Grok's tip 5:To keep real wealth skip Gold, buy TIPs

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grok87
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Grok's tip 5:To keep real wealth skip Gold, buy TIPs

Post by grok87 » Sat Jan 15, 2011 8:48 am

Grok’s Tip #5/10: To preserve “real” wealth skip Gold and buy TIPs (Treasury Inflation Protected Securities) instead!

Lately gold and other commodities have been all the rage. In just the past year the price of gold is up around 20%. Over the past 10 years the price of gold has quadrupled. One hears that this is due, in part, to investors fearing the debasement of the US dollar and the breakup of the Euro. Some claim that gold is an “alternate “ currency that can help investors preserve wealth in “real”(ie after inflation) terms.

http://seekingalpha.com/article/240446- ... t-concerns


Tempted? Here’s a chart I like to look at whenever I get the urge to invest in gold:
http://inflationdata.com/inflation/imag ... _chart.htm

This chart shows what intuitively one would think. The expected real return of holding Gold is zero. Actually it’s worse than that since the chart ignores costs- either the expense ratio of an ETF like GLD or the storage/vault costs of physically owning gold. The red line shows the “real” (I.e. inflation adjusted) average price of Gold in 2010 dollars. Looking at the chart, the real price of gold went nowhere from 1914-2004, a 90 year period. Let’s break that 90 year period into six 15 year periods. Reading off the chart here are some rough numbers:

Year……Real Price of Gold (2010 dollars)
1914.……450
1929.……250
1944.……450
1959.……250
1974.……600
1989.……750
2004.……450

Annualized 15 year real returns
1914-1929.…….-3.84%
1929-1944.…..…4.0%
1944-1959.…….-3.84%
1959-1974.……..6.0%
1974-1989.…….1.5%
1989-2004.……-3.35%

Mean 0%
Std. dev. 4%
Range -3.84% to 6%

So while the expected real return of gold is zero (ignoring costs) the risk of gold in real terms is enormous. Over 15 year holding periods sometimes your money was almost cut in half and sometimes it more than doubled!

Hmmm….if only there was an investment that had a “guaranteed” positive real return for a given holding period instead of gold’s “expected” slightly negative real return with enormous risk. But wait, there is such an investment- Treasury Inflation Protected Securities or TIPs. When you buy the 15 year TIP, for example, you are guaranteeing a return of your inflation-adjusted principal in 15 years. And in addition you get to earn a real return of 1.53% (as of 1/14/10) along the way. 15 year TIPs are only available on the secondary market and there may be a slight cost to purchase them, but there are no ongoing fund fees or storage costs like with gold. Buying TIPs at auction is even more attractive. Most brokers let you do this for free so purchase and holding costs are zero. Plus you get something called a “deflation” put. This means that even if there is net deflation over the life of your TIP, you will still get back the full value of your initial principal investment in nominal terms-I.e. if you invest $1000 you will get $1,000 back even if net deflation has been 10% over the period so by rights you should only get $900 back. There is in fact a 10 year TIPs auction coming up this week on Tuesday and there is a 30 year TIPs auction next month.

So remember: to preserve "real" wealth, skip the gold and put your money in TIPs!

cheers,
RIP Mr. Bogle.

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Lbill
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Post by Lbill » Sat Jan 15, 2011 9:11 am

I wish people would take Larry Swedroe's advice and quit analyzing assets in isolation. I'm no goldbug, but I can understand that low-correlating assets with high volatility can actually improve the risk/return profile for one's portfolio. That's the correct way to view gold instead of hollering over and over again what a lousy investment it is. Please!
"Life can only be understood backward; but it must be lived forward." ~ Søren Kierkegaard | | "You can't connect the dots looking forward; but only by looking backwards." ~ Steve Jobs

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Post by mithrandir » Sat Jan 15, 2011 9:21 am

I will admit that Larry's advice about not analyzing investments in isolation is something that continually haunts me. While I understand and somewhat agree with the advice I find it difficult to engage it.

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SpringMan
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Post by SpringMan » Sat Jan 15, 2011 9:29 am

grok,
I have really enjoyed your tip_# threads. Lots of good advice and interesting discussion has been generated. Thank you.
Best Wishes, SpringMan

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Post by conundrum » Sat Jan 15, 2011 9:39 am

Thanks for tip #5. I appreciate the information and have also enjoyed the discussions that have followed.

Drum :lol:

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Post by Call_Me_Op » Sat Jan 15, 2011 9:50 am

A small allocation to gold, periodically rebalanced, has boosted returns and reduced portfolio volatility - in an otherwise so-called balanced portfolio. I agree with the comments that looking at investments in isolation may be hazardous to your wealth.
Best regards, -Op | | "In the middle of difficulty lies opportunity." Einstein

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Post by Jacotus » Sat Jan 15, 2011 10:25 am

As soon as I read the title I knew this one was going to be controversial. Some people are just fanatics about gold, even though there is no rational reason why they should be an investment. The justifications people have for holding gold amount to extrapolation of past performance without an underlying basis for why the past performance should continue.

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Post by brick-house » Sat Jan 15, 2011 11:21 am

Suggestion for Topic#6 - Sometimes the whole is greater than the sum of its parts. How a reasonable allocation to gold with disciplined re-balancing can improve your portfolio.
You don't need no gypsy to tell you why- Greg Allman

FinanceGeek
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Post by FinanceGeek » Sat Jan 15, 2011 11:56 am

Thanks for the posting Grok.

