Why gold isn't safe

by Neil Faulkner on 30 January 2011  |  17 comments
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Here are just some of the reasons why gold isn't likely to shine for most panic buyers.

With ever more consumers, ebay users, shops and even supermarkets buying into the latest gold rush, here's why I still think it's a bad investment.

Valuing gold is impossible

I don't understand gold, because I can't value it. The vast majority of it merely sits in vaults. We don't even actually know how much gold is real and how much is electronic. There have been some disturbing committees in the US about this issue.

Unless I feel confident in my estimate of what an investment is worth, I'm not interested in it. Otherwise, how do you know if you're buying it when it's under- or over-priced?

Knowing when to sell is even harder

Since you don't have a clue what it's worth, you don't know when you're selling at a good price and you'll always be worried it's going to fall. By buying gold, you're buying more worry.

No one buys gold believing it's actually worth more than they're paying. They buy it because they're scared. But when should you stop being scared? If you stop too soon, gold may go up much further while your cash sits in your current account earning 0.1% interest.

Alternatively, and more likely, you'll sell too late. Looking back at the last inflation-induced gold rush in the late 70s, prices crashed long before inflation was normalised, so most people had no warning. What's more, the price crash took place in a matter of weeks to the effect that almost everyone who bought gold at the end of the 70s lost money and would still be doing badly today.

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Trading costs are high

When everyone wants to sell simultaneously, it's impossible for the average person to win. Most people will lose with gold. One of the major reasons for this is the costs. If you're not careful you can pay up to 25% when you buy and when you sell, which makes it hard to make a profit. (If you decide to buy gold, research where you get the best prices.)

Presumably you're not thinking to keep your gold when the price falls down again after the fear recedes. You're expecting to trade your gold quickly, perhaps just months or a few years from now. However, trading quickly eats hugely into our returns due to the costs, and is one of the biggest causes of long-term investment under-performance.

Gold provides no income

Not only does gold produce nothing, but it provides no income. Many PLCs do both: they produce things and pay regular dividends from profits. Gold, on the contrary, costs money to store (or increases your home insurance premium if you risk putting it under the floorboards).

Buffett doesn't like it

Warren Buffet, the most successful investor in the world, and the one who talks the most intelligent, rational game, in my view, doesn't like gold. He estimated in a CNN interview that if you take all the gold that's ever been mined you could make a cube 67 feet across:

“For what that's worth at current gold prices, you could buy all – not some – all of the farmland in the United States. Plus you could buy 10 Exxon Mobils [the company is currently worth about $400bn], plus have $1 trillion of walking-around money. Or you could have a big cube of metal. Which would you take? Which is going to produce more value?”

Gold loses to inflation

Some people say gold is a currency. The debate between economists on this issue is heated and more complicated than most people realise. I'm not bothered how you classify gold, but it has at least one similarity with currency: it has lost to inflation most of the time. This is ironic, because most people buy gold to protect themselves from inflation.

Shares and property, on the other hand, have beaten inflation most of the time, after costs. Even moving your savings accounts cannily over the noughties should have kept you reasonably close to inflation, but with much lower risk and volatility than gold: the times when you could have beaten inflation with cash have approximately made up for the times you lost to it, according to my rough data.

Let's be more constructive

However, doing nothing is also not an option, because the current inflation risks are very real. Whenever we have printed money in the past, it has led to more inflation, and sometimes very high inflation.

You'll probably lose to inflation with cash, but my call is nevertheless to stay flexible with your emergency cash and short-term savings. We all need to be able to access some cash in a hurry. Improve your overall return by tarting between the best cash ISAs and easy-access savings accounts, and buy special deals when possible (such as recommended in Earn £60 a year from an empty current account).

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Switching around should limit any inflation-induced devaluation of your savings, with much lower risk than investing in gold, to the effect that you'll probably end up with more buying power at the end of these troubling times than most gold buyers, who'll sell too late and pay too much.

Those of you with more than enough savings should consider investing in shares and property with the excess. Shares and property are both long-term investments and they're not guaranteed to win over any period, but gold is much less likely to win over the long term. (Read why property is very likely to be a winner in Now is the time to buy property.)

A regular investment in shares of the same monthly amount is the best way to reduce your risk, as you'll buy more shares at times when the prices are cheaper and less when they're expensive.

Many large companies seem to be rather cheap right now, so buying the FTSE 100 index (read Top 10 index trackers) or a portfolio of some of those companies held for the long term is likely to do better, not least because they have a history of beating inflation over the long run and you cut out fast trading charges. You'll have to expect lots of steep ups and downs in between, however. That's the price you pay for attempting to beat inflation.

More: Get a great savings account | Earn the highest rate on your savings | Why we should also save like a Welshman