Submitted by Sprout Money on 06/15/2014 10:16 -0400
The recent price drop of gold is making investors nervous, that much is clear. People are tired of the negative price action and want to head for cover.
Although it is an understandable response, it is mostly an emotional one that does not have a lot in common with rational thinking.
By going short you want to protect a position, which you do when your expectations with regards to return are going down; when the potential upside is declining. The goal is, in any case, to protect your profit as much as possible with a short position.
Hedging or going short is NOT something you do after a large correction!
Nevertheless, the questions do arrive in our mailbox. People are asking us how they can short gold exactly at the time when it is pricing near a multi-year low.
Even more, gold is listed at half price in comparison to the period when the Fed’s balance sheet was less than half of the size it is now...
In other words, shorting gold today is not a very smart move…
Not only because the downside risk is decreasing every day, but because the upside potential is increasing every day. That is a deadly starting point for a short position.
Because shorting carries risks as well. In the first place, the possible (temporary) return is limited to 100%. For gold this is also practically impossible, because the price of gold will never be zero.
The potential loss you can make on a short position, in contrast, is unlimited. There is no limit to how high the price of a commodity can go. Secondly, you can only short gold through derivatives. That means in many cases that there is leverage involved.
The benefit of that is that returns would grow faster, but the disadvantage is that the losses will too. If you are not an expert in timing the purchase and sale of a short position then, you are most likely going to be in trouble. Even the pro’s admit that.
Whether shorting gold is smart? We do not think so. It could even do some serious damage to your portfolio.
Ultimately we understand that the price drop is a painful experience for gold investors, especially those who keep a close eye on the daily gold price.
Our advice: if you are sensitive to volatility, do not check the price daily.
Gold should be a long term investment / insurance within your portfolio, not a trade you enter for a few weeks or months to make a quick buck.
That is not the way you think about your house, for example, unless you call your real estate broker every week for a new valuation… Probably not.
Treat gold the same way. Do not look at the gold price daily, but consider gold to be part of your capital; an anchor of your wealth. It will save you from many sleepless nights.
Then there is the point of protection against a lower gold price, which is absurd in itself as well. If real estate drops 30% in value, people are lining up to buy. In gold’s case, however, everyone runs off. Strange, isn't it?!
We cannot emphasize it more: the only way to protect yourself from a lower gold price is by taking advantage of it.
If you know that the price of gold can never go down to zero, you should be ecstatic when the precious metal is for sale at wholesale prices. The only thing you need to make sure then, is that you have enough ‘paper money’ to exchange for gold.
Trust us, investing in gold requires a different mindset. The same kind you have when buying real estate, land, or art.
And if you then are really interested to take advantage of gold’s low valuation, know that we are focused on investing in the Best Selection of Gold Mining Stocks. That is where the true value is hidden in the gold market.
Do not be swayed by volatility or the negative headlines in the media. Gold and gold mining stocks have always been the right choice. In a few years, in a new monetary era, your buying power will be heard!
Sprout Money offers a fresh look at investing. We analyze long lasting cycles, coupled with a collection of strategic investments and concrete tips for different types of assets. The methods and strategies from Sprout Money are transformed into the Gold & Silver Report and the Technology Report.
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Source ZH
