Failure to understand the disadvantages of holding gold can ruin your financial future! Don’t assume that simply holding gold is a great way to combat inflation! The negative impact of holding gold can be devastating to your portfolio and your life! Don’t limit your potential and opportunities! Consider a contrarian viewpoint in why holding gold is a terrible idea.
This blog post is going to discuss why holding gold can be one of the worst financial decisions you make in your life. This will focus on risk management and resiliency in making the best use of your cash all while protecting yourself from inflation
Gold has 28% Capital Gains Tax Rate
Short term capital gains tax is a tax applied to profits from selling an asset for less than a year. Short term capital gains taxes are paid at the same rate as you’d pay on your ordinary income, such as wages from a W2 job.
Long term capital gains tax is a tax applied to profits from selling an asset for greater than a year. The long term capital gains tax rates are 0 percent, 15 percent, and 20 percent, depending on your income. These rates are typically much lower than your ordinary income tax rate.
If your gains come from collectables, you are subject to a max rate of 28 percent. Items that are subject to the 28 percent capital gains tax would include but is not limited to:
- Art
- Antiques
- Gems
- Stamps
- Coins
- Precious Metals
- Wine or Brandy Collections.
Gold would fall under the previous metals category and would henceforth be taxed at the 28 percent capital gains tax rate. Thru high times of inflation or hyperinflation, that 28 percent tax will be a phantom gain. It is not like the gold intrinsically increased in value, it would have only increased due to the government printing out more money inflating or hyperinflating the currency in question.
Confiscation with below market compensation
https://en.wikipedia.org/wiki/Executive_Order_6102
Executive Order 6102 required all persons to deliver on or before May 1, 1933, all but a small amount of gold coin, gold bullion, and gold certificates owned by them to the Federal Reserve in exchange for $20.67 per ounce. The 1934 Gold Reserve Act subsequently changed the statutory gold content of the U.S. Dollar from $20.67 to $35 an ounce. Those who traded in their gold were screwed over by $14.33 per ounce or 69% by simply following the law trading in their gold!
This order was a United States presidential executive order signed by President Franklin D. Roosevelt on April 5, 1933, in response to the banking crisis during the Great Depression. The order required all individuals and businesses in the United States to turn over their gold coins, bullion, and certificates to the Federal Reserve in exchange for paper currency.
The order was issued to stabilize the economy by preventing hoarding and encouraging spending, as the government believed that the hoarding of gold was a contributing factor to the economic crisis. The order made it illegal for anyone to own more than $100 worth of gold, and violators could face fines of up to $10,000, imprisonment for up to ten years, or both.
The order also required that all gold held by Federal Reserve Banks be surrendered to the United States Treasury. The order effectively prohibited the use of gold as a currency and gave the government a monopoly on the possession of gold.
The order was controversial, and many people felt that it was an infringement on their property rights. For inflation planning, because this happened in the past, it is possible that this may happen in the future.
Gold Clause Cases
http://en.wikipedia.org/wiki/Gold_Clause_Cases
In Norman v. Baltimore & Ohio Railroad Co. with United States v. Bankers Trust Co., the Court ruled that the government had the power to abrogate gold clauses in contracts, even if it was not explicitly stated in the contract. The Court held that the government had the authority to regulate the currency and that the impairment of contracts was justified by the need to address the economic crisis.
In Nortz v. United States, the Court ruled that the government could not be sued for violating the gold clause in a contract, as the government was immune from lawsuits seeking to enforce a contractual obligation to pay in gold.
In Perry v. United States, the Court held that the government was not required to pay a contract obligation in gold, as the obligation was discharged by the government’s payment in paper currency. The Court concluded that the government’s abrogation of the gold clause did not impair the obligation of the contract, but merely changed the form of payment.
To summarize, having contracts and gold clauses in them did not protect for payment. The government reneged on their contractual obligations to pay in gold and it would be expected the same can happen in the future. Don’t expect having gold clauses in contracts to protect you.
Lack of Use/Cashflow
Gold does not generate income or contribute towards economic growth. Unlike stocks, bonds, real estate, or owning your own business, gold does not produce any cashflow or earnings. It incurs costs in terms of storage, security, and insurance. The only way to profit from it is by selling it at a higher price than what you paid, capital appreciation.
