Monday, August 15, 2011

Should I Buy Gold ?

I first looked at buying gold in 2008 when the price was 750 dollars an ounce. At the time I decided not to buy, my decision was based on conversations with the staff in a number of gold retailers. It wasn't the 5% mark up that put me off, but the reaction I got when I asked how much they would be prepared to pay to buy my gold back. Reading between the lines the message was clear "Buy it back ? Are you kidding ? If I can get rid of some of this I never ever want to see it again".

I took a rough guess that the instant I buy gold, my investment is down 5% in commission and another 10% or more in the difference between what the shop is willing to sell at and buy back at. I had no idea at the time that three years later gold would be trading at 1800 dollars an ounce, an increase of 240%.

Everyone knows the saying 'Buy low, Sell high' but its so hard to practice, it means going out on your own, buying the thing that noone wants and just as important not buying the thing that everyone does want.

If I had the stomach to stand alone and buy gold in 2008 when no one wanted it, I would now be sat on a very fat profit of over 200%.

Now that gold is at a recent record and more and more people are talking about buying gold, should I be buying, or selling ?

Gold at a recent record represented by the GLD exchange traded fund

Gold and silver are the two most commonly traded precious metals and they tend to move together rising and falling in sync with each other. Of the two metals silver is more volatile rising and falling by a greater percentage, but as the sample chart below shows there is still an obvious correlation between the two metals.

Sample period showing correlation in short term price movement of GLD and SLV Exchange traded funds tracking Gold and Silver

So with gold at record levels is silver an even better investment ? Maybe, maybe not, lets have a look at recent price action in silver and see if it can tell us anything about the future direction of gold.

One Year Price Chart - SLV Silver Exchange Traded Fund

There is an interesting phenomena around May. Beginning in February the silver price begins to increase very quickly, silver as an investment begins to appear in news stories and the volume of trades increases rapidly as shown on the bar graph at the bottom of the chart. This is a pattern which has occurred time and again in financial markets and look what happens next. The price drops.

Anyone that bought near the record price of 48.35 soon found themselves with a 28% percent loss as the price crashed from 48.35 to trade around 35 for the rest of the month. The situation has improved since, but the price still has a long way to go before getting back to the high 40s. Its also worth pointing out that anyone who bought before the exponential phase is still sitting on a very good profit.

Now lets look at a recent gold chart.

One Year Price Chart - GLD Gold Exchange Traded Fund

There are a lot of factors in common between gold today and silver in May -
1) Record Price
2) A price increasing at an exponential rate i.e. faster and faster increases
2) Increasing volume - the bar graph at the bottom shows the increasing volume in the last week
3) Gold/Silver making news headlines

I am not a great believer in the predictive ability of charts, but there are undeniable similarities between the price action before the correction in silver and the current price action in gold.

There is one final consideration which puts gold out of bounds as far as I am concerned. The gun that killed silver was a 'margin hike'.

It wasn't a single margin hike, but a series of margin hikes which made it increasingly expensive for investors to hold silver contracts, eventually most investors became forced sellers at which point - look out below.

Last week Gold margins were increased at Comex. Silver survived several margin hikes before falling almost over night to a 28 percent loss. How many more margin increases can gold take and do you want to bet your savings on it ?

Gold Falls Most In Seven Weeks as Comex Hikes Margin

Silver continues to trade in a tight range and to me represents a better option, the margin hikes have shaken out any mania that was in the price which has yet to happen with the price of gold.

There are a large number of exchange traded funds that allow you to bet on or against gold and silver prices - GLD, DZZ, SLV, AGQ, ZSL,

I currently hold a modest allocation to silver in my long term portfolio and will look to take short term trading positions using SLV or AGQ on any pull backs. The ideal entry point for me would be a dip in the silver price caused by a further increase in the gold margin. I am anticipating that to some extent both metals will sell off together even though the fundamentals for silver are not effected, I would expect silver to quickly regain any lost ground.

If and when I take a short term position in silver I will post the details.

1 comment:

  1. Interesting read, but I would argue that taking a position in gold or silver should be a long term position, not a short term trade.
    I understand this is a trading blog, but you should not overlook the fundamental reasons for holding Gold or Silver rather than just looking at the short term technical analysis.
    I'm thinking about buying more, I think it has some distance to go yet.