In another "Tip", can you focus on TIPSs since this article recommends them over gold? I think most of us understand the mechanics of how they work, but I don't think anyone is completely certain of their portfolio protection potential during real world inflationary times...

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Re: Grok's tip 5:To keep real wealth skip Gold, buy TIPs

Post by MCSquared » Sat Jan 15, 2011 12:11 pm

grok87 wrote:Grok’s Tip #5/10: To preserve “real” wealth skip Gold and buy TIPs (Treasury Inflation Protected Securities) instead!

Lately gold and other commodities have been all the rage. In just the past year the price of gold is up around 20%. Over the past 10 years the price of gold has quadrupled. One hears that this is due, in part, to investors fearing the debasement of the US dollar and the breakup of the Euro. Some claim that gold is an “alternate “ currency that can help investors preserve wealth in “real”(ie after inflation) terms.

http://seekingalpha.com/article/240446- ... t-concerns


Tempted? Here’s a chart I like to look at whenever I get the urge to invest in gold:
http://inflationdata.com/inflation/imag ... _chart.htm

This chart shows what intuitively one would think. The expected real return of holding Gold is zero. Actually it’s worse than that since the chart ignores costs- either the expense ratio of an ETF like GLD or the storage/vault costs of physically owning gold. The red line shows the “real” (I.e. inflation adjusted) average price of Gold in 2010 dollars. Looking at the chart, the real price of gold went nowhere from 1914-2004, a 90 year period. Let’s break that 90 year period into six 15 year periods. Reading off the chart here are some rough numbers:

Year……Real Price of Gold (2010 dollars)
1914.……450
1929.……250
1944.……450
1959.……250
1974.……600
1989.……750
2004.……450

Annualized 15 year real returns
1914-1929.…….-3.84%
1929-1944.…..…4.0%
1944-1959.…….-3.84%
1959-1974.……..6.0%
1974-1989.…….1.5%
1989-2004.……-3.35%

Mean 0%
Std. dev. 4%
Range -3.84% to 6%

So while the expected real return of gold is zero (ignoring costs) the risk of gold in real terms is enormous. Over 15 year holding periods sometimes your money was almost cut in half and sometimes it more than doubled!

Hmmm….if only there was an investment that had a “guaranteed” positive real return for a given holding period instead of gold’s “expected” slightly negative real return with enormous risk. But wait, there is such an investment- Treasury Inflation Protected Securities or TIPs. When you buy the 15 year TIP, for example, you are guaranteeing a return of your inflation-adjusted principal in 15 years. And in addition you get to earn a real return of 1.53% (as of 1/14/10) along the way. 15 year TIPs are only available on the secondary market and there may be a slight cost to purchase them, but there are no ongoing fund fees or storage costs like with gold. Buying TIPs at auction is even more attractive. Most brokers let you do this for free so purchase and holding costs are zero. Plus you get something called a “deflation” put. This means that even if there is net deflation over the life of your TIP, you will still get back the full value of your initial principal investment in nominal terms-I.e. if you invest $1000 you will get $1,000 back even if net deflation has been 10% over the period so by rights you should only get $900 back. There is in fact a 10 year TIPs auction coming up this week on Tuesday and there is a 30 year TIPs auction next month.

So remember: to preserve "real" wealth, skip the gold and put your money in TIPs!

cheers,
Grok:

Thanks for the post. Gold was fixed at $20.67/oz USD until 1933 when FDR nationalized it (at $20.67) and it was then fixed at $35/oz. It remained at that price until Nixon closed the gold window in 1971. How is this "fixed price" period accounted for in the data you have charted? If gold was market priced during the time period in question, the resulting data may look very different. Just food for thought.

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wbond
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Post by wbond » Sat Jan 15, 2011 12:27 pm

I predict Tip 5 will have more comments than any other.

Mine:

PME carries a higher correlation with equities, but still poorly correlates and has an intrinsic real return.

Gold and TIPS do not behave similarly in all scenarios, of course, since we have seen Gold soar during a deflationary financial crisis when TIPS plunge. The diversification value of gold is part of what the goldbugs promote, and so, I think, should be addressed head on.

G. Gordon Liddy definitely will not like this tip.

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Post by staythecourse » Sat Jan 15, 2011 12:28 pm

I agree with Lbill,

People on this board and investing continuously think about ways to diversify their portfolio by adding noncorrelated assets/ subassets for a better risk/ return.

Here you have gold which has over long periods of time been a low correlation to most other asset/subassets to give a better risk/ return for a gold containing portfolio vs. non-gold containing portfolio.

When gold has done poorly in isolation during 1980's (-2.86) SP 500 have done well (+16.45) and when gold has done well in isolation (+12.37) in the 2000's SP 500 have done poorly (-0.25). That is what you want as a diversifier. Either investment, SP 500 or gold, in isolation can be rocky, but adding the two gives a better overall return, i.e. true diversification!!

Now there is no way to know if gold will continue to do this going forward, but history has shown repeatedly gold is a "safe haven investment", such as: 30 y.o. treasuries, cash, etc. that people flock to in times of crisis. Anyone know a time people repeatedly flood to TIPS in times of crisis since their existence?

I agree that gold in isolation is a terrible investment, but who has their net worth all in gold? But stating gold is a terrible investment over an unknown hedge in TIPS (only around since 1997) is ridiculous. Between the two TIPS is the investment that has the mystical trust in to perform when it never has before.

