here, filling in for David Galland. Today, I'm going to approach the subject of owning gold in a different way. Usually, we explain all of its benefits and the characteristics that make gold so special. Though it's a good case, lots of people remain unconvinced. As a result, today I will explain why you should hold gold even if you think that it is the dumbest thing on earth.
Then I'll offer a short commentary on the fleeting value of fiat currencies. After that, we'll have an article from guest contributor Chris Marcus on the recent Facebook IPO –what you can do to avoid similar situations, and how we are now better-armed than ever to avoid investments gone wrong. Last, I'll end it with some Thanksgiving and Black Friday cartoons.
Before we get started, I have one small announcement, of which we are very proud:
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Even if Gold Is Stupid, It's Still Smart
By Vedran Vuk
There have been decades of debate in finance over gold – long before the recent, rapid rise in gold prices. Some see gold as a way to diversify into an asset with less direct correlation to the overall market. Others view gold as no more than a lump of yellow metal. It produces no cash flows. How can it be possibly worth anything?
In a way, the naysayers are right. Gold does not produce any cash flows, so that naturally makes it suspect. If someone were trying to sell me a stock that produces no cash flows and never will, I'd tell him where to stick that stock –and let me tell you it wouldn't be inside my brokerage account.
However, any company faces this same problem with its products. Take Apple, for example. Does Apple produce cash flows and dividends? Of course it does. At the same time, its products don't do anything… they're not much different than a lump of gold. No, I'm not crazy. Your Apple iPad does not produce cash flows. Not a single cent – just like an ounce of gold. Of course, Apple sells iPads to make cash flows and dividends, but really the same is true with gold. Newmont Mining and Barrick Gold also earn cash flows and pay dividends as well by selling their product: gold.
However, there's a reasonable objection to this point. A gold-hater might say, "Wait, I'm still right. Gold is stupid. It's just a block of metal. An iPad is actually useful and fun." True, but who is to judge the preferences of others? Gold might be stupid in some people's eyes, but maybe purchasing an $800 iPad is stupid in others'. Personally, I think that they're way too expensive. I like the iPad, but at its current price, I could go the rest of my life without owning one.
The world is full of products which someone else finds dumb. Here's another example: Louis Vuitton purses retailing for $3,000. In my personal opinion, if you're spending that kind of money on a purse, you're an idiot. Does that mean that I would never invest in Louis Vuitton? Even though I personally think these purses are dumb, my opinion doesn't change the fact that others continue to buy them. Hence, at the right price, I wouldn't mind owning shares of the company. The marketplace is not about just betting on products that you think are great, but investing in products that others find worthwhile.
This is what the anti-gold crowd doesn't get. Even if you think that gold is pointless, a whole lot of other people in the world think otherwise – and they are going to keep buying gold as they have been doing for thousands of years. When times get tough and inflation rises, people will buy even more gold. Maybe they've all lost their minds, but that won't change the end result of skyrocketing gold prices. Many societies values precious metals, and they will continue to do so.
However, the same can't be said of many other products. If I buy a $3,000 purse for my wife and a new iPad, what will those be worth in 10 years? The purse will probably end up in a thrift shop, and I won't be able to give the iPad away to a homeless man within a decade. With gold, it's different. If you buy an ounce today, it's going to worth something a decade from now. Maybe it'll be worth $5,000 an ounce... or maybe $200, as the naysayers believe. But it certainly won't be worthless.
Even stocks won't necessarily keep their value. Sure, Apple's cash flows and dividends seem stable now, but where are they going to be in a decade? That's a long, long time in the world of tech. Are you sure that they'll just keep making amazing product after product? I wouldn't bet on it. Maybe the stock won't be completely worthless in ten years, but what about a more distant time frame?
Would you bet against me in the following proposition? I bet that in 500 years, gold will still hold some value, while Apple's stock will not. Few companies have retained any value over 500 years. In any time in history with almost any company, I would come out ahead in that bet. The odds are overwhelmingly in my favor.
