One of my favourite books is “Making Money” by Terry Pratchett.
In it, a former con man, Moist von Lipwig, is put in charge of the mint by the city’s benevolent dictator. He is opposed by the head clerk of the bank, Mr. Bent — who is all about the virtue of gold. Mr. Bent insists that acurrency must be backed by gold in order to be truly legit.
On the other hand, Moist believes that it’s OK to print money. And as long as it goes ’round and ’round, everything will be fine — whether or not there’s actual gold in the bank’s vault.
Among the most interesting insights, though, comes during an exchange about the relative value of gold.
Gold Isn’t “Real Money”
Moist points out that on a desert island, gold is basically useless. You can’t eat it. You can’t plant it. A potato, though, can be eaten. Part of it can be planted to grow more potatoes. When you’re starving, gold suddenly isn’t so valuable.
Just like everything else, the value of gold is in how it’s perceived.
This is true in the “real” world as well. Anyone watching the rollercoaster ride that has been gold prices for the last year or two knows that gold’s value changes on whims — just like everything else.
Even though, for thousands of years, gold has been considered a valuable medium of exchange, the reality it is that it’s really not “pure money.” Although there are states that accept gold and silver as legal tender in addition to Federal Reserve notes, owning precious metals in physical form might not be all that great.
In fact, in June 2013, Henry Blodget pointed out that gold is just as susceptible to the whims of themarket as any other investment. He pointed out that gold has no true fundamental value: “But there’s no solid theoretical way to ‘value’ gold, so its price could do almost anything.” Later, he continued: “Speculating about what gold prices will do is speculating, not investing…”
As he points out, gold is “just yellow metal.” There isn’t anything particularly special about it, and if a financial apocalypse does come, would you rather have food storage and good land or a safe full of gold coins?
Who’s going to want to trade for your gold — and who would be able to afford it, anyway? It goes back to that whole potatoes vs. gold thing.
There are other downsides associated with investing in the physical form of gold.
28% Tax Rate!!
Physical gold is taxed at the collectibles capital gains rate, which is 28% as of this writing. It doesn’t matter what income bracket you’re in.
Forms of gold taxed at this rate include wafers, bars, coins and rounds, as well as certificate gold, electronic gold and gold ETFs.
The High Cost Of Storage
You need to figure out how to store it. You either need a secure location in your home, or you need to pay someone to store it for you. Finding someone to store it for you often means that you add to your overhead, cutting into your returns, since you have to pay monthly or yearly fees. Gold ETFscan reduce the need for storage, but they still come with the collectibles capital gains rate. (Plus, with gold ETFs you do have to worry about contango. This occurs when the current futures price of anasset — as quoted in the futures market — is higher than the current spot price of the underlying asset. Check out our definition to learn more.)
By the time you pay a premium for buying physical gold, and then pay for its storage (or shipment to you), it’s a little hard to make a profit.
The Investing Answer: Don’t get too hung up on physical gold. Be realistic about the drawbacks involved. If you really must have exposure to gold, consider starting with gold stocks (which are taxed as “regular” capital gains). You can also judiciously buy physical gold in small quantities for diversity, or you can begin building a tax-free heirloom collection of fine gold jewelry.
But don’t expect it to save you from financial apocalypse, and don’t believe that it’s “pure money” that somehow isn’t subject to perception and market forces.
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