My view on gold:
1. Low correlation to other asset/ subasset classes
2. Long history of store of value, unlike TIPS for example.
3. A great crisis hedge as it is a safe haven investment
4. Will be around forever
5. Disadvantage of taxation as a collectible

There is no reason one cannot hold gold and TIPS together for diversification and hedges against high inflation, along with real estate.
"The stock market [fluctuation], therefore, is noise. A giant distraction from the business of investing.” | -Jack Bogle

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Re: Grok's tip 5:To keep real wealth skip Gold, buy TIPs

Post by Langkawi » Sat Jan 15, 2011 12:43 pm

grok87 wrote:Plus you get something called a “deflation” put. This means that even if there is net deflation over the life of your TIP, you will still get back the full value of your initial principal investment in nominal terms-I.e. if you invest $1000 you will get $1,000 back even if net deflation has been 10%
Always true when buying TIPS at the initial auction. You need to be careful when the auction is a re-opening or when buying on the secondary market.

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Post by fredflinstone » Sat Jan 15, 2011 12:45 pm

Two thoughts:

1. I agree that gold should not be viewed in isolation but, rather, as a supplement to other major asset classes (i.e., stocks and bonds). I wonder if can someone post historical returns and standard deviations for the following two portfolios:

Portfolio A: 50/50 stocks/bonds
Portfolio B: 50/45/5 stocks/bonds/gold

If the expected returns are the same, I would prefer the portfolio that has the smaller standard deviation. If the standard deviations are the same, I would prefer the portfolio that has the higher historical returns.

The sort of analysis I have in mind would look like this:
http://www.fundadvice.com/articles/buy- ... ategy.html

(For example, Portfolio Three [which includes REITs] is superior to Portfolio Two [which does not incude REITs] because it has higher historical returns and lower standard deviation.)

Has someone done a similar analysis of the effect of gold on portfolio performance?

2. An expected real return of approximately zero is not as horrible as it sounds. In recent months, short-duration TIPS offered a real yield of zero or less.

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Post by investordiy » Sat Jan 15, 2011 12:58 pm

It's always useful to examine the source of the "rage".

[political rant removed by Mod.]

=)

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grok87
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A few comments...

Post by grok87 » Sat Jan 15, 2011 1:02 pm

A few comments:

1) The first rule in doing one's own investing or advising someone else on investing is to understand the person's or the portfolio's goals and structure the portfolio accordingly. For example if someone has a fixed payment that is due in 5 years, and can’t afford or doesn’t want to take any risk in that regard, the perfect investment would be a treasury strip that matures in 5 years. In this example, the investor’s goal is to keep or preserve real wealth. Many investors who buy gold say that they are doing it for this reason- to preserve their accumulated wealth in the face of dollar debasement by the fed. As per my post I think these investors are not thinking clearly, or do not understand how incredibly volatile gold has been historically in real terms. If their stated goal is to preserve their “real” wealth- i.e. preserve their purchasing power, then gold is a spectacularly inappropriate investment. Tips would be the logical investment

2) Let’s put that aside for the moment and consider the question some of you have raised: whether there is a role for gold in the portfolio of the typical “accumulation phase” investor- i.e. an investor who is trying to design an efficient portfolio (i.e. with a good balance of return and risk) to save for retirement or other similar long term goals. I agree that one important factor here is how gold would interact with the other elements of one’s portfolio. One portfolio that has gotten a lot of attention is the “Permanent Portfolio”: 25% cash, 25% long term bonds, 25% stocks, and 25% gold. William Bernstein has recently opined that he sees nothing wrong with this approach, but I think he is skeptical that all the people using the approach will have the discipline to stick with the Permanent Portfolio for the long term- i.e. be disciplined about rebalancing, etc. (note for my thoughts on rebalancing and how hard it can be emotionally, see Grok’s Tip # 4)

http://www.efficientfrontier.com/ef/0adhoc/harry.htm
William Bernstein wrote: There’s nothing wrong with Harry’s portfolio—nothing at all—but there’s everything wrong with his followers, who seem, on average, to chase performance the way dogs chase cars.
3) So where do I end up on gold as part of a long term “accumulation phase” portfolio? I would advise against it. Following David Swensen in "Unconventional Success", I think it important to not only look at how assets have behaved in a portfolio historically, but also what their expected future real return is. I think it is a bit dangerous to include assets that have expected or slightly negative future real return solely because they have historically been good diversifiers. Past correlations are just that and there is no guarantee that they will repeat in the future. So I advocate a sort of belt and suspenders approach: yes, by all means look at the portfolio effects/correlations, but also only fill your portfolio with assets that have a positive expected future real return

cheers,
RIP Mr. Bogle.

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Post by brick-house » Sat Jan 15, 2011 1:19 pm

Grok 87 wrote:
Following David Swensen in "Unconventional Success", I think it important to not only look at how assets have behaved in a portfolio historically, but also what their expected future real return is.

Swenson? - Is the next tip going to include the importance of long term treasuries and timber as portfolio diversifiers?

Here is another quote from William Bernstein's article.
In many respects, this allocation is a thing of beauty. Not only does it provide some protection against all but the most dire of scenarios, but its correlation grid is one rarely seen in finance: four non-derivative assets populated entirely by near-zeros:
Gold is a wildcard in the portfolio. If you view your investments as straight poker, then stick to conventional stocks and bonds - but sometimes no expected real return is a real cool hand...
You don't need no gypsy to tell you why- Greg Allman

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Post by zapper » Sat Jan 15, 2011 1:20 pm

investordiy wrote:It's always useful to examine the source of the "rage".

