Commentary 10/8/2010

Anxiety over a sluggish economic recovery at home and fear over a renewed European debt crisis continue to drive investors to gold. Gold has had a positive run for eight straight quarters causing many to wonder, if they aren’t already invested in gold, should they be. To answer that question, we have to remind ourselves that we invest in different vehicles because they either generate a return or are expected to at some point. We want interest from bonds and dividends from value stocks. We invest in growth stocks because we believe at some point they will begin to pay a dividend. Gold, like any commodity, doesn’t generate any income. It is simply an ancient store of wealth. In fact, over the very long term, the returns on commodities such as gold are negative. The reason for this is simply supply and demand. As gold becomes more expensive, miners mine more of it driving down the price.

When fear reigns, gold outperforms. People also consider gold a good inflation hedge. These are the reasons that gold has had its run. We have had a sustained period of uncertainty coupled with quantitative easing, which leads many to believe that we will have inflation at some point down the road. However, a broad-based basket of commodities provides diversification and is a much better hedge against inflation than gold. As the economy improves and fear subsides, gold will lose its luster and investors will turn to investments that produce income. Energy, agricultural commodities, and industrial metals perform well in good economic times while gold does not. Indeed, over the last few decades oil prices have risen consistently with inflation. And foreign bonds, a great investment at the moment in our opinion, provide protection against a weak dollar while generating the income that gold does not.