Information you should have before buying gold

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Re: Information you should have before buying gold

Postby Valuethinker » Thu Jan 17, 2013 6:49 am

normaldude wrote:
Chet wrote:This is a valid comparison, because gold is valued mainly as a monetary asset (just ask the world's central banks) than as an industrial or jewelry commodity.


False. The vast majority of gold is used for jewelry (mainly in India & China).
- http://www.numbersleuth.org/worlds-gold/gold.jpg
- http://etfdailynews.com/wp-content/uplo ... raphic.png

India's Love Affair With Gold. "No gold, no wedding," is a saying in India, indicating the importance of gold to Indian culture and tradition.
- http://www.youtube.com/watch?v=sUr2E4dfs0Y
- http://www.cbsnews.com/8301-18560_162-5 ... with-gold/

Gold is a globally traded commodity, and the price is driven by global supply & demand. In America, we think of gold in terms of Fort Knox and doomsday preppers. But that doesn't reflect how gold is used around the world.


There is an analogy I have noticed.

Americans place a much bigger premium on diamonds ('a girl's best friend', 'he broke it off, I keep the ring', 'size of my rock', 'a month's salary for an engagement ring') than I have seen Brits do. It's something of a fashion thing.

On India, I have read the Indian retail market has coughed on the current gold price-- suggesting the smartest buyers have stopped buying, and indeed are selling.

In countries with exchange controls, confiscatory government policies (capital taxes, sequestration of assets before judgement in tax cases, arrest without warrant etc.), then it makes sense to own gold as an alternative to volatile currencies and vulnerable bank accounts. Think India.

Iran is a major retail market for gold-- with high internal inflation and all of the above pathologies, Iran's vibrant merchant class trades actively on the black market in Dubai and Bahrein, and gold is a good way to move money in and out.


Just as middle class Argentines keep USD accounts in Miami or Uruguay, so Iranians own gold.

Gold is a traditional hedge against political volatility.
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Re: Information you should have before buying gold

Postby nisiprius » Thu Jan 17, 2013 7:49 am

I haven't been paying much attention, but does it seem to me that the number of posts asking about silver have dropped off? I wonder.... Do you suppose...

Image

As they say, "why am I not surprised?"
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Re: Information you should have before buying gold

Postby Valuethinker » Thu Jan 17, 2013 8:25 am

nisiprius wrote:I haven't been paying much attention, but does it seem to me that the number of posts asking about silver have dropped off? I wonder.... Do you suppose...

Image

As they say, "why am I not surprised?"



Howard: Say, answer me this one, will you? Why is gold worth some twenty bucks an ounce?
Flophouse Bum: I don't know. Because it's scarce.
Howard: A thousand men, say, go searchin' for gold. After six months, one of them's lucky: one out of a thousand. His find represents not only his own labor, but that of nine hundred and ninety-nine others to boot. That's six thousand months, five hundred years, scramblin' over a mountain, goin' hungry and thirsty. An ounce of gold, mister, is worth what it is because of the human labor that went into the findin' and the gettin' of it.
Flophouse Bum: I never thought of it just like that.
Howard: Well, there's no other explanation, mister. Gold itself ain't good for nothing except making jewelry with and gold teeth.
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Howard: Aah, gold's a devilish sort of thing, anyway. You start out, you tell yourself you'll be satisfied with 25,000 handsome smackers worth of it. So help me, Lord, and cross my heart. Fine resolution. After months of sweatin' yourself dizzy, and growin' short on provisions, and findin' nothin', you finally come down to 15,000, then ten. Finally, you say, "Lord, let me just find $5,000 worth and I'll never ask for anythin' more the rest of my life."
Flophouse Bum: $5,000 is a lot of money.
Howard: Yeah, here in this joint it seems like a lot. But I tell you, if you was to make a real strike, you couldn't be dragged away. Not even the threat of miserable death would keep you from trying to add 10,000 more. Ten, you'd want to get twenty-five; twenty-five you'd want to get fifty; fifty, a hundred. Like roulette. One more turn, you know. Always one more.
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Re: Information you should have before buying gold

Postby Valuethinker » Thu Jan 17, 2013 8:32 am

larryswedroe wrote:http://www.cbsnews.com/8301-505123_162-57563828/ignore-the-buy-gold-now-crowd/

The post provides you with what I believe is important information to help you decide if gold should hold a place in your portfolio. The media unfortunately tends to focus on the inflation risks and I hardly ever hear them present the other side. And you'll never hear the gold fanatics discuss these issues
hope you find it helpful

Larry


I think the important thing to understand is the sort of investor for whom Gold DOES make sense.

If you live in a country with:

- limited stock and bond markets
- foreign exchange and or capital controls
- record of high and unstable inflation/ economy/ currency
- confiscation either via taxation, via the courts, abrogation of personal rights to property and freedom
- uncertain or unstable banking systems

If any of the above apply, gold starts to become rational. It is high valued. It is dense-- lot of value in a small amount, probably the most dense commonly used metal. Easy to verify as to purity and quality. Globally recognized. Easy to hide and transport (relatively).

I have friends whose families fled Europe in 1938, 1939 from the Nazis or again post 1945 from the communists. They lost everything, but *sometimes* the family had jewelry or other portable property (like gold coins) that they managed to get out.

If you believe the situation above will pertain or does pertain to the country in which you live, then gold starts to become interesting. Think Iran. Lebanon. Argentina. Pakistan etc.

The problem for the rest of us is there is a natural group of buyers who SHOULD pay a higher price for gold than we do (ie have a higher propensity to own gold).

Otherwise as Wm Bernstein pointed out in that wonderful essay 'the most patient asset' and Larry points out here, it is diversifying, but only in the very long term, and you have to accept lower overall returns as part of that price.

It is also traditionally held as a protection against USD devaluation and in the long run it may have that property (cannot say without doing research).
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Re: Information you should have before buying gold

Postby Clive » Thu Jan 17, 2013 8:51 am

Valuethinker wrote:So the UK is a relatively easy country in which to purchase inflation protection.

Also we have a well developed commercial property market, and, again, commercial RE tends to have a high correlation with inflation (with the caveat that there is a supercycle in commercial property-- there was a bust in the 1974 period (Slater Walker and the Bank of England lifeboat) 1990 (Canary Wharf when Barclays Bank owned something like 10% of the commercial property in the country as chief creditor) and then again in 2008 (Central London has recovered, but the rest of the country has not-- if you track HMV and Jessops this week, we can see why ;-) ).

Hi Valuethinker.

At present land/property are on my value/add radar, as is volatility

Image

Stocks, bonds and precious metals are mostly off radar for me (stocks, bonds and cash are all much the same thing in my mind, just longer/shorter dated versions)

Image

That chart is just a broad view where a constant 25% income tax rate was assumed to apply, stocks aren't shown as generally they'd just have tracked long dated T's. More usually when yields rise so also do taxes. And taxes are just another form of inflation IMO. Look at how both inflation and taxes eroded Building Society deposits (cash) in those 1970's years

Image

Gold I think of primarily as a hedge on a weak US dollar-- that tends to come with inflation, but does not have to.