[political rant removed by Mod.]

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Post by paulob » Sat Jan 15, 2011 1:49 pm

I'm not sure I would recommend gold for a friend's portfolio due to it's volatility. However, I do recall PM was included in Bernstein's 4 Pillars' portfolios. Does anyone know if his current books continue that practice?

I would probably modify your recommendation when applied to my own portfolio. I think up to 5% allocation to PM is reasonable, with the balance of the pie slice to TIPS. Regarding portfolios that hold 25% in gold such as the Permanent Portfolio, I would agree with Bernstein they could be difficult to maintain over the long-term.
Last edited by paulob on Sat Jan 15, 2011 2:22 pm, edited 1 time in total.
Paul

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Post by Wonk » Sat Jan 15, 2011 1:50 pm

fredflinstone wrote:Two thoughts:

I wonder if can someone post historical returns and standard deviations for the following two portfolios:

Portfolio A: 50/50 stocks/bonds
Portfolio B: 50/45/5 stocks/bonds/gold
Make sure when you get your comparison, the data starts at 1970. No valid data set prior to 1970 will be valid as gold's price was not determined freely. The U.S. lost 12000 tons of gold to overseas redemptions from the 50s until the Nixon shock due to the $35 price not matching its true value overseas.

As for me, I'll take 5000 years history over 13 to determine the probability of past performance continuing into the future. Nothing is guaranteed, but I like the odds. I also prefer that most investors don't buy gold. More for me at a lower price.

Woman 1: "Is that a pure TIPs necklace?"

Woman 2: "Why yes, it is."

Woman 1: "Oh, my, how beautiful!"

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Post by beardsworth » Sat Jan 15, 2011 2:09 pm

Wonk wrote: Woman 1: "Is that a pure TIPs necklace?"

Woman 2: "Why yes, it is."

Woman 1: "Oh, my, how beautiful!"
Or, to take a longer and more multicultural view :) :

Woman 1: "Is your necklace made of gold–colored cowrie shells?"

Woman 2: "No, it's real gold."

Woman 1: "Oh, what a shame."

As I saw the course of this thread, at first I thought, Poor Grok. Every mention of gold seems to lead to a miniature version of the Permanent Portfolio thread. :) But I see that Grok can take care of himself in the debate.

I can't decide for myself whether the heightened interest in gold (including mine, although not acted upon) is due to "pure" recency bias, i.e., something whose climb has "broken through the roof" compared to almost everything else and thereby drawn inordinate attention to itself, or a more "educated" kind of recency bias in which something has been learned of gold's diversification value and the lesson will actually prove enduring. I guess the answer will only be known in hindsight.

I do know that:
•TIPS are directly and legally/officially linked to the major (though not only) index of U.S. inflation, while gold is not; and
•There was inflation in the 1980s and 1990s, and no TIPS in the 1980s or most of the 1990s, and doubts about currencies (our own or others) in the 1980s and 1990s––but I don't recall a similar level of interest in gold back then. (However, I wasn't thinking about money and investments back then either.)

Marc
Last edited by beardsworth on Sat Jan 15, 2011 2:27 pm, edited 1 time in total.

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Post by thehammer » Sat Jan 15, 2011 2:17 pm

TIPS , if inflation goes up, in a taxable account, will still screw you.
Do the math.

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Post by beardsworth » Sat Jan 15, 2011 2:23 pm

thehammer wrote:TIPS , if inflation goes up, in a taxable account, will still screw you. Do the math.
Agreed. The very best place to hold them is in a Roth IRA.

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Post by SP-diceman » Sat Jan 15, 2011 2:37 pm

investordiy wrote:It's always useful to examine the source of the "rage".

[political rant removed by Mod.]

=)
It isnt about politics, its about having an audience.
(you want to sell something where people are)

Channels like CNN, MSNBC have poor ratings.

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Post by Call_Me_Op » Sat Jan 15, 2011 3:29 pm

Jacotus wrote: Some people are just fanatics about gold, even though there is no rational reason why they should be an investment. The justifications people have for holding gold amount to extrapolation of past performance without an underlying basis for why the past performance should continue.
Really? Can you give me the underlying basis as to why the performance of stocks should continue?
Best regards, -Op | | "In the middle of difficulty lies opportunity." Einstein

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Post by xerty24 » Sat Jan 15, 2011 3:54 pm

thehammer wrote:TIPS , if inflation goes up, in a taxable account, will still screw you.
Do the math.
While I guess the theme of Tip 5 is to hold TIPS over gold, it would be nice to see mention the tax treatments. TIPS' taxes are quite poor, including being taxed on the principle adjustments each year that make up for inflation. Gold's aren't great either, but are better in that at least they are tax deferred until sale, and you can even get long term capital rates (instead of collectibles) through certain investment vehicles.

In addition, TIPs are linked to CPI, which has a whole host of issues, the major of which is just that your personal liabilities, such as saving for a house in the mid term, are not accurately tracked by the CPI. Retirees for example pay nothing for housing (except property taxes typically), while they pay a lot more for medical. I'm not saying a flawed inflation hedge isn't better than nothing, but it's a factor to keep in mind.

