“Gold gets dug out of the ground in Africa, or someplace. Then we melt it down, dig another hole, bury it again and pay people to stand around guarding it. It has no utility. Anyone watching from Mars would be scratching their head.” – Warren Buffett

Introduction

Growing up we have all heard the story of King Midas from Greek mythology. It stands as a timeless cautionary tale about the perils of avarice. After being blessed by Dionysus, the god of wine and revelry, Midas could turn everything he touched into gold. At the beginning, he was thrilled by this ‘Golden Touch’ as he transformed mundane objects into precious gold. His initial euphoria soon turned into despair when he found that his food and drink turned into inedible gold, and his beloved daughter was transformed into a lifeless statue with a mere touch. This tale serves not only as a powerful metaphor about the dangers of unchecked greed, but also the misconception that gold is the sole key to happiness.

As we embark on our journey towards financial independence and early retirement (FIRE), it’s essential to remember the tale of King Midas. The allure of gold, both as a physical asset and a symbol of wealth, has captivated humans for centuries. However, as Midas learned the hard way, an over-reliance on gold can lead to unforeseen consequences.

In the context of modern investing, this translates to the importance of diversification and the potential pitfalls of focusing too much on one type of investment, such as gold. In this article, we will delve into the reasons why stocks may be a superior choice for your FIRE fund over gold. We will explore the historical performance of both asset classes, discuss their pros and cons, and provide insights to help you make informed investment decisions. I hope the takeaways are worth their weight in gold for your journey to financial independence.

The Allure of Gold

Gollum and his gold

Historical Significance of Gold

The history of gold as a form of wealth can be traced back to ancient civilizations. The Egyptians, for instance, were enamored by the beauty of gold and used it extensively in their royal adornments and religious artifacts. They even went as far as to believe in its divine properties.

In ancient Rome, gold was used as a form of currency. These coins were a significant part of the Roman monetary system and were used for large transactions.

The ancient Chinese civilization viewed gold as a symbol of royalty and it was often used in the making of imperial crowns and statues.

In ancient India, gold was considered a symbol of immortality and was extensively used in rituals and ceremonies. Even today gold is worn in many countries as a display of beauty and wealth.

Gold’s Role in the Economy

Fast forward to more recent times, gold continued to play a pivotal role in the economy. The Gold Standard, a monetary system where the value of a country’s currency or paper money was directly linked to gold that was stored in its vaults. Countries would convert paper money into a fixed amount of gold, providing a sense of security and stability.

However, the Gold Standard was not without its flaws. It was unable to prevent economic crises, and it limited the ability of governments to manage their economies during downturns. As a result, most countries abandoned the Gold Standard by the mid-20th century.

Today, while gold is no longer used as a primary form of currency, it still holds a significant place in our economy. Central banks and investors alike continue to hold gold for its durability, liquidity, and ability to act as a hedge against inflation and currency fluctuations.

In the next sections, we will delve into why, despite its historical significance and enduring allure, gold may not be the golden ticket to achieving your financial independence and early retirement (FIRE) goals. But first let’s take a look at why people do buy Gold.

Top 5 Reasons For Buying Gold

Man_reaching_for_a_basket_containing_gold_eggs

Protection from Rising Prices (Inflation):

Think of gold as a financial shield when prices of goods and services start to climb. As the cost of living goes up, so does the price of gold. So, if you’ve got gold in your pocket, the thinking goes, you’re less affected by inflation.

Mixing it Up (Diversification):

You know how they say, “Don’t put all your eggs in one basket”? That’s exactly what diversification is about. Gold dances to its own beat, which means when other investments are having a rough time, gold might just be having a party. This could balance out your investment portfolio.

Safe and Sound (Safe Haven):

When times get tough, gold is like a comforting friend. During periods of economic uncertainty or political unrest, investors often turn to gold. It’s seen as a safe place to park your money when the going gets tough.

The Gold Rush (Supply and Demand):

Just like anything else, the price of gold is influenced by supply and demand. Factors like how much gold is being mined, how much gold central banks are holding onto, and how much gold people are buying for things like jewelry or tech gadgets can all affect the price. If you’re savvy, you can make a profit from these price changes (but this one is for the experts unless you are a speculator)

Currency Lifeboat (Currency Hedge):

Gold is like a lifeboat when the value of the dollar sinks. Since gold is priced in U.S. dollars, if the dollar’s value goes down, the price of gold can go up. So, gold is thought to be a good investment if you’re worried about the dollar losing value.