I prefer BOGOF (buy one get one free) alternatives at present. Rather than separate stock and FX positions, just buy stocks in the foreign currency and have stock + currency combined. Rather than separate VIX and stock positions, rotate between stocks and Call Options to combine both...etc.
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Re: Information you should have before buying gold

Postby larryswedroe » Thu Jan 17, 2013 10:27 am

valuethinker
Completely agree with the one caveat which I noted, those countries you cite are the very ones where it is most likely that just when you need the gold the government comes and confiscates it (usually at the point of a machine gun)
Larry
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Re: Information you should have before buying gold

Postby czeckers » Thu Jan 17, 2013 12:34 pm

My takeway from this thread is a point Larry mentioned early on: When you do retrospective analyses that include assets that have had a recent run-up in price, the obvious result is that one would have been wise to have purchased the asset before the run-up. However with gold at over double the production price, I can't see there being much profit in it going forward. I think blindly extrapolating past results into the future is very dangerous to your health. Past performance does not guarantee future returns.

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Re: Information you should have before buying gold

Postby Akiva » Thu Jan 17, 2013 1:24 pm

czeckers wrote:My takeway from this thread is a point Larry mentioned early on: When you do retrospective analyses that include assets that have had a recent run-up in price, the obvious result is that one would have been wise to have purchased the asset before the run-up.


Well, the counter-example to this is stocks. At what point in the 80s or 90s would you have decided that it was only in retrospect that you should have increased your stock allocation, that stocks were probably too high now, and that you'd be better off taking money out of them?

However with gold at over double the production price, I can't see there being much profit in it going forward. I think blindly extrapolating past results into the future is very dangerous to your health. Past performance does not guarantee future returns.

-K


Well, contra-Larry I think that analyzing gold in terms of production price probably wouldn't have worked all that well historically because the massive inventories dwarf all possible avenues of production. So in the short- to medium- run there's basically a fixed quantity of gold and the price is set entirely on the basis of demand. (Which is notoriously difficult to forecast.)

OTOH, if you treat gold as a safe haven asset that people flee to when monetary policy is unexpected loose, then you would have to say that it doesn't seem like it could go higher based on Federal Reserve policy -- quantitative easing and a long period of loose money is already priced in. OTOH, because monetary policy and exchange rates aren't perfectly correlated, it's possible that e.g. the situation in Europe could spur unexpectedly loose monetary policy there driving up the price of gold in euros more than it drove down the price of euros in dollars. Then because of arbitrage, the price of gold in terms of dollars would have to rise.

In any event, I think that trying to use all of this economic stuff to decide whether gold is near the top or not is probably as foolish as trying to pick tops and bottoms of the stock market. If you have an asset allocation plan that calls for holding gold, you should stick to your plan and not sell predicting a top. If you have an asset allocation plan that doesn't hold gold, you should stick to your plan and not buy predicting a rally.
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Re: Information you should have before buying gold

Postby Dude2 » Thu Jan 24, 2013 10:31 am

Repeating a concept that Nisprius expressed a while back on the subject (although he did not just come right out and say this), one smart way to buy gold is to buy it wrapped up in PRPFX (or, I guess, PERM).

Yes, for every $1000, I'm only buying $250 worth of gold (and I suffer a 0.7 to 0.5 ER), but I get to feel insulated and somewhat protected when gold drops through the floor - relying on other asset classes to move in the other direction.
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Re: Information you should have before buying gold

Postby Clive » Thu Jan 24, 2013 11:15 am

Yes, for every $1000, I'm only buying $250 worth of gold

PRPFX targets something like 20% gold weighting (5% silver) :twisted:
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Re: Information you should have before buying gold

Postby Akiva » Thu Jan 24, 2013 12:12 pm

Dude2 wrote:Repeating a concept that Nisprius expressed a while back on the subject (although he did not just come right out and say this), one smart way to buy gold is to buy it wrapped up in PRPFX (or, I guess, PERM).


I think both of these are substantially worse than just doing your own permanent portfolio with three funds, both in terms of cost and in terms of allocation. (The three funds you need are stocks, gold, and fixed income -- you should only need one for the last because the return on 50/50 short-term/long-term is basically the same as the return on an equivalent duration intermediate bond fund.)
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Re: Information you should have before buying gold

Postby Clive » Thu Jan 24, 2013 1:41 pm

Akiva wrote:
Dude2 wrote:Repeating a concept that Nisprius expressed a while back on the subject (although he did not just come right out and say this), one smart way to buy gold is to buy it wrapped up in PRPFX (or, I guess, PERM).


I think both of these are substantially worse than just doing your own permanent portfolio with three funds, both in terms of cost and in terms of allocation. (The three funds you need are stocks, gold, and fixed income -- you should only need one for the last because the return on 50/50 short-term/long-term is basically the same as the return on an equivalent duration intermediate bond fund.)

Two would do. 75% Wellesley balanced (VWINX 40/60 stocks/bonds), 25% gold (GLD)
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Re: Information you should have before buying gold

Postby Valuethinker » Thu Jan 24, 2013 2:05 pm

larryswedroe wrote:valuethinker
Completely agree with the one caveat which I noted, those countries you cite are the very ones where it is most likely that just when you need the gold the government comes and confiscates it (usually at the point of a machine gun)
Larry


Good point.

One thing that is very realistic about Argo (presumably NOT actually filmed in Tehran ;-)) is what a city in the grips of Revolution looks like, the random and arbitrary and chaotic nature as different factions struggle for power.

So you've got to be able to get this portable property OUT.

I was trying to explain though why, in cases like India, even though an Iran style situation is not in prospect, the existence of inflation + exchange controls means holding some wealth as gold makes sense. There is also cultural preference for that. You could call it the nation addicted to Bling ;-).
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Re: Information you should have before buying gold

Postby Valuethinker » Thu Jan 24, 2013 2:08 pm

czeckers wrote:My takeway from this thread is a point Larry mentioned early on: When you do retrospective analyses that include assets that have had a recent run-up in price, the obvious result is that one would have been wise to have purchased the asset before the run-up. However with gold at over double the production price, I can't see there being much profit in it going forward. I think blindly extrapolating past results into the future is very dangerous to your health. Past performance does not guarantee future returns.

-K


World gold production is actually falling a result of declining South African production (SA is unique in its concentration of certain heavy metals like platinum) and also the political and environmental difficulties of new developments in some of the world's toughest places (Western Papua New Guinea, etc.).

Just on the Hotelling Model of an Exhaustible Resource, you *do* get a price above the marginal cost of production (which for new gold is any guess, but is probably above $500/ oz) representing the scarcity value of that commodity/ resource. That's consistent with economic theory.

I think that is *part* of what we are seeing with gold. 'Peak Gold'.

