Since entering this business in 1973, I have witnessed the end of the gold standard, the move of silver and gold to frothy peaks in 1980, the subsequent period of interest rate returns of 18% p.a., the crash of 1982, 1987, 1992, 2000, and 2008; the period between 1992 and 2002, when metals virtually did not move and the move from 2003 to present.
As I have celebrated my 60th birthday, I thought it would be interesting to take a retrospective on the markets, but more specifically to see what if anything has changed in the minds of metals buyers over this period.
This muse is not intended to develop a theory as to where metal prices are going, but is focused on the buyers perception, on not if they should buy, but what. The “what” is determined almost entirely by personal psychology.
There are a few more vehicles available to today’s metals buyers that were not around in 1980, but a full 95% of products that are available in today’s market were accessible to the average buyer in 1980.
The doomsday prophets were abundant in 1980; in fact some are still around today. Their credo, buy metal, build a bunker, get six months of food and buy a gun.
The conspiracy group also existed. There are no metals there to back up your position. The market is being manipulated.
Government seizure of gold and moving your assets to another country were also popular themes in the 1980 era.
Hyper-inflation is around the corner.
Buy metals which will be the only barter tool available when the financial system implodes.
All of these dire threats are heard on the street today. I am not disputing the reality, that any of these events are real, but the point is that for each scenario you need to consider the right way to own metals.
It is to these approaches and psychological sub-groups that this article speaks.
The Gift Giver:
I want to buy that shiny thing in the window. Giving precious metals as gifts, be it for religious milestones, births, weddings, graduations etc. has been around since the first gold coin was struck. The psychology of the buyer here is that the product needs to be in uncirculated condition and sometimes even represents the event, i.e. a picture of a baby on it. The premiums on these items are outrageous for the most part because the production lots are extremely small. Many coin dealers carry these products, most bullion dealers do not. The large premiums are inconsistent with the business of an industry bullion dealer. I suggest, visiting a local coin dealer directly. You then can make an informed decision and pick out the piece that matches your criteria. Again these items should be viewed as gifts and not as vehicles to participate in the metals market.
Have you ever bought a diamond ring? You may pay $1,000 for the piece, the appraisal comes in at $2,000 and the insurance company actually insures it at appraisal cost. Sounds like a great deal. Take that same ring on the same day to another jeweler and ask what they will pay for it. You’ll be lucky to get 50% of the value that you just paid for it. In my 40 years in the business, that has been the general rule for collectible coins and medals. One dealer says it is extra fine when he sells it and the buying dealer sees it as very fine when he buys it. Perception or reality? The difference may cost you as much as 50%, depending on the piece. The odds of making money on a collectible are about the same as buying penny mining stocks, about 1 in 99. Liquidity is almost non-existent and the value generally rests in the eye of the beholder, which when you are selling always seems to be less focused than your perception.
A) Currencies globally are losing their purchasing power on a daily basis. B) The United States government is going to confiscate your gold. C) Hyper inflation as seen in Germany in the 1920s is around the corner. D) The moral and civil code of society will implode and you will need metals to barter for life saving necessities.
I am not here to debunk any of the above beliefs. But if you are in any of the sub categories above or believe in all, what do you do. In this category you have already been convinced to buy gold, You don’t trust the banks and you would not store the metals in the US, no matter with whom. You may not even care where the price is. It’s going to triple or quadruple anyway. You want protection against the inevitable collapse of Western society. Dealers convince you to buy the smallest units, which are price prohibitive because when the end comes this is what you’ll need to barter with. I may be wrong, but if the end comes, I suspect that if I want to barter for gasoline my counterpart would ask for something useful, i.e. food, clothing, as opposed to a small silver bar. Inflation is a real threat and historically metals have done well in these periods. Your focus needs to be liquidity and safety. Geographical diversification is always a prudent decision to protect against geo-political risks. Your mutual funds offer global reach in their product mix and physical storage “outside of the US” is a reasonable suggestion. If you take delivery of physical product you have concerns such as security, shipping expense, but most of all “liquidity.” If you are looking to sell, you need to arrange transport back to the dealer. In an allocated storage account the dealer “should” be able to make you an expeditious market. Deal with someone that has been around in the good and bad times. In the past five years you would have had to try to be a bad businessman to lose money. How many of today’s dealers survived the 1990s when the markets were flat. The markets will again flatten out and many of today’s “best in town” will be long forgotten.
This individual does not care if we get hyper-inflation or a return to normal prosperity. The trader needs volatility. There is no loyalty to the investment and positions can be maintained for moments. The psychology here is strictly profit. Buying physical metal is much too expensive from a spread perspective. The trader is looking for tight spreads, liquidity and movement (volatility). The futures exchange offers the best vehicle for the “experienced” trader. It’s a dangerous market for the novice. For individuals that wish to hold metals in a less expensive way than in physical form, unallocated accounts are at times an excellent alternative. Spreads range for 1/8% to 1/4% of 1%, which compares to spreads on physical ranging from 2% to 7%. It is important with these accounts that the metals are segregated from the assets of the dealer. Larger dealers offer 24/7 capability with these accounts and also provide alert services to keep clients aware of price movements. Since these are fully paid for positions, individuals do not need to worry about margin calls or mandatory liquidation which occurs in the futures markets.
This individual sees metals as a logical component to a balanced portfolio. A diversifier of risk and dependent of age group this individual will hold an allocation of 5%-15% of the portfolio in metals related assets. It could be an ETF, mutual fund, physical (but located where liquidity is not an issue), selected miners etc. The position is re-calibrated every six months to maintain the appropriate weighting. The strategy: if the traditional assets waver, the metals component acts as a metric to mitigate the losses. If the world is a fine place to be, the traditional assets more than compensate for the lackluster appreciation of the metals component. Using this strategy, between 1992 and 2002 the metals would have returned a zero rate, but traditional investments returned over 100%. Between 2002 and 2012, traditional investments are almost unchanged, while gold has gained 500%.
Just some final remarks: I use these as my own benchmarks:
- Buy what you understand. Don’t buy collectibles unless you have some basic knowledge in the field. Dealer claims do not always constitute reality. Remember the jewelry analogy.
- Don’t buy ridiculously small units, with huge premiums. If you believe the world is ending, buy $100 face value junk silver bags. Premiums are reasonable and the market is liquid.
- Buy a recognized product that is readily negotiable in places other than your “favorite” coin dealer."
- Geographical diversification is important. The mostly likely reason that you are buying physical metal and paying expensive spreads and then storing it; is because you do not trust paper promises or government interference. If this is the case, why would you even consider storing the metals in your country of residence?
- For unallocated accounts, ensure the metal and your funds on account are segregated from the dealers inventory.
- Liquidity, liquidity, liquidity is the primary consideration. Look for extended transaction hours. Look for global representation. You may want delivery to HK, Singapore, Zurich or London. Not likely your favorite coin dealer can help you.
- Can you access a trade desk, if you have larger orders and negotiate a better deal?
- You may sometimes pay a little more, but stick to a well established dealer that offers options. Your needs may change quickly and a dealer with a broader product line may be necessary.
- When I want to buy a coin depicting a Royal wedding, I go to a coin dealer. When I want to buy gold, I go to a bullion dealer.
Peter Hug is PMD Director at Kitco Metals Inc.