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international investment philosophy

International Investments: Gold Protects
By Gary Scott

international investment philosophy

Here is a true story about gold, silver….and a small fortunate fortune.

Cold rain rattled on the window pane and an anxious wind howled. A diesel taxi rattled outside the house waiting with my family. We were headed to the airport and were late. Grey dawn filtered in the study and I listened anxiously as my Swiss banker spoke on the phone. Gold and silver had been on the move. Gold had reached $860 and ounce, silver $48.

I was speculating on the precious metals and was leveraged to the hilt. This was England in the 1970s. We were taking a trip to visit my folks in Oregon and I needed to know how much these metals could drop before having a margin call. I had no idea it was time to cash in on profits.

I was up to my neck in loans so he advised me to sell and re-establish my position when back from the trip. This created a huge profit, one of my first good hits. While away, gold and silver collapsed and have never, in over 20 years, reached those high prices again.

Those profits came from pure good luck. That trip and that rushed that morning stopped a wipe out that would have lost everything, my house, my business and who knows what.

That was a life changing event. Now precious metals are again on a fast trip up. I have not forgotten. Nor will I press my luck even decades later. Hopefully you won’t either.

Perhaps gold and silver will rise to and surpass where they were then. Seems to me they will, but maybe not.

To understand the role of gold and how I invest in it, let’s look for a moment at money.

Money makes it possible for us to buy and sell without bartering. Money gives us a "medium of exchange," which allows our complex economic system to function. Money acts as a way to put tangible, universal value on commodities and services. It helps us compare the value of one thing with another. This gives us a "unit of value," which allows us to make decisions about purchases and investments.

Money also functions as a way to store wealth -- to preserve purchasing power for spending at a later date.

Money must be real to carry out these functions. Only money created by real production can be real money, but there are six other qualities money must have if it is to work properly.

#1: Money must be acceptable by both parties in a transaction. To be absolutely universal in value, money must be acceptable to everyone.

#2: Money must be portable. One must be able to take money where it is needed. This is what has made paper and plastic money so much more popular than gold. Paper currencies, checkbooks and credit cards are so much easier to carry than lumps of gold and silver.

#3: Money must be rare and require effort (real production or work) to attain. Gold has the qualities of money. Yet gravel has most of these qualities, except rarity. Gravel is as common as dirt and if gravel were used as money instead of gold, the temptation to just pick it up on the road, rather then work for it, would be too great. Money must offer an incentive to work and apply discipline. Rarity creates this incentive.

#4: Money must be divisible and uniform in quality. In other words, people must be able to know that each unit of the money is real, not forged or altered.

#5: Money must have some intrinsic value, or be useful in itself or be backed by some intrinsic value.

#6: Money must be naturally durable. There have been many times when goods or commodities such as chocolate, coffee, cigarettes or silk stockings, etc. have been used as money. The conditions were such that the commodity was so desirable and so rare that these two qualities were enough to make them a form of money. Yet they fail to last as a money because they are too fragile and once consumed cannot be used as money again.

Gold and silver fill the six categories. Some early goldsmiths, stored gold for others and offered receipts stating how much gold was being warehoused. These receipts had value, since they represented claims on a specific amount of gold. The receipts began to be exchanged as money. They were easier to carry metal, but were as good as gold? Paper money began as receipts backed by something of value (usually gold or silver). Then governments took over the role of creating paper money and slowly eliminated the precious metal backing.

The U.S. dollar was backed by gold or silver. When this backing was removed the first big gold spurt took place. Since then the confidence in the U.S. dollar has continually eroded and the value of the dollar fallen. As the dollar is still the reserve currency of the world, other currencies that are backed by the dollar lose confidence as well. Until confidence in the dollar is restored or until a new reserve system is created, there will be global currency turmoil.

Gold has proven itself over thousands of years to be real money. The price of gold is volatile, can rise or fall dramatically and can remain depressed for years, even decades (as has been the case of the price of gold through most of the eighties and into the nineties). Every historical study of the long term price of gold shows that over time, it has always risen versus currencies that are not backed by gold or a precious metal. Every investor should consider holding part of his investments in gold on a long term basis as insurance against currency turmoil.

A study of gold prices dating back into the 1600s shows that gold tends to rise in spurts every 15 to 25 years.

We are in one of these spurts and the big question is how high will gold (and silver) rise now.

The price of gold in the 70s was $35 an ounce. It rose way too high (to $860), then plunged and eased slowly over many years down into the $200 an ounce range.

If we look at gold as a store of true value it should now be somewhere between 12 and 16 times its $35 price in the early 70s. Houses, bread, gas, most things cost 12 to 16 times what they cost in the early 70s. But what was the correct price then? If $35 an ounce was right, the correct price of gold now should be in the $420 to $560 range. Gold was probably worth more than $35 an ounce, perhaps $70 an ounce. If so this could mean that gold should be worth $840 to $1,120. It certainly could reach these heights now.

When gold reached from $35 to $860 it was way overvalued. These means if it is worth $700 or $800 an ounce now, it could go much higher…for a bit.

Then, assuming the yellow stuff follows its nature (as it has for 500 years or so or may be much longer), it will crash again.

There are numerous ways to buy gold. You can buy numismatic coins (unless you really are a collector and know what you are doing-don’t do this). You can buy bullion coins. You can buy gold bullion in Swiss, Austrian, and banks in several other countries (either segregated or held in common). You can buy gold certificates. You can invest in shares of gold mines and gold mutual funds that invest in mining shares. Plus you can speculate in gold futures and gold options. Ditto all this with silver.

Since buying and holding physical gold is expensive (because of storage costs) and because physical gold does not pay interest or dividends, an alternative to owning gold is gold backed investments, such as gold shares.

There are many mutual funds that invest in gold shares and you can see and track many of them at http://www.eaglewing.com

You can learn about how to buy gold shares from Jyske bank. Contact Thomas Fischer at fischer@jyskebank.dk

You can learn how to hold gold at a very low costs with Perth Mint Certificates from Michael Checken at Asset Strategies. Michael is one of the real experts in [precious metals who has continued dealing in gold over the last 20 years. You can reach him at rcheckan@assetstrategies.com

If you have speculative blood, you can buy futures, options or buy the metal with leveraged purchases. This is what I did. Just remember, only pure, good luck stopped me from losing my shirt.

Here’s a prediction about gold. Some people will make fortunes speculating in gold. Most will lose. Some will lose heavily.

If you are a skilled trader, then by all means speculate now (you probably already are). Maintain your normal disciplines, stop losses and never speculate more than you can afford to lose.

Personally I keep about 5% of my liquid portfolio in gold and silver and have for years. I am seeing this portion of my portfolio rise a lot now. Soon, I’ll put some running stop losses (at about 15%) on my metals and sell during the high price. Then after the crash I’ll buy back to the 5% level again.

Personally I prefer to take my risks now in real estate, business and a few shares in industries I know. They pay interest dividends and don’t hang around in the cellar for so many years.

If you know gold and or silver really well, by all means speculate…but exercise caution. In the days ahead there will be plenty of hype about how high gold can go. None of us really know!

If you hold gold as an insurance policy then it is doing well now. Just remember that profits come from buying and selling. The price of gold may be nearing where it should be. This does not mean it won’t go higher…even much higher. Know that you are speculating on the bubble and don’t be ashamed to take a profit.

international investment philosophy
May, 2006
international investment philosophy

 

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