The weird thing about gold is theinventory problem-- gold is never really consumed so the entire mined supply (less say 25% wastage) in world history is still out there.
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Re: Information you should have before buying gold

Postby Valuethinker » Thu Jan 24, 2013 2:13 pm

Shorter form Larry (and William Bernstein):

" Gold is interesting because it has negative correlation (zags when everything else is zigging) and because it is highly volatile (thus adding to its diversification benefit in a well diversified portfolio but only in the very long run ('the most patient asset')"

and

"the downside is the long run returns have been pretty lousy-- given there is no inherent economic return in the thing, it really is a financial asset only"

To which Valuethinker would add:

'There are countries, mostly politically unstable ones, where the desire to own gold and/or diamonds is rational as a hedge (a protection, really)".

I should add:

"the nature of gold, with no inherent cash flow return, plus its connection to political and economic news, makes it particularly susceptible to bubble booms and bubble busts-- its value is very much set by emotions and expectations of future events"
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Re: Information you should have before buying gold

Postby athrone » Thu Jan 24, 2013 2:30 pm

Why would annual mine supply of < 4000 tonnes impact the Gold price, when there is already 171,000 tonnes of supply available?
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Re: Information you should have before buying gold

Postby umfundi » Thu Jan 24, 2013 2:59 pm

athrone wrote:Why would annual mine supply of < 4000 tonnes impact the Gold price, when there is already 171,000 tonnes of supply available?

Because the market may be driven by emotion? And, most of the "supply" is held and not available?

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Re: Information you should have before buying gold

Postby Clive » Thu Jan 24, 2013 3:06 pm

larryswedroe wrote:valuethinker
Completely agree with the one caveat which I noted, those countries you cite are the very ones where it is most likely that just when you need the gold the government comes and confiscates it (usually at the point of a machine gun)
Larry

US gold confiscation before raising the price 65% in 1933 didn't require the guns.

Just when you need it least, confiscation occurs - isn't coincidental and isn't limited to gold alone. Holding treasury's during the 1970's/80's high inflation, high interest rates/yields, high tax years for example.
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Re: Information you should have before buying gold

Postby athrone » Thu Jan 24, 2013 3:17 pm

umfundi wrote:And, most of the "supply" is held and not available?
Keith


What makes you think the 171,000 tonnes of "held" supply is "not available?"
Last edited by athrone on Thu Jan 24, 2013 3:31 pm, edited 3 times in total.
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Re: Information you should have before buying gold

Postby Dude2 » Thu Jan 24, 2013 3:18 pm

Akiva wrote:(The three funds you need are stocks, gold, and fixed income -- you should only need one for the last because the return on 50/50 short-term/long-term is basically the same as the return on an equivalent duration intermediate bond fund.)

I'm sure that some will fight you to the death on that point, but PRPFX is good enough for my needs (which keeps duration shorter).

I don't like to tinker because it creates indecision. Fix it and forget it is the approach that works for me.

My point was if someone has an overwhelming desire to buy gold and is afraid of the consequences, then consider buying it with a parachute firmly attached.
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Re: Information you should have before buying gold

Postby umfundi » Thu Jan 24, 2013 3:57 pm

athrone wrote:
umfundi wrote:And, most of the "supply" is held and not available?
Keith


What makes you think the 171,000 tonnes of "held" supply is "not available?"


Possibly I misunderstand the definition or the amount of "supply". I just imagine that many who hold the supposed supply would not be likely to sell in the event of a price rise.

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Re: Information you should have before buying gold

Postby athrone » Thu Jan 24, 2013 5:26 pm

umfundi wrote:
athrone wrote:
umfundi wrote:And, most of the "supply" is held and not available?
Keith


What makes you think the 171,000 tonnes of "held" supply is "not available?"


Possibly I misunderstand the definition or the amount of "supply". I just imagine that many who hold the supposed supply would not be likely to sell in the event of a price rise.

Keith


I hold gold and it is available to sell in the event of a price rise. Why wouldn't it be? I'm not eating it for dinner or living in it, so what else is the purpose other than holding it as an asset like any other?

People holding stocks, bonds, and cash all have that "supply" available to sell/transfer into other assets at any time, don't you think? Why do you think Gold is any different?
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Re: Information you should have before buying gold

Postby umfundi » Thu Jan 24, 2013 5:41 pm

athrone wrote:
umfundi wrote:
athrone wrote:
umfundi wrote:And, most of the "supply" is held and not available?
Keith


What makes you think the 171,000 tonnes of "held" supply is "not available?"


Possibly I misunderstand the definition or the amount of "supply". I just imagine that many who hold the supposed supply would not be likely to sell in the event of a price rise.

Keith


I hold gold and it is available to sell in the event of a price rise. Why wouldn't it be? I'm not eating it for dinner or living in it, so what else is the purpose other than holding it as an asset like any other?

People holding stocks, bonds, and cash all have that "supply" available to sell/transfer into other assets at any time, don't you think? Why do you think Gold is any different?

Because I don't think Uncle Sam is about to set up a flea market at Fort Knox.

The supply and demand equation for gold is very different than for other commodities like pork bellies or oil.

All I was trying to say is that I think the real amount of gold to be traded is much smaller than the total that exists.

So, production disruptions are likely to affect the price.

And, by the way, I have little faith in the stability of the South African mining industry. Production disruptions are likely. (I have no special knowledge.)

Simply a perspective on current trends from one who was born there. Other than my Total Market investments, I have no stake in gold nor any other metal or commodity.

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Re: Information you should have before buying gold

Postby athrone » Thu Jan 24, 2013 6:00 pm

umfundi wrote:Because I don't think Uncle Sam is about to set up a flea market at Fort Knox.
Keith


First, Central Banks only hold 31,000 tonnes. So what about the other 140,000 tonnes? Second, why don't you think Uncle Sam would set up a flea market at Fort Knox? Is it really that their supply is not "available" if the price rises, or is it just not available at the current price?
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Re: Information you should have before buying gold

Postby umfundi » Thu Jan 24, 2013 6:16 pm

athrone wrote:
umfundi wrote:Because I don't think Uncle Sam is about to set up a flea market at Fort Knox.
Keith


First, Central Banks only hold 31,000 tonnes. So what about the other 140,000 tonnes? Second, why don't you think Uncle Sam would set up a flea market at Fort Knox? Is it really that their supply is not "available" if the price rises, or is it just not available at the current price?

I do not know of any indication that the US Government is prepared to speculate in gold. Do you?

By the way, I was just adding my opinion that the supply demand equation for gold is less predictable than for other commodities.

Why that is a subject for intense discussion, I do not know.

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Re: Information you should have before buying gold

Postby athrone » Thu Jan 24, 2013 7:26 pm

umfundi wrote:I do not know of any indication that the US Government is prepared to speculate in gold. Do you?

By the way, I was just adding my opinion that the supply demand equation for gold is less predictable than for other commodities.

Why that is a subject for intense discussion, I do not know.

Keith


This side-discussion started because you claimed that the 171,000 tonnes of available supply doesn't count because it is allegedly "not for sale." How you are in a position to know this, or what leads you to think this, is a big question. It is frequently claimed that mining supply affects the price. As a thought experiment, what do you think would happen to the price of Gold if mining supply went to 0? To believe that mining supply drives the Gold price is to believe that AAPL issuing 1M shares drives the stock price, when there are currently 822M shares outstanding.