Economic growth is defined as the increase in production of goods and services in an economy over a period of time. Gold is a non-productive asset that does not contribute towards the production of goods or services. Investing in gold diverts resources away that can create jobs or create income.
No one commodity is likely to match CPI movement
Gold is not a consumption good and is not included in the consumer price index movement basket of goods and services. Rather than being directly affected by changes of prices of goods and services, gold would be influenced by a variety of factors including supply and demand dynamics, investor sentiment, geopolitical risk, currency movement, among others. While it is used in some industrial items or jewelry, it is used also as a store of value over time. Why not use other commodities, like copper, nickel, steel, resin, lumber, or others that have industrial or commercial use rather than gold which is more limited? Those may be able to track better than gold for CPI changes.
Gold Bugs
There are a group of investors who are highly bullish on gold and believe it is an essential part of any investment portfolio. They may hold more extreme views on gold, it’s role in the economy, and convinced it is the only item to hold during economic uncertainty. They see it as a hedge against inflation and currency devaluation. Paper currencies lose their value over time due to excessive government spending. Gold is the ultimate form of money and all others are inferior.
Gold is seen as a safe haven asset that is immune to the fluctuations of stocks, bonds, real estate and other assets during economic uncertainty. Gold can provide stability in an instable market. They may see governments and central banks being responsible for the economic problems facing society. Gold can be seen as an asset that circumvents government control and preserves individual freedom, an asset that is a symbol of financial independence and self-reliance.
When is a good time to buy gold? For those types of people, it would be anytime. That is irrational as people typically would say buying low and selling high would be the best strategy in economics. If buying any time is the best time to buy, then that throws out some economic fundamentals. Irrational buyers in the market who do not apply logic to purchases will cause irrational volatility.
Price is no object
Gold is seen as one of the few items to buy regardless of price. This can be due to rarity, durability, portability, universality, and history.
- Rarity: Gold is a rare metal, and the amount of gold mined each year is relatively small compared to other commodities. As a result, gold has always been considered a precious metal, and its value has been closely tied to its scarcity.
- Durability: Gold is a durable metal that does not corrode, rust, or tarnish. This makes it an excellent store of value that can last for centuries without losing its luster.
- Portability: Gold is a highly portable asset that can be easily transported and stored. This makes it an ideal asset for investors who want to diversify their portfolios and protect their wealth.
- Universality: Gold is a universally accepted form of currency that can be exchanged for other currencies and commodities. This makes it a valuable asset in times of economic uncertainty when other forms of currency may lose their value.
- History: Gold has been used as a form of currency and a store of value for thousands of years. Its long history and cultural significance have contributed to its mystique and enduring value.
What is the accurate price for gold? Supply & Demand, inflation, interest rates, geopolitical risk, and market sentiment may all influence gold prices
- Supply and Demand: When investors are worried about economic instability, they tend to flock to gold, which can drive up the price of the metal. the amount of gold mined each year is relatively small compared to other commodities, which can also affect the price of the metal.
- Inflation: Investors may turn to gold as an inflation hedge increasing demand and pricing
- Geopolitical: If there is political instability or conflict in a major gold-producing country, it can disrupt the supply chain and cause prices to rise.
- Market Sentiment: If investors are optimistic about the economy, they may be less likely to invest in gold which can cause the price to decrease
Usury
Usury laws are regulations that limit the amount of interest that lenders can charge on loans. These laws are intended to protect borrowers from predatory lending practices and excessive interest rates. Some lenders may have offered loans that are secured by gold, but charge interest rates that are significantly higher than the legal limit. These loans are structured in a way that allows the lender to profit from the borrower’s inability to repay the loan in full. Lenders may also use gold as a form of collateral for loans that are charged at higher interest rates. This can make it easier for the lender to recover their investment if the borrower defaults on the loan.
Inconvenient Denominations
Gold is hard to use for trade, can make people attractive targets, make it worthwhile for people to try to counterfeit and would incur costs to hold in safety deposit boxes
- Hard to use to trade for needs: Gold is typically traded in small denominations, such as one ounce or one gram. This can make it difficult to use gold to purchase everyday items, such as groceries or gasoline. In addition, many merchants are not equipped to accept gold as payment, which can limit its usefulness as a currency.
- People holding gold attractive targets: Because gold is a valuable and easily portable asset, people who hold gold can be attractive targets for theft. This can be particularly problematic if the gold is kept in a private residence, as thieves can easily break in and steal the metal.
