Is now the right time to invest in gold?

gold bars illustration

I am currently invested in stocks, but I'm thinking now that I also ought to buy some gold, if for no other reason than to cover all bases. Do you think this is a good idea?--J.H., Pennsylvania

I don't see gold as a "must have" asset for individual investors. In my opinion, if you have a broadly diversified portfolio of stocks and bonds that truly reflects your risk tolerance, you can get along perfectly well without gold (not to mention the panoply of other "alternative" investments advisers push so hard these days).

But if you're really intent on investing in a bit of gold as a way to diversify beyond a well-balanced portfolio of stocks and bonds -- or cover all bases, as you say -- I suppose that can be a reasonable enough move, provided you do it the right way. To me, that means devoting, say, 5% to 10% of your total portfolio to some form of gold (bullion, coins or, more likely, an ETF that invests in physical gold) and then rebalancing periodically and/or buying or selling gold so that the value of your gold stake maintains roughly the same percentage of your assets regardless of whether gold prices have been rising or falling.

The rationale behind such a strategy is that over the long-term gold can provide a decent hedge against inflation and offer some protection for your portfolio in turbulent economic and political times.

What's more, since gold prices don't always move in sync with stock prices -- the price of gold rose 26% from the late 2007 pre-financial crisis stock market high to its trough in early 2009 while stock prices slumped more than 55% -- owning some gold may be able to mitigate the ups and downs of a traditional stock and bond portfolio.

Asset allocation: Fix your mix

But I don't think most individual investors take such a disciplined and methodical approach to owning gold. Rather, people tend to get all excited about owning gold (and many advisers start touting it) when investors are worried about a stock market meltdown (as has been the case these days) or when there's some potentially calamitous financial or political crisis brewing somewhere in the world.

The result is that many investors end up adding gold to their portfolio when all the drama, anxiety and hype has driven gold to blimpish levels from which it can drop precipitously and languish for years.

For example, the last time the clamor for gold reached a fever pitch was back in the fall of 2011 when the debt problems of Greece, Italy and Spain and concerns about Eurozone debt overall dominated the headlines. And, indeed, gold appeared full of promise back then, zooming from just under $1,400 an ounce at the beginning of 2011 to nearly $1,900 by early September for a gain of more than 36% in less than nine months.

But as the worries of a Euro debt meltdown faded, so did the price of gold, eventually retreating to less than $1,100 an ounce by the end of last year.

This year's stock turmoil and worries about lackluster global growth have pushed up the price of gold again, by roughly 15% so far this year. Still, at this point at least, investors who moved into gold nearly four and a half years ago for perceived safety, a shot at potential gains or whatever reason, are sitting on losses of about 30%.

If the current market turbulence continues and global growth prospects remain uncertain, I suppose gold could expand the gains it's made so far this year and possibly even get back to or exceed its near-$1,900-an-ounce peak of 2011. On the other hand, if stocks revive and fears of an economic slowdown subside, investors' enchantment with gold could fade and its price could stagnate or decline.

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I don't pretend to know what gold will do in the future, and I don't think anyone else knows either. But I can tell you that if you're considering investing in gold, you should know that it is extremely volatile and, after periodic spikes in price, can fall to and remain at depressed prices for a long time. (After dropping from a high of $850 an ounce in 1980, it took 28 years for gold to regain and then pass that peak.)

You can make the volatility work to your advantage somewhat by taking the approach I described above -- that is, putting a certain percentage of your portfolio in gold and maintaining that percentage whatever the price of gold may be doing.

You should know, however, that following this strategy requires discipline and being a bit of a contrarian, as you may be buying less gold (or even selling) when everyone is ga-ga over gold and its price has soared and you may be buying more when the metal is unpopular and its price has slumped.

Sticking to such a regimen is difficult for many people. Most investors prefer to go with the crowd. The more popular approach is what we're starting to see now: people jumping into gold when fear is running high and people crave safety. But I don't consider that a strategy. It's essentially an emotional reaction and potentially dangerous one, as you run the risk of buying in only after anxious investors have already significantly boosted the price.

Bottom line: I suggest you think hard about the reason you want to buy gold. If it's primarily for diversification as you suggest -- and you're willing to take the systematic approach I've outlined -- fine (although you should also be aware of some tax wrinkles concerning gold and gold ETFs held in taxable accounts and regulations for gold investments in IRAs).

But if the real reason you're attracted to gold is the fact that it's become the investment du jour given investors' current anxiety or because you (wrongly) imagine gold as a safeguard against losses, then I'd recommend giving gold a pass.

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