Even more curious is that you think Gold is not for sale, but [for example] Bonds are [as I presume]. Or that the USG is "speculating" by not selling all their Gold yet, or holding it in the first place.

It is true that the supply/demand equations for Gold are much more complex than Equities, that's probably a big reason people tend to have so many misconceptions about it. Anyone can go on Yahoo Finance and look up the P/E ratio of a Stock and think they understand whether it is overvalued or undervalued. With Gold, all you have is a price, and some statistics on mining and who holds how much worldwide. No wonder the average investor can't figure it out with only a cursory glance.
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Re: Information you should have before buying gold

Postby athrone » Thu Jan 24, 2013 7:46 pm

I'm trying to picture what the responses would look like if someone created a new thread claiming the price of AAPL depends only on new shares issued each year, because everyone currently holding the 882 million outstanding shares has no intention to sell if the price rises.
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Re: Information you should have before buying gold

Postby umfundi » Thu Jan 24, 2013 8:42 pm

athrone wrote:This side-discussion started because you claimed that the 171,000 tonnes of available supply doesn't count because it is allegedly "not for sale."

I would be interested to see the message where I said that.

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Re: Information you should have before buying gold

Postby Akiva » Sun Jan 27, 2013 4:54 pm

Valuethinker wrote:Shorter form Larry (and William Bernstein):

" Gold is interesting because it has negative correlation (zags when everything else is zigging) and because it is highly volatile (thus adding to its diversification benefit in a well diversified portfolio but only in the very long run ('the most patient asset')"


Just, FYI, based on the data I can easily pull up, there is no evidence of a meaningful negative correlation. Using daily data from 2004-2012, Pearson's r (what most people think of as "correlation") between stocks and gold and between bonds and gold is basically 0. This doesn't change if we use a more robust measure of correlation such as Spearman's rho (the correlation between the ranks). If we use monthly data instead, the correlations are generally slightly positive but statistically insignificant, but Spearman's rho between short term treasuries and gold is 20% (positive) and statistically significant at the 10% level (but not the 5% level). OTOH, the simple t-test I'm using for this is biased in favor of finding a correlation because of heterscedasticity in the data, so this is probably a fluke. (If you think it'll matter, I can load the data into a stats package and calculate percent-bend correlation or some other more sophisticated statistic and then do a bootstrap t-test.)

Finally, if I use annual data from 1972 through 2011, the correlations are about negative 20%, but this isn't statistically significant at even the 10% level (despite the bias of the test) and even if it was significant, a -20% correlation means that variation in gold explains only about 4% of the variation in each of the other assets, so there wouldn't be much of a diversification benefit from that small of a negative correlation in any event.

So the simple story that gold is good because its returns are negatively correlated doesn't seem to pan out. (If it did, it could be worth including despite it's zero expected real return.) The results wouldn't change if we adjusted for CPI instead of using nominal returns since that's just a linear adjustment to both returns series.

So what you have to say is that gold diversifies against certain kinds of monetary policy environments that have generally not appeared in recent US history, but that could appear in the future, and that gold would be expected to do well then while other assets did poorly.

It may be instructive to compare gold to VIX futures. Which are strongly negatively correlated (-70%) with stocks, enormously volatile (almost 4x as volatile as the stock market), and have zero expected nominal returns. Even though the returns to the VIX account for 50% of the stock markets returns because of the correlation, and even though a small allocation to VIX futures can substantially reduce the volatility of an all stock portfolio, in a portfolio of both stocks and bonds, adding VIX futures to increase diversification does surprisingly little. It is slightly less volatile, and has slightly higher returns, but over the course of 20 years, this works out to be the difference between a 251% return vs a 247% return.
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Re: Information you should have before buying gold

Postby magician » Sun Jan 27, 2013 4:59 pm

Akiva wrote:. . . a more robust measure of correlation such as Spearman's rho (the correlation between the ranks).

Many people would consider Spearman's rank-order correlation to be less robust than Pearson's moment correlation, because it discards a substantial amount of information contained in the underlying data.

Why do you describe it as more robust?
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Re: Information you should have before buying gold

Postby Clive » Sun Jan 27, 2013 7:54 pm

The results wouldn't change if we adjusted for CPI instead of using nominal returns since that's just a linear adjustment to both returns series

It can change.

Take a (made up) gold price series of two +23% gains, two -14% losses (nominal). Arithmetic average 4.5%, standard deviation 21.4%.

Assume a constant 3% inflation rate. Nominal geometric gold gain 2.9% versus 3% for inflation i.e. near enough 0% annualised real gain from gold.

Now take just 10% gold and assume the other 90% were invested in an asset that exactly tracked inflation (0% real) and blend those two. Now the nominal gains are two +5% and two 1.3% nominal gains (3.15% arithmetic average, 2.14% standard deviation) i.e. ( 0.1 x 23 ) + ( 0.9 x 3 ) = 5. Calculate the annualised real gain for that and its +0.13%. Which is as though the 10% gold exposure achieved a 1.3% annualised real return. :happy
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Re: Information you should have before buying gold

Postby AgAuMoney » Sun Jan 27, 2013 8:30 pm

Clive wrote:
larryswedroe wrote:valuethinker
Completely agree with the one caveat which I noted, those countries you cite are the very ones where it is most likely that just when you need the gold the government comes and confiscates it (usually at the point of a machine gun)
Larry

US gold confiscation before raising the price 65% in 1933 didn't require the guns.

Actually it did. The message was not, "Come turn in your gold, pretty
please." It was not even sweetened by a little bonus. Instead it was
accompanied by threat of arrest and restriction on privacy that you could
not open your safe deposit box without officials to witness.

UNDER EXECUTIVE ORDER OF THE PRESIDENT
Issued April 5, 1933
all persons are required to deliver
ON OR BEFORE MAY 1, 1933
all GOLD COIN, GOLD BULLION, AND GOLD CERTIFICATES
CRIMINAL PENALTIES FOR VIOLATION OF EXECUTIVE ORDER
$10,000 fine or 10 years imprisonment, or both

It doesn't matter if the gun is actually present, as long as the threat is made and there exists reasonable belief that the threat can be carried out. (Even for individuals who rob a bank threatening a weapon that is not seen, and when they are caught they are charged as if a weapon was present.)

When the gov't says turn in your gold or face arrest, everyone gets to decide for themselves the odds, and if they are willing to face the guns or go quietly.

And raising the price from $20.67/oz to $35/oz was closer to 70%.

[Large fonts removed by admin LadyGeek]
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Re: Information you should have before buying gold

Postby Akiva » Sun Jan 27, 2013 9:27 pm

magician wrote:
Akiva wrote:. . . a more robust measure of correlation such as Spearman's rho (the correlation between the ranks).

Many people would consider Spearman's rank-order correlation to be less robust than Pearson's moment correlation, because it discards a substantial amount of information contained in the underlying data.

Why do you describe it as more robust?


You are confusing robustness with efficiency. It is more robust (both because outliers and other deviations from the assumed underlying distribution do not cause large changes in the result and also because using a proper bootstrap, you can get unbiased significance tests in the presence of heteroscedasticy) but less efficient (if the assumed distribution is correct, it will not be as accurate as the traditional method).