- Worth the trouble to counterfeit gold: Gold is a valuable asset, and counterfeiters may be motivated to produce fake gold coins or bars in order to profit from unsuspecting investors. This can make it difficult for buyers to verify the authenticity of the gold they are purchasing, which can lead to significant losses.
- Can easily hold in safe deposit box: While gold can be inconvenient to use as currency, it is easy to store in a safe deposit box. This can make it a convenient asset for investors who want to diversify their portfolios and protect their wealth. However, storing gold in a safe deposit box can also be expensive, as banks typically charge fees for this service.
Gold seller regulations
Gold regulations are intended to protect consumers and prevent fraudulent activities, but they can also increase transaction costs for buyers and sellers of gold. The consumer ends up having to pay these costs to regulate that they may not have to pay if they bought different commodities or asset options.
In many countries, there are strict regulations governing the sale of gold. These regulations may require gold dealers to obtain licenses, register with government agencies, and follow specific procedures for buying and selling gold. Some countries also require gold dealers to report large transactions to government agencies in order to prevent money laundering and other illegal activities.
While these regulations are important for protecting consumers and preventing illegal activities, they can also increase transaction costs for buyers and sellers of gold. Gold dealers may need to spend time and money obtaining licenses, registering with government agencies, and complying with reporting requirements. These costs can be passed on to consumers in the form of higher prices for gold.
In addition to government regulations, there are also industry regulations that govern the sale and purchase of gold. For example, many gold dealers are members of industry associations that set standards for ethical behavior and business practices. These standards can help to protect consumers and ensure that gold transactions are conducted fairly and transparently, but they can also increase costs for dealers who must adhere to these standards.
In recent years, there has been a trend towards increased regulation of the gold industry. This trend is driven in part by concerns about money laundering and other illegal activities, but it is also driven by a desire to protect consumers and ensure that gold transactions are conducted fairly and transparently. While increased regulation may lead to higher transaction costs for buyers and sellers of gold, it is ultimately in the best interest of all parties to ensure that the gold market is transparent and free from fraudulent activities.
Counterparty Risk
Counterparty risk is a risk that buyers and sellers have to deal with when transacting with gold. In order to mitigate counterparty risk, there is an increased amount of time and resources that would have to be dedicated to support.
There are several factors that contribute to counterparty risk in gold transactions:
- Difficulty in assessing the authenticity of gold: In order to properly assess whether gold is genuine or not, specialized equipment such as X-ray machines are needed. This means that buyers and sellers may have difficulty in verifying the authenticity of the gold they are buying or selling, which increases the risk of fraud.
- Need for both buying and selling of gold: Gold transactions require both a buyer and a seller. This means that each party is exposed to the risk that the other party may default on their obligations. If the buyer defaults on their obligation to pay for the gold, the seller may be left holding the metal with no way to sell it. Conversely, if the seller fails to deliver the gold, the buyer may have paid for a product that they will never receive.
- Difficulty in assessing the reputation of the dealer: Another factor that contributes to counterparty risk in gold transactions is the difficulty in assessing the reputation of the dealer. While there are reputable gold dealers, there are also fraudulent dealers who may sell fake or counterfeit gold. This means that buyers and sellers need to be careful when choosing a dealer and should research their reputation carefully.
To mitigate counterparty risk in gold transactions, buyers and sellers should take several precautions. These may include:
- Verifying the authenticity of the gold: Buyers and sellers should use specialized equipment, such as X-ray machines, to verify the authenticity of the gold. They should also work with reputable dealers who have a track record of selling genuine gold.
- Using trusted intermediaries: Buyers and sellers can use trusted intermediaries, such as banks or other financial institutions, to facilitate gold transactions. These intermediaries can help to reduce the risk of default by providing guarantees or escrow services.
- Conducting due diligence on the dealer: Buyers and sellers should conduct due diligence on the dealer before entering into a transaction. This may include checking their reputation with industry organizations, reviewing their track record, and speaking with other customers.
Summary
To summarize, there are a lot of inherent disadvantages of holding gold. From increased capital gains tax, risk of confiscation, gold clauses not being enforced, lack of cashflow, not matching CPI movement, gold bugs, usury laws, inconvenient denominations, increased regulations and counterparty risk are all items that need to be considered when investigating purchasing gold as an inflation hedge.