But there's a problem with my bet – besides the fact that both bettors will dead in 500 years. What are we going to bet: $1,000, $50,000, or maybe even a billion dollars? Do those stakes sound too high to you? They don't sound very high to me… have I gone even crazier? No; the crazy person is the one who would accept the bet in US dollars.
Even if you're really optimistic about the country's immediate future, the long-run track record of fiat paper currencies is pretty bad. Those dollar bills might be worth something in 500 years – in a museum, but not on the street. Even at a low inflation rate of 2% over 500 years, a million dollars will have the purchasing power of a little over $50 today.
Look, maybe you still think that gold is stupid – and that's fine. But the fact of the matter is that much of the rest of the world doesn't. In fact, the world has valued gold for the last few thousands of years. This perception has survived wars, recessions, plagues, and natural disasters. Just like some people will keep spending money on expensive purses they don't need, others will keep buying gold that just sits in a vault and does nothing. Maybe the gold naysayers are right that buying gold is silly, but that's not going to stop people from doing it.
So, here's the conundrum for the anti-gold crowd. If everyone keeps buying gold regardless of what happens, is it really so stupid to own it? Hey, I think that paper money is the dumbest thing on earth, but that doesn't stop me from using it. Getting the market right is all about figuring out what other people want, rather than being swayed by your personal biases. As a result, even if you personally think gold is stupid, it still is a smart investment.
Some Thoughts on Perception and Money
By Vedran Vuk
A few years back, I had a good night at the casino. Don't worry – I'm not much of a gambler, but I do enjoy a low-limit game of Texas hold 'em every once in a while. If I play my cards just right, I can pretty safely walk out of the casino earning about minimum wage for my time there. To say the least, I shouldn't quit my day job for professional poker. Anyway, on this particular night, I had done much better than average and was cashing in several hundred in chips.
The lady behind the cage counted out my bills and handed me the money. To my surprise, she included an extremely wrinkled and old $100 bill – the one before Ben Franklin's big face. I hadn't seen one in a decade. I was about to walk away, but then it hit me. I turned back to her and said, "Wait, I don't want this bill. Can you give me a new one?", and she did.
Why did I turn back? At the time, I was living in the inner city of a major metropolitan area. Stores in such areas always have problems with counterfeit bills and scam artists. Sometimes, even a brand-new hundred-dollar bill is almost useless, as no one wants to take it. If you have something like an old hundred-dollar bill, you can pretty much only use it at Walgreens or Walmart. In very real terms, the old bill was almost useless currency to me.
It's amazing how our perceptions of paper money can change so quickly. Fifteen years ago, I would have been more than happy to hold the bill in my wallet. Now, I didn't want anything to do with it. What had changed? Just the ink on the paper... kind of scary in a way. It goes to show that there's no intrinsic value to paper money.
Preparing for and Adjusting to the Market
By Chris Marcus, Guest Contributor
Many investors have expressed frustration over the recent Facebook IPO and its subsequent trading. Some think that Facebook is an example of a systematic bias favoring wealthier investors who can access earlier stages of the funding process prior to a company going public, and the small, retail investor is the one who loses when the IPO finally comes out and goes bust. That may well be true. However, rather than focusing on the unfairness, we should find better ways to protect ourselves in these situations. After all, no one is forcing us to invest in Facebook. Fortunately, it is possible to do something about these sorts of fiascos.
Always remember that trading is a process where one must not think about what is fair, but instead about what is likely. Once that becomes part of your mindset, a more effective game plan can be developed. With that in mind, here are a few important ideas to consider when making trading decisions.
Lesson #1 – Do Not Be Afraid to Pass
Perhaps you also thought a Facebook valuation of $100 billion was a bit rich. I exercised my choice not to buy it. If I felt extremely confident that it was overpriced, I had the option to short it. Life goes on without owning shares of Facebook. With the myriad of securities and ETFs currently available, you can choose to be selective and focus on the opportunities that you are most confident in. Just because it's new and hot doesn't make an IPO a good investment.
If you know more about Facebook than the other people trading it and can profitably execute both the entry and exit points of the trade, then it might be a great opportunity. If you don't understand how Facebook could justify that valuation, then it's OK to pass.