I mostly used it because I didn't want someone to point out (correctly) that financial data breaks a lot of the assumptions that stand behind the "normal" correlation coefficient being meaningful, and Spearman's rho is easy to calculate in a spreadsheet. I'd have rather used percent bend correlation or biweight midcorrelation, but I don't have any plug-in that does that in my spreadsheet app, and loading the data into a stats package to run one function seemed like a waste of time since it is probably good enough to show that robust methods don't give a dramatically different result for the data in this case.
Last edited by Akiva on Mon Jan 28, 2013 12:07 am, edited 1 time in total.
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Re: Information you should have before buying gold

Postby Akiva » Sun Jan 27, 2013 9:33 pm

Clive wrote:
The results wouldn't change if we adjusted for CPI instead of using nominal returns since that's just a linear adjustment to both returns series

It can change.

Take a (made up) gold price series of two +23% gains, two -14% losses (nominal). Arithmetic average 4.5%, standard deviation 21.4%.

Assume a constant 3% inflation rate. Nominal geometric gold gain 2.9% versus 3% for inflation i.e. near enough 0% annualised real gain from gold.

Now take just 10% gold and assume the other 90% were invested in an asset that exactly tracked inflation (0% real) and blend those two. Now the nominal gains are two +5% and two 1.3% nominal gains (3.15% arithmetic average, 2.14% standard deviation) i.e. ( 0.1 x 23 ) + ( 0.9 x 3 ) = 5. Calculate the annualised real gain for that and its +0.13%. Which is as though the 10% gold exposure achieved a 1.3% annualised real return. :happy


None of this shows that *correlations* between two time series of returns change when they are swapped from nominal to real returns. In fact your example actually has 0 correlation by design so it can't be used as a counter-example to my claim. All your example illustrates is the well known fact that regularly rebalancing between relatively uncorrelated assets raises your returns.

AgAuMoney wrote:And raising the price from $20.67/oz to $35/oz was closer to 70%.


I think it is more accurate to describe what happened as a 40% devaluation of the dollar rather than a 70% increase in the price of gold. At this time the US also technically defaulted on its debt since AFAIK there was a gold clause in the existing federal bonds and the US unilaterally changed the law so that such clauses couldn't be enforced. (The SCOTUS said this was unconstitutional but that there was no remedy IIRC.)
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Re: Information you should have before buying gold

Postby Clive » Sun Jan 27, 2013 10:08 pm

AgAuMoney wrote:
US gold confiscation before raising the price 65% in 1933 didn't require the guns.

Actually it did. The message was not, "Come turn in your gold, pretty
please." It was not even sweetened by a little bonus. Instead it was
accompanied by threat of arrest and restriction on privacy that you could
not open your safe deposit box investment account without officials to witness.

We're off the gold standard now however and seizures have become more civilised.
UK 1970's
Code: Select all
       20 Year                          Basic
         T      Price   Total Inflation Rate
       Yield    Change                  Tax
1971   8.3      17.6   25.9     9.43   39.38
1972   9.6     -12.3   -2.7     7.13   38.75
1973   11.9    -18.6   -6.7     9.1    32.19
1974   17      -27.5  -10.5    16.04   32.25
1975   14.8     19.2   34      24.24   34.5
1976   13.3     -1.1   12.2    16.55   35
1977   10.1     30.6   40.7    15.85   34.25
1978   12.6    -13.3   -0.7     8.3    33.25
1979   13.7     -9.2    4.5    13.4    30.75
1980   13        6.2   19.2    17.99   30
1981   15.2    -12.1    3.1    11.87   30

Nominal gross (before taxes) UK 20-year Treasury's gained 9.7% annualised :D
Real lost -3.4% annualised :(
Net real (after basic rate tax on income) -7.2% annualised :x
Total real loss over those years was -56% :shock:

Both the UK and US have been under the impression it was the end of boom and bust since the 1980's. So confident that they even introduced inflation bonds and tax efficient savings/investment options. Another 40 years on from the last seizure (oops! that's now due!) and they'll have to think up an alternative way to grab 50%+ of savers savings. Perhaps documenting where its all at before pouncing.
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Re: Information you should have before buying gold

Postby Browser » Sun Jan 27, 2013 11:10 pm

Regarding correlations, the data do happen to show that gold has been a good diversifier of both stocks and long treasuries. Correlations are not static. From the time of it's inception in 2005, the monthly correlation between GLD and VTI has ranged from -0.61 to +0.81, and the monthly correlation between GLD and TLT has ranged from -0.72 to +0.69. Those correlations have been quite variable. It's not the magnitude of the long term or average correlation that is necessarily important, nor is it necessarily whether the correlation is always negative. As Rick Ferri has pointed out, you should use correlations to determine if assets have unique risks in the following way:
If an asset class has unique risk, it will exhibit variability in a rolling 3-year correlation analysis. This variability in correlation confirms the presence of unique risk. The analysis doesn’t have to show periods when it’s negative. The outcome may always be positive as long as long as it varies by a meaningful amount. It’s the amount of variation the measures the amount of unique risk.

http://www.forbes.com/sites/rickferri/2012/12/06/basics-of-asset-allocation-part-2-of-2/2/

Of course, it isn't much of a stretch to understand that stocks, bonds, and gold have unique risks and therefore represent diversified assets. That's enough for some people, such as the Permanent Portfolio-ers, to justify investing in gold. Others argue that it still doesn't make sense because gold has no internal return from interest or dividends and is therefore a zero-sum or "greater fool" asset that should be avoided. That's the crux of the argument - not whether or not it diversifies stocks and bonds.
Last edited by Browser on Sun Jan 27, 2013 11:11 pm, edited 1 time in total.
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Re: Information you should have before buying gold

Postby magician » Sun Jan 27, 2013 11:10 pm

Akiva wrote:
magician wrote:
Akiva wrote:. . . a more robust measure of correlation such as Spearman's rho (the correlation between the ranks).

Many people would consider Spearman's rank-order correlation to be less robust than Pearson's moment correlation, because it discards a substantial amount of information contained in the underlying data.

Why do you describe it as more robust?

You are confusing robustness with efficiency. It is more robust (both because outliers and other deviations from the assumed underlying distribution do not cause large changes in the result and also because using a proper bootstrap, you can get unbiased significance tests in the presence of heteroscedasticy) but less efficient (if the assumed deviation is correct, it will not be as accurate as the traditional method).

I mostly used it because I didn't want someone to point out (correctly) that financial data breaks a lot of the assumptions that stand behind the "normal" correlation coefficient being meaningful, and Spearman's rho is easy to calculate in a spreadsheet. I'd have rather used percent bend correlation or biweight midcorrelation, but I don't have any plug-in that does that in my spreadsheet app, and loading the data into a stats package to run one function seemed like a waste of time since it is probably good enough to show that robust methods don't give a dramatically different result for the data in this case.

