Wednesday, May 4, 2011

What To Do If Gold Hits Mania Phase

Brett Arends brings up an unusual paradox. He keeps hearing gold is in a bubble, but the bubble buyers seem to be leprechauns. He can hardly find any ordinary Joe, the stereotypical cab driver, who owns gold. Thus, he concludes that gold is on the cusp of a bubble.
That’s when you make the real coin. In this case, gold coin.

Will this happen? It’s anyone’s guess. But there are reasons to think it might. Gold enjoys some of the key characteristics you need for a bubble, including a “this time it’s different” storyline....

If you want to bet on a mania, you have any number of options.

One is to buy in stages — to ease yourself in, as it were. If you want to buy $10,000 worth of gold, and you are terrified you’ll take the move the day before it peaks, then just buy in $1,000 lots over time. (I’d suggest this seems a particularly good idea at the moment, because gold has risen a long way lately. The dollar may be overdue for a sharp bounce.) A second is to buy gold mining stocks. So far they’ve been left behind by the rise in the metal. John Hathaway, manager of the Tocqueville Gold mutual fund, says many big gold mining stocks, in particular, are cheap in relation to gold.

A third may be to take a wager on “out of the money” call options on the iShares Gold Trust, an exchange-traded fund that owns one tenth of an ounce of gold per share. This is a particularly high-risk, high-octane bet on gold going vertical, fast. Options allow you to make big profits in a mania, while only risking a small stake.

I should add that Mr. Arends is a gold skeptic, which makes his advice cynical. He's convinced that no-one knows how to value gold.

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