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Post by Bongleur » Sat Jan 15, 2011 3:58 pm

Is there another asset class which at this time is selling at about 3x the cost of production?

Gold might be perfectly rationale as a diversifier AT THE RIGHT ENTRY PRICE.

For example, How's the relative price of REITs at the moment? I don't have any, so is this a favorable time to create that diversity?
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Post by Beantown85 » Sat Jan 15, 2011 4:02 pm

If I read this tip correctly, Grok seemed to be saying that to preserve real wealth, TIPS were a better option than Gold. Tax considerations are certainly important, but if held in a tax-advantaged account, I think his advice is good.

Gold may be a great diversifier, and be useful as part of an accumlator's portfolio to take advantage of volatility and correlation, but that isn't what this tip seems to be about. His last line is "So remember: to preserve "real" wealth, skip the gold and put your money in TIPs!" Not, "Gold has no place in any portfolio."

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Post by xerty24 » Sat Jan 15, 2011 4:12 pm

Bongleur wrote:Is there another asset class which at this time is selling at about 3x the cost of production?
Oil from Saudi Arabia costs something like $2-3/barrel to produce, but sells for market price just like any other barrel for nearly $100. Don't forget the demand side of the equation.

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Post by Jacotus » Sat Jan 15, 2011 4:34 pm

Call_Me_Op wrote:
Jacotus wrote: Some people are just fanatics about gold, even though there is no rational reason why they should be an investment. The justifications people have for holding gold amount to extrapolation of past performance without an underlying basis for why the past performance should continue.
Really? Can you give me the underlying basis as to why the performance of stocks should continue?
Surely you can see the difference. Stocks are expected to increase in value because stocks represent part ownership in businesses. These businesses are expected to make a profit (or else they will shut down) and distribute their profits to their shareholders.

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Post by grok87 » Sat Jan 15, 2011 4:39 pm

paulob wrote:I'm not sure I would recommend gold for a friend's portfolio due to it's volatility. However, I do recall PM was included in Bernstein's 4 Pillars' portfolios. Does anyone know if his current books continue that practice?

I would probably modify your recommendation when applied to my own portfolio. I think up to 5% allocation to PM is reasonable, with the balance of the pie slice to TIPS. Regarding portfolios that hold 25% in gold such as the Permanent Portfolio, I would agree with Bernstein they could be difficult to maintain over the long-term.
Paul,
William Bernstein is one of my favorite authors, along with Larry Swedroe and David Swensen. Bill was kind enough to post on my Tip #1 so maybe he'll chime in here.
I believe in 4 pillars (one of my favorite books) Bill recommends not precious metals themselves but precious metals mining stocks, and I think for a small allocation like 2-3 percent. He may even have been specific enough to say gold mining stocks.
I personally wouldn't recommend a small allocation to precious metal stocks, but I wouldn't recommend against it either. Those stocks would have positive expected real return and may offer diversification benefits. I think that was probably the rationale presented in 4 pillars for them.
Cheers,
RIP Mr. Bogle.

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Post by Roy » Sat Jan 15, 2011 4:58 pm

Lbill wrote:I wish people would take Larry Swedroe's advice and quit analyzing assets in isolation.
That pretty much says it.

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Post by paulob » Sat Jan 15, 2011 5:11 pm

grok87 wrote: Paul,
William Bernstein is one of my favorite authors, along with Larry Swedroe and David Swensen. Bill was kind enough to post on my Tip #1 so maybe he'll chime in here.
I believe in 4 pillars (one of my favorite books) Bill recommends not precious metals themselves but precious metals mining stocks, and I think for a small allocation like 2-3 percent. He may even have been specific enough to say gold mining stocks.
I personally wouldn't recommend a small allocation to precious metal stocks, but I wouldn't recommend against it either. Those stocks would have positive expected real return and may offer diversification benefits. I think that was probably the rationale presented in 4 pillars for them.
Cheers,
Right. I've lent my copy of the book out, but you jogged my memory, I believe it was the VG PM&M fund in 4 Pillars. Sorry about the confusion.
Paul

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Post by MahoningValley » Sat Jan 15, 2011 5:24 pm

I believe the gold fever is a result of marketing. Four years ago, they couldn't give that stuff away.
I bought Krugerrand back then for about $650. They were a present to my wife. She's the money- in-the-mattress type of investor.
Ask ten non-Bogleheads what TIPS are; I'll bet only 2 will have ever heard of them. I feel TIPS are a better option.

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Post by staythecourse » Sat Jan 15, 2011 5:37 pm

Everyone needs to make their own decisions, but stating the real return of TIPS vs. gold again makes me think people are not understanding or wanting to accept Swedroe's point of analyzing the portfolio as a whole and not the asset's in isolation.

True 100% TIPS does give a real return vs. 100% gold, but who owns those type of portfolios? No one, I assume.

Their are times already historically porfolio's with gold have produced a greater real return than without... again emphasizing the portfolio as a whole is more important than the qualities of each asset in isolation. This seems to be lost over and over again on the same folks who advocate so strongly about diversified portfolios.