Thanks.
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Re: Information you should have before buying gold

Postby Akiva » Mon Jan 28, 2013 12:20 am

Browser wrote:Regarding correlations, the data do happen to show that gold has been a good diversifier of both stocks and long treasuries. Correlations are not static. From the time of it's inception in 2005, the monthly correlation between GLD and VTI has ranged from -0.61 to +0.81, and the monthly correlation between GLD and TLT has ranged from -0.72 to +0.69. Those correlations have been quite variable. It's not the magnitude of the long term or average correlation that is necessarily important, nor is it necessarily whether the correlation is always negative. As Rick Ferri has pointed out, you should use correlations to determine if assets have unique risks in the following way:


My concern with this is that monthly correlations in rolling 3 year windows will only have 36 data points and so may not be statistically significant even with large values once you account for outliers, heteroscedasticity, etc. Consequently that movement in the correlations he's talking about could just be random noise. (Though there are models with time-varying correlations you could try fitting...)

The fact that the correlations did come out to be roughly nil over various time horizons somewhat bolsters the argument that long-run the assets are uncorrelated and any smaller sample that results in a correlations is merely spurious.

If someone had some kind of "monetary policy" variable (or better yet a variable that measured differences between expected monetary policy and actual monetary policy) we could try to use copulas to model a full conditional distribution which could conceivably give more useful information, but I have yet to encounter a real situation where this sort of extra effort actually made any practical difference.

Of course, it isn't much of a stretch to understand that stocks, bonds, and gold have unique risks and therefore represent diversified assets.


That's an argument for their being uncorrelated, not negatively correlated. If they are negatively correlated, then they give exposure to the same sort of risk but in different directions. (E.g. S&P futures vs VIX futures).

That's enough for some people, such as the Permanent Portfolio-ers, to justify investing in gold.


Rereading what I wrote above, I think I was somewhat misleading because it sounds like I'm saying that gold shouldn't be included in a portfolio because it doesn't have negative correlation. That is not what I meant. If gold is uncorrelated and volatile, as seems to be the case, then there should be some improvement in your returns for including an allocation to it and regularly rebalancing. There's a formula for calculating how much this improves your CAGR, but I don't know it off the top of my head. This effect is basically the one free lunch in finance, and establishing whether it is large enough in this case to justify allocating to gold even if the expected real returns are 0% shouldn't be too difficult.

Others argue that it still doesn't make sense because gold has no internal return from interest or dividends and is therefore a zero-sum or "greater fool" asset that should be avoided. That's the crux of the argument - not whether or not it diversifies stocks and bonds.


The problem is that the argument is ill-concieved. Gold doesn't have to have negative correlation or real returns to be a good diversifier (because of the rebalancing effect), and having a negative correlation does not always improve returns by a meaningful amount (see above re: diversifying with VIX futures).

magician wrote:Thanks.


No problem.

I guess I should add that the relative efficiency of modern robust methods (which I referenced in my reply but did not use in the original comment you responded to) is very high even in the ideal case where the data follows the assumed distribution exactly, and it is many times more efficient for even very small deviations from your assumptions. Consequently, if you are doing serious statistical work, there aren't very many good reasons to use classical methods over modern robust ones. The problem is that these methods are harder to calculate and so require using an actual stats program instead of some function in a spreadsheet. I wish someone would make a good plug-in that added robust versions of the common functions, but AFAIK no one has done so. That the stats functions that come with spreadsheet programs today don't already include such functions out of the box is a serious oversight.
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Re: Information you should have before buying gold

Postby magician » Mon Jan 28, 2013 12:29 am

Akiva wrote:
magician wrote:Thanks.

No problem.

I guess I should add that the relative efficiency of modern robust methods (which I referenced in my reply but did not use in the original comment you responded to) is very high even in the ideal case where the data follows the assumed distribution exactly, and it is many times more efficient for even very small deviations from your assumptions. Consequently, if you are doing serious statistical work, there aren't very many good reasons to use classical methods over modern robust ones. The problem is that these methods are harder to calculate and so require using an actual stats program instead of some function in a spreadsheet. I wish someone would make a good plug-in that added robust versions of the common functions, but AFAIK no one has done so. That the stats functions that come with spreadsheet programs today don't already include such functions out of the box is a serious oversight.

If you're familiar with the Monte Carlo simulation packages @Risk and Primavera, you might find it interesting that Primavera supporters have long criticized @Risk because the latter uses Spearman rank-order correlation when the user specifies a correlation matrix for input variables; Primavera, naturally, uses Pearson moment correlation. However, I read an interesting paper few years ago in which the author looked at this criticism, and discovered that, despite using Spearman, the input variables in @Risk actually end having Pearson correlations very close to those specified by the user. The argument, it seems, is moot.
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Re: Information you should have before buying gold

Postby Akiva » Mon Jan 28, 2013 12:39 am

magician wrote:
Akiva wrote:
magician wrote:Thanks.

No problem.

I guess I should add that the relative efficiency of modern robust methods (which I referenced in my reply but did not use in the original comment you responded to) is very high even in the ideal case where the data follows the assumed distribution exactly, and it is many times more efficient for even very small deviations from your assumptions. Consequently, if you are doing serious statistical work, there aren't very many good reasons to use classical methods over modern robust ones. The problem is that these methods are harder to calculate and so require using an actual stats program instead of some function in a spreadsheet. I wish someone would make a good plug-in that added robust versions of the common functions, but AFAIK no one has done so. That the stats functions that come with spreadsheet programs today don't already include such functions out of the box is a serious oversight.

If you're familiar with the Monte Carlo simulation packages @Risk and Primavera,


As you can probably guess, I use an actual stats package (R in my case) for most of my work. So I'm not really familiar with these two things beyond knowing that they exist.

you might find it interesting that Primavera supporters have long criticized @Risk because the latter uses Spearman rank-order correlation when the user specifies a correlation matrix for input variables; Primavera, naturally, uses Pearson moment correlation. However, I read an interesting paper few years ago in which the author looked at this criticism, and discovered that, despite using Spearman, the input variables in @Risk actually end having Pearson correlations very close to those specified by the user. The argument, it seems, is moot.


Most of the time the differences between robust methods and the classical ones are relatively small. This can lull you into a sense of complacency even though there *are* enough realistic cases where the differences do matter. It's just that since most people don't use robust methods to begin with, they don't ever realize it when they encounter "bad" data sets...

As for the argument in question, I'm not really sure why either uses the one they use. (Surely they have some constructive argument on this). The modern methods like percent bend correlation are almost as efficient as Pearson in the ideal case, and more robust than Spearman in the non-ideal one (in addition to still being more efficient). The *only* reason I used Spearman above was because I could figure out how to make a spreadsheet calculate it in under a minute...
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Re: Information you should have before buying gold

Postby Browser » Mon Jan 28, 2013 9:49 am

Akiva wrote:
Browser wrote:Regarding correlations, the data do happen to show that gold has been a good diversifier of both stocks and long treasuries. Correlations are not static. From the time of it's inception in 2005, the monthly correlation between GLD and VTI has ranged from -0.61 to +0.81, and the monthly correlation between GLD and TLT has ranged from -0.72 to +0.69. Those correlations have been quite variable. It's not the magnitude of the long term or average correlation that is necessarily important, nor is it necessarily whether the correlation is always negative. As Rick Ferri has pointed out, you should use correlations to determine if assets have unique risks in the following way:


My concern with this is that monthly correlations in rolling 3 year windows will only have 36 data points and so may not be statistically significant even with large values once you account for outliers, heteroscedasticity, etc. Consequently that movement in the correlations he's talking about could just be random noise. (Though there are models with time-varying correlations you could try fitting...)