The Case Against Gold in a FIRE Portfolio

Investing in gold might seem like a good idea, especially given its historical significance and the reasons we’ve just discussed. However, when it comes to a FIRE (Financial Independence, Retire Early) portfolio, gold might not be the golden ticket you’re hoping for. Here’s why:

Gold Doesn’t Generate Passive Income

One of the key principles of a FIRE strategy is to build a portfolio that generates passive income. This is income that you earn without having to actively work for it. Stocks that pay dividends, rental properties, and interest-bearing accounts are all examples of investments that can generate passive income.

Gold, on the other hand, doesn’t generate passive income. When you invest in gold, you’re essentially betting that the price of gold will go up over time. But while you’re holding onto your gold, it’s not earning you any additional income. This lack of passive income makes gold a less attractive investment for a FIRE portfolio.

Gold has Storage and Insurance Costs

Investing in gold comes with hidden costs that many overlook. Unlike digital assets like stocks or bonds, gold is physical and needs storage. If you store it at home, you’ll need a secure safe, which isn’t cheap. Plus, there’s always a risk of theft.

To mitigate this, you might insure your gold. But insurance isn’t free and adds to your ongoing costs. If you opt for a bank safe deposit box or a professional storage firm, they’ll charge you a fee. These hidden costs can significantly eat into your returns, something every FIRE investor needs to consider.

You can opt for an ETF that allows you to not directly pay for these costs, but these products are more expensive than passively managed index funds.

Gold has Lower Long-Term Returns

When it comes to the long game, gold often finds itself in the shadows of stocks. Let’s take a moment to compare the long-term returns of these two investment options.

Imagine you’re at the start of the year, and you have some money to invest. You decide to put it all into gold. Fast forward to today (June 2023), and you’d be looking at a return of about 4% (GLD ETF).

Now, let’s rewind to the start of the year again. But this time, you decide to invest in the S&P 500, a popular stock market index, by buying an ETF like SPY. Today, you’d be looking at a return of approximately 15%. Your investment would have grown!

Now if you are a smart investor, you are going “Hold on a minute! Short term performance means nothing and is not a guarantee of future results”. And you would be right!
However, historically, stocks have consistently outperformed gold in the long run. While gold can be a good safety net during economic downturns and a hedge against inflation, it generally doesn’t offer the same level of return as stocks over the long haul.

Total-return-stock-vs-Gold

Let’s compare the last 30+ years growth of Gold (yellow line above) to the black line which represents returns on the Total return stock index (Wilshire stock index with the dividends reinvested). Gold value has roughly quadrupled during this period (282.4%), but the Total return index has returned 11370% i.e. it has been multiplied more than a hundred times in this period.

Gold is not a Productive asset

In the world of investments, productivity refers to the ability of an asset to generate income or profits. Gold is terrible at this.

Picture this: You buy a piece of gold and put it in a safe. You come back a year later, and what do you find? The same piece of gold. It hasn’t changed. It hasn’t grown. It hasn’t produced anything. It’s just been sitting there, looking pretty.

Now, let’s compare this to investing in a company’s stock. When you buy a share of a company, you’re buying a piece of a business that’s actively working to make money. It might be producing goods, selling services, or innovating new technologies. And as the company earns profits, the value of your investment can grow.

This is the fundamental difference between gold and stocks. Gold is a static asset. It doesn’t produce anything. Its value is based purely on what someone else is willing to pay for it. On the other hand, stocks represent businesses that are constantly striving to increase their profits, which can, in turn, increase the value of your investment.

Market Volatility

Now, let’s talk about a roller coaster ride. No, not the fun kind at amusement parks, but the one that can give investors sleepless nights – market volatility.

Gold, like any other investment, is subject to market volatility. Its price can go up and down in response to various factors. These can include economic indicators, geopolitical events, and even changes in supply and demand.

For instance, during times of economic uncertainty or instability, people often flock to gold as a ‘safe haven’ investment. This can drive up the price. On the other hand, when the economy is doing well, investors may turn to other assets with the potential for higher returns, causing the price of gold to drop.

It’s like being on a boat in the middle of the ocean. When the waters are calm, everything is fine. But when a storm hits, the boat can be tossed around by the waves. That’s what it’s like to invest in gold. The price can be steady for a while, and then, suddenly, it can swing up or down. This makes predicting its long term performance difficult.

Conclusion

And there you have it, folks! We’ve journeyed together through the glittering world of gold, from the mythical tale of King Midas to the practical considerations of investing in this precious metal. We’ve weighed the pros and cons, and hopefully, you’re now better equipped to make an informed decision.

Final thoughts and advice for those considering gold vs stocks for their FIRE fund

In the accumulation phase of your financial independence journey, it does not make sense to own any gold. A good asset allocation of Stocks and Bonds can match all its advantages (Diversification, hedge against inflation and currency fluctuations). If you would like to invest a small amount in gold that is certainly okay, but the bulk of your portfolio should be in stocks and bonds.