Gold, gold, GOLD!!!

On November 11, 2011, Zero Hedge ran a post from a site called GoldCore. The title was: "Gold Over EUR 1,300 - On Way to ‘Infinity’ on Eurozone Contagion?" Here is what it said:

The unprecedented scale of the [European] debt crisis means that inflation and currency devaluations will almost certainly result from the crisis. Savers and those on fixed incomes will be very vulnerable as they were in the stagflation of the 1970’s and in the economic meltdowns seen in Argentina, Russia and in Belarus as we speak... 

However, the US is itself facing a debt crisis which is also of a monumental scale. It is of a scale that it cannot be resolved by the usual kneejerk resorting to the printing presses and today’s equivalent panacea - computer credit creation... 

Ron Paul gave another perceptive interview to CNBC yesterday and warned of hyperinflation and the possibility that the dollar could become worthless. 

When asked how high the gold price would go and why, he responded: 

“well, the question is how much lower is the dollar going to go in purchasing power? and I said to infinity unless we change our ways."

Here, courtesy of Goldprice.org, is a picture of gold prices over the past two years. Note that the Zero Hedge post appeared a few months after the peak:

For comparison, courtesy of Yahoo Finance, here is the S&P 500 over the same period:

Now, if you believed the Zero Hedge post, and immediately went out and invested $100 in gold, you would now have $17 less than a friend who ran out and invested $100 in an S&P index fund.

On March 6, 2012, Zero Hedge ran a post of its own, titled "Stay Long Gold", citing Morgan Stanley. If you believed that Zero Hedge post, and immediately went out and invested $100 in gold, you would now have $9.60 less than a friend who ran out and invested $100 in an S&P index fund.

Goldbugs and Zero Hedge fans who read these facts tend to make one or more of the following responses:

1. "You're cherry-picking. Go back 5 years and see how much gold has beaten stocks. Or 10 years."

2. "Look how much money central banks are printing. Obviously, fiat money is going to become worthless, and gold will be left as the one true form of money."

3. "OK, dude, whatever you say, look how much money I made investing in gold! Who's the fool now, huh?"

4. "Gold and stocks aren't substitutes. Gold is an important part of a diversified portfolio."

Number 1, of course, is just counter-cherry-picking. The S&P has beaten gold over every 30-year period of history, ever. Why 30 years? Well, it's a standard "long-term" investment horizon. But the same is true for 40 years, 50 years, etc.

Number 2 really fails to understand a basic idea about financial markets. If it's obvious that central bank money-printing will drive up the value of gold, why isn't that fact already incorporated into gold prices? In other words, the only central bank actions that should make gold prices rise are surprise actions - like printing even more money than people thought.

Now, Zero Hedge and the whole "goldbugosphere" tries to push the idea that they understand macroeconomics better than everyone else out there - that what is "obvious" to them is not obvious to most of the world, which is still in thrall to (Keynesians, neoclassical econ, Xenu, take your pick). 

But this also does not mean that gold prices can be expected to rise. Because even if it's true - suppose goldbugs are much much wiser and savvier than the rest of humanity - the only reason goldbugs wouldn't have already been able to push gold to its optimal price would be if goldbugs were liquidity constrained. But if that's the case, the only people who will believe in the predictions of higher gold prices will, by definition, be people who are unable to take advantage of their superior wisdom and savvy.

As for Number 3, note how it exploits a fairly well-known behavioral bias: Envy. When the gold flogger proudly boasts that "I made a fortune in gold!", people feel like unless they do the same, they aren't as smart as the guy making the boast. There's a knee-jerk psychological reaction of "If you can do it, well by golly, I can too!"

But notice how crazy this is. Even if you're as smart as the goldbug, it doesn't mean that you can replicate his success just by buying the same thing he bought. In fact, chances are you can't. Chances are, the huge gains that gold has seen over the past decade were a one-off event, not to repeated anytime soon. 

Investing is an area of human endeavor in which copying other people is not a surefire route to success. This makes it different from many other areas of life. If someone says "I tried the Atkins diet and I lost 40 lbs.!", then - assuming they're not BSing you - there's a pretty good chance that you too can lose 40 lbs. with the Atkins diet. Just copy best practice. But in investing, "copying best practice" by buying what the winners buy is actually just herd behavior, and is likely to make you lose money. Gold is not the Atkins Diet.

Of course, Zero Hedge knows this, and it knows that by creating this myth that "anyone can get rich by investing in gold", it can play on your own behavioral biases. Note that this is not the only bias they cleverly exploit - they also try to play to your masculinity in order to strengthen your overconfidence.

(As for Number 4, well, it might be right. But you shouldn't need Zero Hedge articles to tell you to diversify your portfolio! And let's be real: articles with titles like "Gold headed to infinity" and "Stay long gold" are not really articles about portfolio diversification.)

Note how there's a common theme here: Past performance is no guarantee of future results. According to "efficient" markets theory, past performance is unrelated to future results. According to behavioral finance research, future results will actually tend to reverse past performance, possibly because so many silly people exhibit herd behavior and jump on bandwagons.

Of course, as anyone knows who has ever tried to reason with goldbugs, this post is likely to fall mostly on deaf ears. But if you've had Zero Hedgie types brag to you about how much money they made investing in gold, don't feel bad. Look at their results in the last year and a half. And quietly snicker.


Update: as a commenter pointed out, Zero Hedge is probably just "talking their book". They own a bunch of gold, so right up until the point they're ready to dump it, they'll say "Buy, buy, buy!" Then they dump it, then they start yelling "Sell, sell, sell!" If it works, it's the old pump-and-dump scam, which is illegal when you do it to a stock, but perfectly legal to do when it's a whole asset class, like gold. Of course, Zero Hedge probably doesn't have a lot of ability to move gold prices, but why not try? In the meantime, they make money selling ads for their website. There's really no downside for them.