You can have an opinion on a security without needing to have a position in it.
Sometimes just following the name and continuing to update your view can lead to a better opportunity at a later date. By then, you might also have more familiarity with the name and can be even more confident in your decision-making.
Rule # 2 – Be Careful Whom You Listen to and Trade Against
By now investors should also be aware that different analysts have different reasons for saying different things. The past few years have revealed enough scandals to remind us to be careful about who and what we listen to. However, it is impossible to be at all places at all times; trustworthy outside research is extremely valuable. The key is to find the correct balance between doing your own homework and carefully outsourcing other parts of your research.
As you read the opinions of different analysts, keep track of who is consistent and accurate. Study the decision-making of the person and see if it flows logically. Observing the way a person connects facts and arguments can be a useful tool when trying to validate his or her opinion about more technical aspects. For example, I do not have the expertise to determine whether a biotech drug will be effective or not, but I can read a research report written by a biotech analyst and form an opinion based on the other verifiable elements. Do the statements that the analyst makes flow logically? When he or she uses data to make an argument, is the conclusion consistent with the data points?
There is a saying that goes, "How you do anything is how you do everything." If someone is consistent and logical in one area of analysis, it is often an indication that he is likely to be doing quality work in other areas. This is a great starting point. Then, follow that up by keeping track of the individual's statements over time. Being consistent with this process can serve as the foundation of an effective research outsourcing process.
Rule #3 – These Markets Aren't Clean, But That Doesn't Mean There Isn't Opportunity
To some degree, it is virtually impossible these days to avoid the presence of manipulated markets. Recently, it was discovered that the LIBOR has been manipulated as well. Sadly, it is best to assume that a market is not necessarily pure until verified otherwise. However, this doesn't mean that the market cannot be traded.
While the Federal Reserve might not choose to phrase it in this manner, its main purpose is to manipulate US interest rates. It is using open-market operations to force the cost of borrowing to a level that deviates from what the free market would normally price. The results are asset bubbles, seen with increasing regularity.
If one is unfamiliar with the business cycle as explained by the Austrian school of economics, events such as the collapse of the mortgage market came as a great surprise. But when one is clear on the eventual outcomes of the misallocation of capital, these events are predictable – and there is great opportunity in understanding how these situations must ultimately unfold. The key is to pay attention to what is going on and know what you are getting into before you invest.
You Can Be Empowered with Your Knowledge, Unlike Any Other Time in History
Despite all of the pitfalls, it's important to remember that you also have advantages on your side, unlike in any other time in history. The advances in computing technology and the arrival of the Internet provide new levels of access to trading platforms and information-sharing that did not previously exist. In the past, investors without a seat on the floor or a relationship with a big firm were at a significant disadvantage. Now, with access to electronic brokerage platforms and unlimited research, the playing field has become more level than ever. Today any investor with the ability to think strategically has the opportunity to participate in the markets and succeed. If you think markets are rigged now, you should have seen how bad they were 80 years ago.
That does not mean there are no challenges, as it's important to develop the ability to know how to sift through all of the options and know what to choose. But there are many great people doing honest and useful research. And when you have carefully verified the sources, the ability to make informed decisions increases significantly. Continued due diligence and a commitment to learning will continue to provide you with the ability to trade successfully while protecting the safety of your assets. We'll probably see more messes like the Facebook IPO in the future; however, with a little luck and some common sense, you can avoid the worst of it.
And now for our Thanksgiving Friday Funnies. Here's a few from the incredibly funny website someecards.com.
And after stuffing our faces and giving thanks for what we have, it's:
The next one is not a Thanksgiving joke, but too good to pass up.
And one last turkey joke…
That's it for today. I hope that you had an excellent Thanksgiving holiday and that you've made it through Black Friday with only minimal bruises and injuries. I'll be with you one more week, but then David should return to the Friday CDD in December. See you next week, and don't forget to check out the International Speculator half-price offer. It's a one-day-only deal, so don't miss out. Thank you for reading and subscribing to Casey Daily Dispatch.
Casey Senior Analyst