Most people buy gold as a reaction to the uncertainty around them. Gold is a synonym for wealth and money even though in the modern world it is neither.
In an economy where a recently founded vendor of chat software WhatsApp can be worth to Facebook around 14% of the annual gold production, gold for practical purposes has long lost its central place in the global economy. Money, of which gold was the first iteration, is increasingly becoming more abstract and there is just not enough of it around to fund the liquidity needs of global money.
However, the fact that gold is no longer money, or for that matter a stable store of value, does not mean you shouldn’t look to own it.
Here are three reasons to buy gold now:
1. Price: Gold is priced near its average cost of product and below its margin cost of production for a significant proportions of its supply. Fundamentals for gold are in themselves a good reason to acquire. Never fail to buy an asset below its replacement value. Its rule 1 of investing. Gold is now around the cost of incremental production.
Since the boom in gold prices, the cost of production has boomed alongside the price rise as mining companies have scrambled to produce more. As such, unless gold goes up or new technology comes along to make the process cheaper, gold production will fall. Many mines’ incremental cost of production is well above $1,300 and the average is said to be $1,200. This has to be good for the price medium term as there does not seem to be any fundamental likelihood for a fall in demand and the cost of production will only rise.
2. Diversification: To be diversified, an investor should have at least a couple of percent of their portfolio in gold. I dread to say 5%, because that it far more gold than many people would dream of having. In general, people are poorly diversified and often when they look back at the moments when they have lost more money than they care to remember it is because they held undiversified positions in instruments that went sour. Diversification is the only way to secure wealth and gold is a good ingredient for that.
3. Value: If you are a contrarian investor or a value investor, you will note from your stock filters that mining companies are almost exclusively the stocks that pop up when you look for deep value in the market. Stocks in general have had such a good run over the last years that it is starting to get hard to find value.
It is not hard to find mining stocks that have lost much of their value, however, and it is not hard to see why with the commodity boom well and truly over. Rather than acknowledge that commodities and their miners are righteously in the dog house, now is the time to go looking for value. That’s not to say you should buy into it, but understanding which companies will be the survivors now will enable you to pick the winners when the cycle turns again and some of these companies make a recovery.
The place to start is with gold because all it takes for gold to rally is an international incident, or an unexpected flare up of inflation or some new financial crisis to start rolling into view. Unlike other commodities that need economic activity to drive them, gold can be driven by politics and one thing that seems to be a growing wave, is instability in global politics.
Gold is in that zone, so it is time to start paying it increasing attention.