The fact that the correlations did come out to be roughly nil over various time horizons somewhat bolsters the argument that long-run the assets are uncorrelated and any smaller sample that results in a correlations is merely spurious.

Probably right. Here's more of what Rick has to say about correlations:
don’t be misled by any sales pitch where a claim is made that an investment has negative correlation with stocks. They don’t exist, and even if they did, you wouldn’t want it in your portfolio because the return would negate any gain from stocks. The best you’re going to find is an asset class similar to Treasury bonds, where correlations vary from positive to negative and are non-correlated in the long-term.
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Re: Information you should have before buying gold

Postby magician » Mon Jan 28, 2013 1:11 pm

Browser wrote:Probably right. Here's more of what Rick has to say about correlations:
don’t be misled by any sales pitch where a claim is made that an investment has negative correlation with stocks. They don’t exist, and even if they did, you wouldn’t want it in your portfolio because the return would negate any gain from stocks.

This sort of statement suggests a fundamental misunderstanding of correlation.

If returns on stocks and returns on gold have a negative correlation (even -1.0), and stock returns are positive, it isn't necessary that gold returns be negative: it is possible to have a correlation as low as -1.0 when stock returns and gold returns are both positive. Correlation is not calculated based on whether the numbers are positive or negative; it's calculated based on whether the numbers are above or below their respective means. If gold returns are below their mean whenever stock returns are above their mean, and vice-versa - and they're both positive - then their correlation of returns will be negative, and the gold return will add to the stock return, not subtract from it.
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Re: Information you should have before buying gold

Postby Akiva » Mon Jan 28, 2013 1:32 pm

magician wrote:
Browser wrote:Probably right. Here's more of what Rick has to say about correlations:
don’t be misled by any sales pitch where a claim is made that an investment has negative correlation with stocks. They don’t exist, and even if they did, you wouldn’t want it in your portfolio because the return would negate any gain from stocks.

This sort of statement suggests a fundamental misunderstanding of correlation.

If returns on stocks and returns on gold have a negative correlation (even -1.0), and stock returns are positive, it isn't necessary that gold returns be negative: it is possible to have a correlation as low as -1.0 when stock returns and gold returns are both positive. Correlation is not calculated based on whether the numbers are positive or negative; it's calculated based on whether the numbers are above or below their respective means. If gold returns are below their mean whenever stock returns are above their mean, and vice-versa - and they're both positive - then their correlation of returns will be negative, and the gold return will add to the stock return, not subtract from it.


Right. In addition to this, it is entirely possible to have an asset with enough negative correlation and the right volatility that the negative mean returns do not reduce the resulting portfolio's CAGR. Since this is a function of arithmetic returns and volatility, it is possible that the reduction from lower arithmetic returns is less than the gain from lower portfolio volatility. That said I don't think any passive asset has this property, you generally have to construct it with some kind of active management. (Per above, in the case of the most obvious passive investment -- VIX futures, the help it gives you is so small that it won't even cover trading costs unless your portfolio is massive.)
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Re: Information you should have before buying gold

Postby Browser » Mon Jan 28, 2013 1:39 pm

magician wrote:
Browser wrote:Probably right. Here's more of what Rick has to say about correlations:
don’t be misled by any sales pitch where a claim is made that an investment has negative correlation with stocks. They don’t exist, and even if they did, you wouldn’t want it in your portfolio because the return would negate any gain from stocks.

This sort of statement suggests a fundamental misunderstanding of correlation.

If returns on stocks and returns on gold have a negative correlation (even -1.0), and stock returns are positive, it isn't necessary that gold returns be negative: it is possible to have a correlation as low as -1.0 when stock returns and gold returns are both positive. Correlation is not calculated based on whether the numbers are positive or negative; it's calculated based on whether the numbers are above or below their respective means. If gold returns are below their mean whenever stock returns are above their mean, and vice-versa - and they're both positive - then their correlation of returns will be negative, and the gold return will add to the stock return, not subtract from it.

Maybe Rick can defend himself? I'd like to hear what he has to say on this. RICK - where are you?
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Re: Information you should have before buying gold

Postby magician » Mon Jan 28, 2013 2:16 pm

Browser wrote:
magician wrote:
Browser wrote:Probably right. Here's more of what Rick has to say about correlations:
don’t be misled by any sales pitch where a claim is made that an investment has negative correlation with stocks. They don’t exist, and even if they did, you wouldn’t want it in your portfolio because the return would negate any gain from stocks.

This sort of statement suggests a fundamental misunderstanding of correlation.

If returns on stocks and returns on gold have a negative correlation (even -1.0), and stock returns are positive, it isn't necessary that gold returns be negative: it is possible to have a correlation as low as -1.0 when stock returns and gold returns are both positive. Correlation is not calculated based on whether the numbers are positive or negative; it's calculated based on whether the numbers are above or below their respective means. If gold returns are below their mean whenever stock returns are above their mean, and vice-versa - and they're both positive - then their correlation of returns will be negative, and the gold return will add to the stock return, not subtract from it.

Maybe Rick can defend himself? I'd like to hear what he has to say on this. RICK - where are you?

I hope so. Rick's a smart guy, and his advice is usually spot-on.
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Re: Information you should have before buying gold

Postby Akiva » Mon Jan 28, 2013 2:37 pm

Akiva wrote:(Per above, in the case of the most obvious passive investment -- VIX futures, the help it gives you is so small that it won't even cover trading costs unless your portfolio is massive.)


I need to add a caveat to this statement. The above was calculated assuming you didn't take on leverage. So you got a higher Sharpe ratio in the form of slightly higher returns and somewhat lower volatility. And thus comparing the two portfolios isn't really fair. If are willing to do it differently by taking on some leverage (~25%), you can get the higher sharpe ratio entirely in the form of increased returns, then you get +25% or so total returns over a 20 year investment period, which is not insignificant.

Furthermore, if you increase your leverage even more (to ~150%, i.e. total exposure is 250%), so that your risks are equal to the standard 60/40 portfolio that this board uses as a benchmark (instead of the 25/75 one I used as a benchmark), then you are talking about the difference between a CAGR of 14% and 6.4%, which over 20 years is the difference between having 13x your starting wealth and 2.5x as much. (Levering the 30/70 portfolio ~1.9x to equalize the risks between it and a 60/40 portfolio, gives you an annual CAGR of 12.3% and 9x your starting wealth over 20 years.) So the addition of VIX futures can be quite significant if you are willing to put the leverage needed to put your risk back to where it was before the diversification reduced it.