Roger Gibson in his book has some great charts on the advantages of adding such assets to a portfolio.
"The stock market [fluctuation], therefore, is noise. A giant distraction from the business of investing.” | -Jack Bogle

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Post by grok87 » Sat Jan 15, 2011 6:15 pm

paulob wrote:
grok87 wrote: Paul,
William Bernstein is one of my favorite authors, along with Larry Swedroe and David Swensen. Bill was kind enough to post on my Tip #1 so maybe he'll chime in here.
I believe in 4 pillars (one of my favorite books) Bill recommends not precious metals themselves but precious metals mining stocks, and I think for a small allocation like 2-3 percent. He may even have been specific enough to say gold mining stocks.
I personally wouldn't recommend a small allocation to precious metal stocks, but I wouldn't recommend against it either. Those stocks would have positive expected real return and may offer diversification benefits. I think that was probably the rationale presented in 4 pillars for them.
Cheers,
Right. I've lent my copy of the book out, but you jogged my memory, I believe it was the VG PM&M fund in 4 Pillars. Sorry about the confusion.
Yeah I got mine from the library so I don't have the quote either.
But this source reproduces one of the portfolios from the book and it says 3% vanguard precious metals fund.
I think something like that would be fine- don't see how that could harm you and it might help...
cheers,
RIP Mr. Bogle.

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Post by cinghiale » Sat Jan 15, 2011 7:51 pm

zapper wrote:
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In order to avoid the inevitable frictions that arise from these topics, political or religious posts and comments are prohibited. The only exceptions to this rule are:

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I do not wish to sidetrack or hijack this thread, but... If the above-quoted bold highlighted language is official policy, then I wish to dissent. I do *not* want this forum to fall prey to religious discussions. I support the "strict separation" of finance and faith. But please, if some member reports that he/she or some member of his/her family has cancer, I want the freedom to respond and say that said member and his/her family is in my prayers. That isn't proselytizing. That isn't an altar call. Its just an expression of sympathy and care and compassion. Am I to understand that there a prohibition-- and policy-- against that??
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Post by thehammer » Sat Jan 15, 2011 8:17 pm

I hope no one takes my argument about taxes as an advertisement for gold, which I think is in bubble territory.

My point however, is TIPS can really bite you with high inflation.

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Post by Langkawi » Sat Jan 15, 2011 8:29 pm

cinghiale wrote: Am I to understand that there a prohibition-- and policy-- against that??
No, there is no such prohibition or policy. You may wish to re-read the section you quoted.

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Post by matt » Sat Jan 15, 2011 8:39 pm

Gold may be over-priced today. I concede that point. The truth is that none of us really can be sure.

Unquestionably, TIPS will provide a much more certain real return than gold. But there is a massive error in the idea that TIPS provides better inflation protection for a portfolio than gold. Here's what I wrote a few months back (http://www.bogleheads.org/forum/viewtopic.php?t=50316).
The reality, and intent, with TIPS is that they are no better in inflationary times than disinflationary times. They keep up with inflation, but they don't benefit from it. The real return is the same no matter what happens. I don't believe that is the case for gold. I expect gold to do much better in inflation than disinflation. For example, gold may produce 10% real returns during inflation and -10% real returns during disinflation. From a portfolio design standpoint, this is highly preferable to TIPS, which to me are a cash-like investment. That is consistent with the view by many that they are the lowest risk security available. Such a low risk security is good for defense on a stand alone basis, but cannot deliver offense in a diversified portfolio. Gold, on the other hand, may appear questionable on a standalone basis, but has clear value to me in a diversified portfolio.
Simply put, TIPS only protect themselves from inflation, not the total portfolio. Gold is not guaranteed to protect the total portfolio from inflation, but because of its much higher volatility, it at least has the potential to do so. Gold returns have a high optionality, which obviously comes with less certainty. I view that optionality as favorable within a portfolio.

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Post by grok87 » Sat Jan 15, 2011 8:39 pm

thehammer wrote:I hope no one takes my argument about taxes as an advertisement for gold, which I think is in bubble territory.

My point however, is TIPS can really bite you with high inflation.
It's too bad vanguard doesn't offer tips in a variable annuity wrapper.
TIAA CREF does offer an after-tax annuity with a pimco real return fund. I would imagine the expense ratio is fairly egregious though...
cheers,
RIP Mr. Bogle.

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Post by grok87 » Sat Jan 15, 2011 9:00 pm

staythecourse wrote:Everyone needs to make their own decisions, but stating the real return of TIPS vs. gold again makes me think people are not understanding or wanting to accept Swedroe's point of analyzing the portfolio as a whole and not the asset's in isolation.

True 100% TIPS does give a real return vs. 100% gold, but who owns those type of portfolios? No one, I assume.

Their are times already historically porfolio's with gold have produced a greater real return than without... again emphasizing the portfolio as a whole is more important than the qualities of each asset in isolation. This seems to be lost over and over again on the same folks who advocate so strongly about diversified portfolios.

Roger Gibson in his book has some great charts on the advantages of adding such assets to a portfolio.
staythecourse,
I've always wanted to read Roger Gibson. I know Swensen is a Gibson fan. He's the one that quotes the Talmud on being 1/3 in land, 1/3 in business, and 1/3 in reserve right (real estate, stocks, and bonds).

This older thread discusses Gibson
http://www.bogleheads.org/forum/viewtopic.php?p=3655
It appears that Gibson advocates collateralized commodity futures instead of spot commodity investments like Gold. That would make more sense to me as there may be an expected positive real return for such investments. Does it say in the book that Gibson advocates investing in physical gold?
cheers,
RIP Mr. Bogle.

