Investing in gold was one of the safest things to do under volatile economic conditions. But all that changed when gold took a plunge last month. Now, people are aware that even gold is subject to volatility. It is like the stock market where there are highs and lows; it will not remain bullish all the time.
For the past 10 years, gold was generally upbeat. Those who traded in gold never experienced a major crash. This gave a sense of false security that gold is a risk-less investment. But now, things have changed and people will think twice before investing in gold. While there are benefits of investing in gold, there are disadvantages as well. Therefore, it is best to identify the pros and cons of investing in gold in order to determine the best time to buy and the best time to sell. Just like trading, proper timing is important to maximize gain.
Some people see gold not only as an investment, but a hedge fund. It is where investors go when all else fails. For many people, gold used to be a retirement insurance policy that provided long-term financial security. For the past decade, gold was even better than an insurance policy since the potential gains were much higher than the insurance earnings.
The securitization of gold started a new era in the market. The SPDR Gold Trust ETF (NYSEMKT:GLD) became one of the most popular investment choices among gold investors. The ETF, which seeks to replicate the performance of the price of gold bullion was soaring at the beginning of this year. John Paulson is well-known for his large stake in the ETF. JPMorgan Funds also invested more than $1.5 billion in the ETF. However, the participation of hedge funds in the gold market through ETFs initiated a new era in the market.
Pros of investing in Gold
If the global economy suffers inflation, gold strengthens amid the falling value of paper currency. People will resort to another form of currency, which is gold. Therefore, inflation is one of the signals for the ups and downs of gold.
In contrast, if money strengthens under a deflationary economy, the value of gold will decrease. Money can buy goods, but gold can’t. So, if the value of money strengthens, it gains higher capacity to buy more goods and services. In this case, some people will sell their gold and convert them into currency in order to enjoy the benefits of lowered prices of goods and services.
This is why there is a correlation between gold and the consumer price index [CPI]. The CPI is one of the measures to evaluate if an economy is undergoing inflation or deflation. The CPI is a measure that monitors the changes in the prices of common household goods. This is sometimes controlled by the government.