Now, I personally don't see this is unnecessarily risky (the risks are roughly equal to what you were willing to take with the unlevered portfolio without VIX exposure), completely impractical, (you need a largish portfolio, but not anywhere near institutionally large), or too complicated. Nor do I consider such a thing to be active management. Still, when I've brought this sort of thing up in other threads, people have raised these various objections.

Getting back to the gold thing. Given it's volatility and zero correlation, there's some rebalancing effect to including it in a portfolio and there's definitely a diversification effect, but in a normal unlevered cash-only portfolio like most people here design, I don't know how much of an effect this will have as a practical matter. OTOH, if you are willing to use leverage, the differences can be quite dramatic. (But if you are going to use leverage, you have to compare against a leveraged portfolio without gold.)
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Re: Information you should have before buying gold

Postby Valuethinker » Tue Jan 29, 2013 5:23 am

athrone wrote:Why would annual mine supply of < 4000 tonnes impact the Gold price, when there is already 171,000 tonnes of supply available?


A lot of the gold out there is just not traded. Either it is in objets d'art or you have the Gordon Brown problem-- under the wisest of Treasury Mandarin advice, in 1998-2000 he sold off half of the Bank of England's gold at $300-400 an ounce (after all, German treasury bonds pay interest, gold does not). Looked very smart at the time, eh?

So not many Ministers of Finance or Central Bank governors are going to do *that* again, on the basis that it might become the thing they are remembered for.

If you read Suetonius, you'''ll remember that Quintus Varus lost 5 Roman legions in the Black Forest to Arminius (it's depicted at the start of the movie 'Gladiator'). Rome never again had a serious military presence in Germany.

Forever after, the Roman Emperor Augustus could be heard late at night calling out when he was sleepless, 'Quintus Varus, bring me back my legions'.

'Gordon Brown, bring me back my gold'.

;-).
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Re: Information you should have before buying gold

Postby Valuethinker » Tue Jan 29, 2013 5:28 am

http://www.efficientfrontier.com/ef/adhoc/gold.htm


Too good to be true, really—a long-term real rate of return of nearly five percent, within shouting distance of industrial stocks—and that’s before the five percent "rebalancing bonus." One doesn’t need to fire up an optimizer to realize that this asset class, with its 0.29 correlation with the S&P, belongs in every portfolio.




http://www.efficientfrontier.com/ef/197/preci197.htm

Correlation w. S&P500 of Precious Metal Equities 1969-1996 -0.02

Near as dammit, uncorrelated.

There's something else going on in that there is now a 'peak gold'-- gold production is falling. So that should in time logically lead to mergers and acquisitions between gold producers.
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Re: Information you should have before buying gold

Postby Clive » Tue Jan 29, 2013 9:24 am

Akiva wrote:...VIX futures, the help it gives you is so small that it won't even cover trading costs unless your portfolio is massive.)

Why buy the volatility index alone though - why not just incorporate it as part of other holdings. Holding Options that provide the same underlying exposure as would be held in the underlying stock for instance. Whilst there are overheads (carry costs etc.) they're little different to the overheads of alternatives. Assume for example stocks generally yield a 5% real reward, bonds (cash) 0% real and you hold a 60-40 blend of the two, then the 40% bonds passed on a 5% opportunity = -2% cost. Options might generally carry a similar cost - or maybe more given that their value can soar through increases in implied volatility alone (more Anti-Fragile as Nassim Taleb would call it).

60% stock/40% bond risk/reward might be replicated using a combination of 60% underlying stocks/40% mixture of Call Option on the underlying and cash (or other more exotic option strategy combinations)

Little different to how holding foreign stocks = stocks + currency risk/reward factors, but instead having stock + volatility risk/reward factors. When volatility is relatively low (Options relatively inexpensive) then perhaps hold less underlying, more Options. And transition to more underlying, less Options when volatility is relatively high. Whilst generally maintaining a similar level of stock exposure that you would have had you held the underlying stock alone.

It is more common to look at investments from a gross nominal basis - which typically indicates something like : cash, bonds, stocks as being the safest to least safe sequence. In the real :) world - net after taxes, the sequence is more like stocks, bonds, cash (completely reversed). For an individual investor, gold slots in towards the right (most risky) of the net real sequence - as it can endure a investment lifetime of providing negative net real. If you bought gold in 1980 for instance, by 2000 you'd have been nursing -7% annualised losses - but might be getting a little excited at the end of 2011 as that would have reduced down to -0.3% real annualised - at least until you notice the tax man smiling at you and who whispers in your ear that if you sell at current levels that you'd owe him a proportion of the 165% nominal capital gain you'd made (3% nominal annualised, over 32 years).
Clive
 
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Re: Information you should have before buying gold

Postby Akiva » Tue Jan 29, 2013 3:23 pm

Clive wrote:
Akiva wrote:...VIX futures, the help it gives you is so small that it won't even cover trading costs unless your portfolio is massive.)

Why buy the volatility index alone though


Because that's a passive investment that requires no thought or skill.

- why not just incorporate it as part of other holdings. Holding Options that provide the same underlying exposure as would be held in the underlying stock for instance.


Well generally if you are holding options that give you the same delta exposure as an outright position you are either overpaying for your gamma and vega exposure or not getting any to begin with. Most professional option traders use various sorts of spreads and they are usually delta neutral. You could certainly construct a delta neutral option portfolio with positive vega exposure that mimicked the VIX to achieve a similar result, but that would be active management.

Clive wrote:For an individual investor, gold slots in towards the right (most risky) of the net real sequence - as it can endure a investment lifetime of providing negative net real. If you bought gold in 1980 for instance, by 2000 you'd have been nursing -7% annualised losses - but might be getting a little excited at the end of 2011 as that would have reduced down to -0.3% real annualised - at least until you notice the tax man smiling at you and who whispers in your ear that if you sell at current levels that you'd owe him a proportion of the 165% nominal capital gain you'd made (3% nominal annualised, over 32 years).


Well, there are various ways to change the tax treatment from "collectible" into something more favorable. (LEAPS on the ETF, futures on the commodity, etc.) If you had a large enough portfolio and not enough tax advantaged space, it would probably be worth testing out these possibilities to see what the best method was.

In any event, I haven't investigated it thoroughly, but adjusting gold's actual historic returns downward, the break-even point where the rebalancing bonus just offsets the loss of arithmetic returns seems to be right around the historic growth of the CPI. As pointed out by others above, these aren't strongly correlated, so one could certainly believe this.

Valuethinker wrote:http://www.efficientfrontier.com/ef/adhoc/gold.htm
http://www.efficientfrontier.com/ef/197/preci197.htm

Correlation w. S&P500 of Precious Metal Equities 1969-1996 -0.02

Near as dammit, uncorrelated.

There's something else going on in that there is now a 'peak gold'-- gold production is falling. So that should in time logically lead to mergers and acquisitions between gold producers.


Precious metal equities have very different properties from holding the commodity itself. This was discussed earlier in the thread IIRC.

Also, the quoted rebalancing bonus strikes me as too high and in any event you get the same bonus if you do the same thing with actual gold in your portfolio.
Akiva
 
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