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Post by grok87 » Sat Jan 15, 2011 9:04 pm

brick-house wrote:
Swenson? - Is the next tip going to include the importance of long term treasuries and timber as portfolio diversifiers?
Already did treasuries, see my tip #1-
http://www.bogleheads.org/forum/viewtop ... highlight=

Timber-now there's an idea.... :idea:

just kidding...
cheers,
Last edited by grok87 on Sat Jan 15, 2011 9:28 pm, edited 1 time in total.
RIP Mr. Bogle.

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Post by grok87 » Sat Jan 15, 2011 9:12 pm

Wonk wrote:
fredflinstone wrote:Two thoughts:

I wonder if can someone post historical returns and standard deviations for the following two portfolios:

Portfolio A: 50/50 stocks/bonds
Portfolio B: 50/45/5 stocks/bonds/gold
Make sure when you get your comparison, the data starts at 1970. No valid data set prior to 1970 will be valid as gold's price was not determined freely. The U.S. lost 12000 tons of gold to overseas redemptions from the 50s until the Nixon shock due to the $35 price not matching its true value overseas.

As for me, I'll take 5000 years history over 13 to determine the probability of past performance continuing into the future. Nothing is guaranteed, but I like the odds. I also prefer that most investors don't buy gold. More for me at a lower price.

Woman 1: "Is that a pure TIPs necklace?"

Woman 2: "Why yes, it is."

Woman 1: "Oh, my, how beautiful!"
The above hypothetical conversation between the two women is actually supportive to me of the idea that TIPs are a better investment than gold. Remember Winston Churchill's quote:
"In finance, everything that is agreeable is unsound and everything that is sound is disagreeable."
Gold = bright, shiny metal = agreeable
TIPS = boring low yielding bonds = disagreeable

:)
cheers,
RIP Mr. Bogle.

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Re: Grok's tip 5:To keep real wealth skip Gold, buy TIPs

Post by grok87 » Sat Jan 15, 2011 9:20 pm

Langkawi wrote:
grok87 wrote:Plus you get something called a “deflation” put. This means that even if there is net deflation over the life of your TIP, you will still get back the full value of your initial principal investment in nominal terms-I.e. if you invest $1000 you will get $1,000 back even if net deflation has been 10%
Always true when buying TIPS at the initial auction. You need to be careful when the auction is a re-opening or when buying on the secondary market.
good point!
RIP Mr. Bogle.

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Post by grok87 » Sat Jan 15, 2011 9:26 pm

FinanceGeek wrote:Thanks for the posting Grok.

In another "Tip", can you focus on TIPSs since this article recommends them over gold? I think most of us understand the mechanics of how they work, but I don't think anyone is completely certain of their portfolio protection potential during real world inflationary times...
Hmm.. Well I've already talked about TIPs in two of these 10 "investing tips" threads. I think one more might put me over the limit!

I guess I could always pull a Spinal Tap "These go to 11" and do it as investing tip 11/10?
http://www.youtube.com/watch?v=ll7rWiY5obI
:)
cheers,
RIP Mr. Bogle.

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Post by staythecourse » Sat Jan 15, 2011 10:11 pm

grok87 wrote:
staythecourse wrote:Everyone needs to make their own decisions, but stating the real return of TIPS vs. gold again makes me think people are not understanding or wanting to accept Swedroe's point of analyzing the portfolio as a whole and not the asset's in isolation.

True 100% TIPS does give a real return vs. 100% gold, but who owns those type of portfolios? No one, I assume.

Their are times already historically porfolio's with gold have produced a greater real return than without... again emphasizing the portfolio as a whole is more important than the qualities of each asset in isolation. This seems to be lost over and over again on the same folks who advocate so strongly about diversified portfolios.

Roger Gibson in his book has some great charts on the advantages of adding such assets to a portfolio.
staythecourse,
I've always wanted to read Roger Gibson. I know Swensen is a Gibson fan. He's the one that quotes the Talmud on being 1/3 in land, 1/3 in business, and 1/3 in reserve right (real estate, stocks, and bonds).

This older thread discusses Gibson
http://www.bogleheads.org/forum/viewtopic.php?p=3655
It appears that Gibson advocates collateralized commodity futures instead of spot commodity investments like Gold. That would make more sense to me as there may be an expected positive real return for such investments. Does it say in the book that Gibson advocates investing in physical gold?
cheers,
Sorry did not mean to intend Gibson favoring gold. He favored low correlating asset classes, like commodities (GSCI), real estate (NAREIT), U.S. equity, and foreign equity in addition to fixed income.

I mentioned his book, as an example, as one favoring looking at a portfolio as a whole.

As for commodities, I believe, have a real return of 0 as well. If you take out spot price and roll yield which people find are based on speculation you are left with the return via collatarel T-bills which just matches inflation as well.
"The stock market [fluctuation], therefore, is noise. A giant distraction from the business of investing.” | -Jack Bogle

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Post by cinghiale » Sun Jan 16, 2011 6:28 am

Langkawi wrote:
cinghiale wrote:
Am I to understand that there a prohibition-- and policy-- against that??
No, there is no such prohibition or policy. You may wish to re-read the section you quoted.
Oooops.
Note to thread: please excuse the misdirected posting.
Note to self: measure twice, cut once.
"We don't see things as they are; we see them as we are." Anais Nin | | "Sometimes the first duty of intelligent men is the restatement of the obvious." George Orwell

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Post by grok87 » Sun Jan 16, 2011 7:21 am

staythecourse wrote:
grok87 wrote:
staythecourse wrote:Everyone needs to make their own decisions, but stating the real return of TIPS vs. gold again makes me think people are not understanding or wanting to accept Swedroe's point of analyzing the portfolio as a whole and not the asset's in isolation.

