Gold 101
Adapted from The Money School: 12 Simple Lessons to Master Financial Markets and Investing by Nicole Lapin
I shed my financial world training wheels in the pit at the Chicago Merc, which is an exchange where commodities are traded. I hadn’t seen the movie Trading Places yet, so I had no idea that commodity trading meant the exchange of physical items like coffee, oil, gold, silver, and even frozen concentrated orange juice. (I thought I was getting punked when I was told I was going to work at a stock exchange that sold orange juice.)
Technically, commodity means a basic good that’s not special, as in it can be swapped for the exact same thing and no one would really notice. I remember for a while when I was on the news, I felt “commoditized” because I could have been replaced by some other young lady telling old rich white men what the Dow was doing. In other words, it’s “fungible” (RIP NFTs) in the same way as if I gave you a twenty-dollar bill and you gave me another one back, we would have the same value. But the colloquial use of the term hot commodity means that something is highly valued, as in “that actress is such a ‘hot commodity’ in Hollywood right now.”
In the investing world, both are somewhat true. Investing in commodities is both common and extraordinary.
The gold standard of commodities for your average investor is, obviously, gold. The US has a long and storied history with gold. It has been the universal symbol of wealth since ancient times and had backed the US dollar all the way up until 1971. Gold is considered to be a safe haven by many investors. While some opt for gold as a bulwark against the zombie apocalypse / an alien invasion, it’s also a popular choice because it’s a hedge against inflation. Remember, in the words of John Pierpont Morgan Sr. (as in J. P. Morgan), “Gold is money. And nothing else.”
J. P.’s view is shared by many investors to this day. Many investors turn to gold in times of economic uncertainty or when inflation is high, as it has proven to maintain or increase its value while other assets may lose theirs. Gold tends to have a negative “beta” value, meaning its price often moves inversely to the stock market.
Gold has long been considered a “hedge,” which is an investment that has a negative relationship to the price of the asset you are hedging against. Hedging in the financial world means pretty much the same thing as it does in life. If you’re hosting a party and you know all your friends drink beer and beer is always a big party hit, you still buy water, just in case. Maybe it’s hot outside, maybe someone is pregnant, maybe someone just doesn’t want a beer. Whatever the reason, if someone says no to a beer, they now have something else to drink. You’ve hedged against people turning down a beer.
In the financial world, hedges are also about investing in future protection, but we do this in other ways too. You pay for car insurance as a hedge against getting into an accident. It costs you a little bit of money each month, but if something goes catastrophically wrong, insurance will kick in and cover the cost of repairs. You get a prenup to hedge against a divorce. That will also cost you some money up front, but helps you in case marriage disaster strikes. You hope you don’t need to rely on car insurance or a pre-nup because you’re not planning (hopefully) on getting into an accident or divorced, but it’s there just in case. In the business world, large companies do this all the time. If a company sells chicken sandwiches, they will buy futures contracts that let them buy chicken in the future at a set price. That way, no matter what happens during that time, they are able to buy chicken at the agreed-upon price. It gets more complicated than this, but that’s the basic theory.
If the stock market is like a roller coaster, then gold is like a train ride in the kiddie section of the park. In the long run, stocks tend to outperform gold as an investment, but in the short term, gold can steal the show, especially in times when everyone is feeling nervous. If you have an upset stomach from stress, which would you rather ride: the roller coaster or the kiddie train? Just like a coaster and a train are on two different tracks, gold performance is unrelated to stock market performance. This makes it a reliable ride in times when the stock market roller coaster goes upside down, like during the 2008 financial crises or the 2016 Brexit drama.
There’s no actual causational relationship between the price of gold and stock market returns. Think of it this way—in the summer, ice cream sales and shark bites increase. So you could look at those facts and think eating ice cream causes sharks to bite people. But that’s not the connection. When it’s hot, people eat more ice cream and go in the water, where the sharks live, to cool off. The environment connects the two events. It’s the same with gold prices. When people are anxious about the future, they are more likely to invest in gold. Whatever makes them anxious, say a global pandemic or a recession, can also cause the stock market to go down.
Investor anxiety can be one part of what drives gold prices up during a stock market downturn or any crisis, but gold is also an important investment as a hedge against inflation. Gold is priced in dollars. So, when the dollar weakens, it takes more dollars to buy the same amount of gold, which increases the price of gold in dollar terms. Over an extremely long timeline—decades or more—gold can be an excellent hedge against inflation. However, in the shorter term, the fluctuation in gold prices can make it less effective.
If you’ve been having an anxious few years, the gold market would suggest you’re not alone. Amid a tough year for commodity returns in 2023, gold shined by reaching an all-time high. This surge was largely driven by the growing likelihood of rate cuts in 2024 and a weakening dollar. And when something—anything—is high-flying like that, there are always predators looking to take advantage of the situation.
Investor Beware: Gold Scams
- Gold IRA Scams: These include high-pressure sales tactics, exorbitant fees, fraudulent companies, unlicensed iRA “experts,” high markups, leveraged accounts, shady custodians, and unapproved “collectible” coins. Scammers often take advantage of those looking to invest in gold as part of their retirement savings.
- False Promises of High Returns: Scammers often lure investors with the promise of lucrative profits from rising precious metals prices. They create a sense of urgency and use bait-and-switch tactics, impersonating reputable companies or individuals and creating fake websites or apps to scam people out of money and personal information.
- The Vanishing Company Scam: This involves convincing buyers to send money for gold at a lower price, but the company disappears after receiving the money. The victim ends up with no gold and no way to recover their money.
- The Inheritance Scam: Scammers pretend to have inherited gold and need help moving it out of their country. They often ask for a partner, a bank account, and some bribe money, only to disappear once they receive the cash.
- Coins That Don’t Exist: Scammers convince buyers to purchase gold coins and offer to store them in escrow due to risks of theft or disasters. But these coins don’t exist, and the buyer is charged storage fees and insurance for a nonexistent gold coin collection.
You can legitimately invest in gold in a few ways. First, you can buy actual gold “bullion,” although that’s not my favorite way because it becomes tricky to buy, sell, and store actual gold bars. You can buy gold mining stocks. Or you can buy into gold ETFs, the most popular being ticker symbol GLD.
The Money School
Money expert and New York Times bestselling author of Rich Bitch Nicole Lapin gives you the skinny on how financial markets and common investing strategies work to build your understanding and gain confidence. The Money School is divided into courses (of course), four of them, with three levels each, totaling 12 lessons all together. Realize financial stability and investing confidence with this one-of-a-kind resource.