As an investment, gold has never been more popular. And, for individual investors, that's part of the problem.
Gold spot prices hit a record of $1,243.10 per ounce in Comex trading on May 12 before slipping $13.90, or 1.1 percent, to $1,230.10 on May 13. In the past three years, the precious metal is up 84 percent. The SPDR Gold Shares (GLD) exchange-traded fund now contains $48.1 billion in assets, with the number of shares outstanding up 111 percent since September 2008.
Encouraged by TV and radio ads touting the virtues of gold, retail investors are buying it up. One leading gold dealer, Goldline International, estimates it has added 50,000 clients in the past three years. The gold frenzy is worldwide: On May 13, a vending machine that dispenses gold bars was unveiled at Abu Dhabi's Emirates Palace hotel.
Financial experts warn that all this enthusiasm for gold could be a warning sign—that gold prices could be near their peak. "It's very in vogue right now, which is usually a telltale sign [of] a bubble-like mentality," says James Miller, president of Woodward Financial Advisors in Chapel Hill, N.C.
Gold's advocates may be right that the metal could head higher still, driven by the fiscal crisis in Europe, high deficits in the U.S., and fears of inflation. "All we can do is put our money into real assets, because paper money everywhere is being debased," Jim Rogers, chairman of Rogers Holdings, told Bloomberg Television on May 12 as gold hit new highs.
But even if gold keeps rising—a prospect very difficult to predict, given the metal's volatile track record—there are several features of gold that make it treacherous for individual investors, financial advisers say.
Gold might have a reputation as a "safe haven," but nothing could be further from the truth, says Susan C. Elser, of Elser Financial Planning in Indianapolis. Unlike other commodities, gold has few industrial uses. Unlike businesses owned through the stock market, gold earns no profits and doesn't pay out dividends. Unlike bonds, no one pays interest to holders of gold. And, unlike insured bank deposits, there is no guarantee of your principal investment.
"There is no downside protection on investing in gold," Elser says.
Gold used to be the backing for currencies, but no longer. Now "it really is only a store of value because people say it's a store of value," says Ken Eaton, principal at Stepp & Rothwell, a financial planning firm in Overland Park, Kan. That can lead to extreme volatility, which financial planners cite as one of gold's biggest downsides.
Gold may be up 84 percent in three years, but it has taken a wild path to get there. Most recently, gold fell 12.6 percent from Dec. 2 to Feb. 8, then rebounded 16 percent in the next three months.
Much of gold's appeal is built on its use as protection against inflation, which some—but not all—investors see as a potential threat.
"We're in very unusual times," says Barbara Camaglia, head of Legacy Financial Advisors in Beachwood, Ohio. "Everyone is debasing their currencies, so I think having some gold is not a bad idea."
Gold is just one part of a diverse portfolio, she says, with a portfolio allocation often kept to 5 percent, though "you could argue for a higher percentage." A small gold holding is typically recommended even by financial planners, like Eaton, who are skeptical of buying gold now. Gold is one sliver of commodity holdings that make up 2.5 percent to 5 percent of his clients' portfolios, Eaton says.
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