True 100% TIPS does give a real return vs. 100% gold, but who owns those type of portfolios? No one, I assume.

Their are times already historically porfolio's with gold have produced a greater real return than without... again emphasizing the portfolio as a whole is more important than the qualities of each asset in isolation. This seems to be lost over and over again on the same folks who advocate so strongly about diversified portfolios.

Roger Gibson in his book has some great charts on the advantages of adding such assets to a portfolio.
staythecourse,
I've always wanted to read Roger Gibson. I know Swensen is a Gibson fan. He's the one that quotes the Talmud on being 1/3 in land, 1/3 in business, and 1/3 in reserve right (real estate, stocks, and bonds).

This older thread discusses Gibson
http://www.bogleheads.org/forum/viewtopic.php?p=3655
It appears that Gibson advocates collateralized commodity futures instead of spot commodity investments like Gold. That would make more sense to me as there may be an expected positive real return for such investments. Does it say in the book that Gibson advocates investing in physical gold?
cheers,
Sorry did not mean to intend Gibson favoring gold. He favored low correlating asset classes, like commodities (GSCI), real estate (NAREIT), U.S. equity, and foreign equity in addition to fixed income.

I mentioned his book, as an example, as one favoring looking at a portfolio as a whole.

As for commodities, I believe, have a real return of 0 as well. If you take out spot price and roll yield which people find are based on speculation you are left with the return via collatarel T-bills which just matches inflation as well.
Here's a vanguard paper on collateralized commodity futures that discusses the sources of the returns: collateral, roll, and spot:

https://institutional.vanguard.com/iwe/ ... dities.pdf

see for example figure 5 on page 5. Looks like historically quite a lot of the return has come from collateral and roll as opposed to spot.
Since spot prices, over the long term would be expected to track inflation and hence have zero real return, it would be collateral and roll that would be source of any expected future real returns for collateralized commodity futures. I believe when Swedroe, Gibson and other recommend collateralized commodity futures, this recommendation is based on the view that there will be expected positive future real return (based on collateral and roll) AND valuable diversification benefits (low or negative correlation to other equities and other elements of the portfolio, etc.)

Again if one invests in physical gold or a gold ETF such as GLD the expected future real return is negative. To repeat from above:I think it is a bit dangerous to include assets that have expected zero or slightly negative future real return solely because they have historically been good diversifiers. Past correlations are just that and there is no guarantee that they will repeat in the future. So I advocate a sort of belt and suspenders approach: yes, by all means look at the portfolio effects/correlations, but also only fill your portfolio with assets that have a positive expected future real return.
cheers,
Last edited by grok87 on Sun Jan 16, 2011 3:03 pm, edited 1 time in total.
RIP Mr. Bogle.

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Post by fredflinstone » Sun Jan 16, 2011 7:40 am

I found the sort of analysis I have been looking for:

Image

Source: http://www.resourceinvestor.com/News/20 ... ility.aspx

According to the above, a 85/15 stock/gold portfolio has provided higher returns with no added volatility relative to a 100/0 stock/gold portfolio.

The dates covered by this analysis are September 1971 to May 2009. The analysis updated an earlier study by Jeffrey Jaffe, a finance professor at the Wharton School, that was published in 1989. The earlier study covered the period from September 1971 to June 1987. During that time period, the study found that adding gold to stocks improved overall returns and reduced portfolio risk:
The Jaffe study concluded that adding gold and gold stocks to a large portfolio increases both risk and return, but that the additional return from these non-correlative assets more than compensates for the additional risk.

During the study period, gold bullion saw an average monthly return of 1.56 percent, considerably better that the 1.06 percent average monthly return for common stocks represented by the S&P 500. Gold stocks shone even brighter, returning an average of 2.16 percent per month.

On the risk side, gold and gold stocks had greater volatility (measured by standard deviation) than the S&P 500. But Jaffe found that, due to their non-correlative qualities, adding gold-related assets to a diversified portfolio would likely reduce overall risk.
So here we have analysis of two lengthy time periods: (a) September 1971 to May 2009 and (b) September 1971 to June 1987. In both cases, incorporating a small amount of gold into an all-stock portfolio increased returns without increasing portfolio risk.

Since gold has slightly outperformed stocks since May 2009, the more recent analysis presumably would be slightly more favorable to gold if it were updated to the present.

It would be interesting to see the above analysis repeated for a 50-50 stock-bond portfolio. For example, would a 50-45-5 stock-bond-gold portfolio provide higher returns with no added volatility relative to a 50-50 stock-bond portfolio? Unfortunately, I have not been able to find such an analysis.

Also, I think the analysis needs to take into account the cost of holding gold vs. the cost of holding stocks or bonds. I don't know if the Jaffe analysis did so. If not, that seems like a pretty important oversight, at least for retail investors. The expense ratios for gold funds such as GLD and GTU are significantly higher than the expense ratio for Vanguard's Total Stock Index.

I would still like more information. But on the basis of the above, my gut says that putting a small allocation of one's liquid assets in precious metals is probably not going to hurt and may improve overall portfolio performance. I have about 2 percent of my liquid assets in precious metals. I plan to increase that allocation slightly in the coming years.

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