Jeff Clark, Senior Precious Metals Analyst, GoldSilver.com
JAN 18, 2018
It’s been a heck of a run.
The S&P has nearly quadrupled since its 2009 low. It currently ranks as the second-longest bull market in the last 140 years (top green bar).
Just as important as recognizing the frothiness of the current market is the fact that the stock market has always fluctuated between bull and bear markets. No bull market lasts forever—that will include this one.
Regardless of your personal outlook for the stock market, capturing some of your profits is only prudent given how long this market has been chugging higher. It’s also a way to build wealth, since you now have some money to build a position in other investments.
But what? Buying different stocks than what you own would expose you to the same frothy market. The current real estate market wouldn’t allow us to buy low. And loading up on bonds doesn’t really help since they pay next to nothing despite the bump in rates.
There’s actually a straightforward way to achieve true diversification…
Many investors think they’re diversified because they own domestic stocks and foreign stocks. Or government bonds and corporate bonds. But that’s not real diversification because they’re essentially the same asset class and tend to rise and fall together.
The key to proper portfolio diversification is this:
In other words, you want an asset class that tends to rise when others fall. It doesn’t do much good if all your investments rise and fall together.
So what assets might have a low correlation to stocks? In other words, what could you buy that won’t fall victim to the next bear market or recession?
The following 40-year study shows the correlation of gold to other common asset classes. The zero line means gold does the opposite of that investment half of the time. Figures below zero means gold moves in the opposite direction of that investment more often than with it (and vice versa if above zero).
You can see that historically, gold moves opposite of the US stock market more often than with it. They are thus considered negatively correlated assets.
This makes sense when you think about it… stocks benefit from economic growth and stability, while gold responds to economic distress and crisis. If the stock market falls, fear is usually high, and investors typically seek out the safe haven of gold. If stocks are rocking and rolling, the perceived need for gold from investors is low.
History bears this out. Here’s how the gold price has responded during the S&P 500’s biggest market selloffs since the 1970s.
Dates of S&P 500's
Sep 21, 1976 - Mar 6, 1978
Nov 28, 1980 - Aug 12, 1982
Aug 25, 1987 - Dec 4, 1987
Jul 16, 1990 - Oct 11, 1990
Jul 17, 1998 - Aug 31, 1998
Mar 27, 2000 - Oct 9, 2002
Oct 9, 2007 - Mar 9, 2009
May 10, 2011 - Oct 3, 2011
On average, when the stock market crashes, gold has historically risen more often than declined. (And the fine print on the 46% decline is that it occurred just after gold’s biggest bull market in modern history.)
This is practical information for investors:
It doesn’t mean gold will automatically rise with every downtick in the stock market. In the biggest crashes, though, history says gold is more likely to be sought as a safe haven.
It is gold’s lack of correlation to all other assets that gives your portfolio protection against significant market drawdowns. Indeed, no alternative asset can match gold’s non-correlating, portfolio-protection power.
There’s another benefit to buying some gold now. Relative to stocks, gold is undervalued.
Gold is a bargain compared to the lofty value of the S&P 500.
Further, as I write, gold is priced roughly one-third below its 2011 high.
Silver offers an even deeper value, being two-thirds below its prior high.
In other words, precious metals currently offer a very attractive one-two punch:
That’s why now is an ideal time to diversify some of your stock profits into gold.
So, what kind of gold do you buy?
There are a lot of ways to buy gold—ETFs, futures and options, and even fractional and pool accounts. But buying a paper product defeats one of the primary advantages gold carries:
Any paper form of gold is vulnerable to fraud, abuse, and mismanagement. The few ETFs that offer delivery are expensive and subject to delays and fulfillment issues. Even the liquidity—your ability to get out when you need to—can be compromised. A gold Eagle coin in your hand is subject to none of these risks.
Check out all the advantages you gain by owning physical gold, none of which you’d have with a paper product. Physical gold is…
An investment in gold starts with products that give you direct exposure to the gold price. This excludes rare coins or off-brand bars, as they depend on different variables and would increase your risk.
The best way to determine what to buy is to start with the end in mind: what will be easiest to sell?
As an investor, you want to buy something that won’t just rise in value, but that will also be easy to sell when the time comes. You want to avoid a product that could experience a delay when it’s sold, or cost you more than you expected, or won’t have a lot of buyers. You want an asset that comes with high liquidity—in other words, is easily recognizable, can always be sold for the price of gold, and will have plenty of customers.
There’s one class of gold that meets these criteria:
• All investors should start by buying sovereign gold coins.
Sovereign (government) coins are the most widely known around the world and thus will be the easiest to sell. Even if you never sell them but pass them on to your heirs, they will need something that’s easy to sell.
So the “golden” rule when buying gold coins is this: buy the most common or popular items, so that you have high liquidity when the time comes to sell.
Here are the most popular gold bullion coins:
You can’t go wrong by starting with this list.
I recommend buying these in one-ounce denominations if possible, as lower denominations have higher premiums. (You can get full details on these and other coins here).
Whatever you do, the time is now to diversify into gold. All markets cycle, and a down-cycle for stocks and an upcycle for precious metals is on the doorstep. Take some of your profits and buy some undervalued gold.