Time to Invest in Gold?      By A. Raj Kumar          March 25, 2008

                 Gold is going through the roof: it recently went over $1,000 per ounce!  I am sure you are wondering whether it will continue its upward climb and whether it’s too late to buy.  In my opinion, gold will continue to appreciate because the macro-economic factors that drove it to this level are still in place.  But remember that gold and other commodities are extremely volatile and buying opportunities periodically present themselves so be prepared to act quickly.

 

                 So what is going on?  Many economic factors are affecting the price of gold but the main reason is the falling U.S. dollar.  Investors are fleeing the dollar to the safety of gold.  The monetary policy of the U.S. is having a huge impact on the dollar’s value.  The Federal Reserve Board (the Fed) has been lowering interest rates quite dramatically.  Since September 2007 the Fed has lowered interest rates by 300 basis points (or 3%) which is unprecedented in the history of the Fed.  Since interest rates are higher in other countries, global investors are moving their excess cash from dollars and parking it in countries with higher interest rates.  Investors also fear a recession in the U.S. so they are selling their dollar denominated assets and buying other foreign assets.  When the dollar falls, many other investors run to the safety of gold because gold always retains its value.  For example, an ounce of gold bought a high quality businessman’s suit in the 1970’s and it still buys a similar quality suit today.

 

                 The twin deficits are also having a huge impact on the value of the dollar.  The federal government has been spending way beyond its means and running up deficits.  In fact, the total federal deficit is now over 9 trillion dollars!  American consumers have also been doing their part.  We have been buying a lot of foreign items like flat panel TVs, foreign cars, clothes from China, Samsung cell phones and Nintendo Wiis.  We are running a trade deficit of $2 billion daily!  Both these deficits cause the U.S. dollar to fall.

 

                 The falling dollar makes foreign goods more expensive and that increases the inflation rate here.  Investors believe that the Fed is not fighting inflation (and in fact, letting it get out of control) since it is trying to prevent a recession and a financial crisis (because of the sub-prime mess) by lowering interest rates.  If it had been fighting inflation, then it would be raising interest rates and not lowering them.  We clearly have inflation: gasoline prices are over $3 per gallon, prices for food items are up, college cost are up dramatically and of course, healthcare expenses continue to skyrocket.  Gold is a terrific hedge against inflation since it retains its value over time.  People are buying gold, a hard asset, because they fear inflation, which erodes the purchasing power of the paper dollars they hold.

 

                 What should an investor do now?  What is the best way to own gold?  You can invest in several different ways: 1) buy high quality gold jewelry (either 18 or 22 carat), 2) buy gold coins such as the Canadian Maple Leaf or the US Eagle, 3) buy gold bullion from a gold dealer, and/or 4) buy an exchange traded fund like streetTRACKS Gold Shares (symbol GLD).  These are all long-term investments.  For short-term needs I would suggest that you visit www.EverBank.com, an online bank that offers CDs and Money Market funds linked to the value of gold as well as several foreign currencies.

 

                 Another great way to hedge against the falling U.S. dollar is to do what Warren Buffett has been doing lately: invest in foreign companies.  When you buy a foreign stock, you own a foreign asset that will appreciate in value when the foreign currency appreciates against the dollar.  The U.S. dollar index just recently hit an all-time low around 70.  The Euro is near its high of $1.57, the Canadian Loonie is now around $1, and the Yen appreciated from 122 to 100 in the last few months.  The Brazilian Real doubled in value against the dollar since 2002!  Buffett, in fact, just revealed in his 2007 shareholder’s letter that he holds several hundred million dollars worth of the Real!

 

                 If our inflation rate increases substantially over the next several years (as I expect) and the twin deficits continue to grow unchecked (as I expect), then I think gold will prove to be a terrific investment.

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