When I visit my parents in Philadelphia, we love to go to the indoor go-kart track with my children. My dad drives, me and my wife drive, and all my kids drive; only my mother is chicken and stays off the track. Drivers have to be cognizant of obstacles such as other karts, sharp curves, walls, obstructed views, and not properly controlling the kart.

When you buy precious metals, you’ll have a different set of obstacles, but you still need to be aware of what they represent as well as how to best avoid them.

The risks in buying precious metals are not the stuff of trench coated, alien chasing, false flag, conspiracy theorists. The risks are real, ongoing, and present on a daily basis, and some of them are actually perpetrated by the very government agencies who are supposed to protect us against the scams they participate in.

Risks

One of the biggest risks to your assets is the loss of purchasing power. That means that what you can buy now will actually cost you more at some time in the future; the dollars in your wallet won’t buy the same amount of stuff, but rather, less. I remember my father used to pay 22–24 cents a gallon for milk when I was a kid, and 28 cents if we went to 7–11. This morning I paid $3.65 for the same gallon at Costco. My grandfather used to boast of paying a nickel a gallon for gas, and the 13th gallon was always free if he bought 12 gallons. Last week I paid $2.49.

When we think of rising prices for everyday stuff, we usually say it’s inflation. But the rising price is just the result of inflation. Inflation is caused by three factors, namely an increasing money supply (how much cash is in the system), what we collectively think about price levels (will they go up or down), and something called the velocity of money (how many times all that cash actually gets passed around from one person to the next, usually within a year).

Inflation is a huge risk, and there are literally thousands of financial advisers telling us they have thousands of different ways to protect against this monster. It’s usually high yield bonds or REITs, dividend paying stocks, preferred shares, or something similar. Gold is rarely mentioned, if ever, yet gold should be at the top of your list of inflation hedges.

Inflation is a risk and the US Treasury does its fair share of printing money, contributing to one of the three factors that cause prices to rise. The government currently estimates the annual inflation rate to be around 2.0-2.5%, meaning you’ll need $102+ next year to buy the same stuff you only need $100 to buy now.

Another risk to your assets is something called market risk. I’m not referring to volatility here, where the price of a stock may vary from day to day and plunge just when you need your cash for an emergency. Market risk refers to the market place itself, and the possibility that the market place will enact restrictions on your assets or just completely close down.

It happens often enough to be concerned, for example, after 9/11 the financial markets in America closed for several days. Every time there is a “flash crash” the stock exchanges close for a few hours, such as May 6, 2010. Even following natural disasters like Hurricane Sandy in 2012, exchanges operating in NYC closed on both Monday and Tuesday October 29–30.

During a closure, you aren’t allowed to sell your assets and take back cash (no one else is allowed to buy them from you either). Even if you have cash in your brokerage account, typically they don’t let you have access to that either, until the markets reopen. Physical gold is not subject to market closures or restrictions, so long as you hold it in a safe, hidden somewhere on your property, or in an independent storage facility like Brinks.

And that brings me to a risk that is perhaps the biggest of all, which is third party counter risk. What the heck is that? That means that someone else is able to exert control over your assets, and you can’t do anything about it. Again, you lose control of your assets.

If you hold a balance in your checking or savings account, the bank itself and several government agencies can block you from access. Just think of the ATM machine; my bank allows a maximum daily withdrawal of $800, and the bank I used previously was $300.

If you have contractually lent money to someone or to a business, they now control the principal you lent. And if you own shares of stock in a company like Apple, the executives and employees of the company can make a fatal mistake that will bankrupt the company and cause you to lose everything you invested. If you hold your gold, you are in control, because he who holds the gold makes the rules.

Hedging against risks may be summarized through an analogy. If you own a car, by law you need insurance coverage. Even if it isn’t the law, it’s a wise idea to pay a small premium to transfer the risk of financial disaster to the insurance company. And so it goes with gold; it’s a tool to mitigate your risk of systemic financial failure.

By owning gold, you own an insurance policy on your wealth. Remember what happened in Weimar Germany? Anyone who owned gold came out unscathed in the worst case scenario. The insurance you need for your portfolio is against the other companies you own (stocks) or lent to (bonds). The insurance is against government devaluation of your currency via inflation of the currency supply, i.e., printing the dollar into oblivion (other assets like stocks and bonds either tend to implode or they just don’t keep pace). And the insurance is against all other third party counter risks as well as market risks.

Do’s and Don’ts

Regarding scams, it’s important to know what to do along with what to avoid. If you want to add gold to your portfolio, you should buy from a reputable dealer. There are many. A good clue that the dealer is not going to act in your best interest is if you got their phone number or web address from a TV or Radio commercial, especially with a celebrity endorsement. In and of itself that should not be an issue. However, there is a problem. They spend a lot of cash on that advertising, and will do everything in their power to “convince” you to pay it back to them, using some pretty slimy sales tactics.

There are honest dealers who will act in your best interest, though, and they are pretty easy to find. 

Once you call, you should only buy bullion bars or coins like the American Eagle or Canadian Maple Leaf. The premium on the coins are slightly higher than bars, but you’re paying for the wide recognition of the product. Bars are more likely to be honestly questioned (and the buyer will question the authenticity) when you sell than are coins, and there is no minting involved in bars either, so they command a slightly lower premium than widely known coins.

And that brings me to the first thing to avoid, which is something called numismatic coins. They are collector coins, and usually you buy them with steep premiums, like those found here or here (neither for nor against this dealer). These are the coins that you sometimes hear about selling for millions at auction, but usually much less.

Similar to numismatics are proof sets. That’s a newly minted set that’s packaged really nicely, and often it’s tied to some historical anniversary such as the 20th year since Princess Diana died or the American Bicentennial. Proof sets only make a nice gift, but don’t retain any real value. Don’t buy proof sets to protect your wealth.

For numismatics though, the premium often doubles or triples the price, meaning if it is a half-ounce numismatic, you’ll pay for about an ounce and a half of gold (half ounce is $650 of gold, but you’ll pay about $1300-$1900). Not only will you overpay for these coins, when you go to sell them you won’t get the price you are looking for because there will be a steep sell-back premium. If you’re desperate to buy a numismatic coin, you really need to know what you are doing, and it’s beyond the scope both of this article and my capabilities to give anyone advice.

Pairing hand in glove with the numismatic coins is the bait and switch. You’ll call into the sales center asking for 10 one-ounce Eagles, and the sales rep will sound very suave. If you aren’t ready for their pitch, they’ll seduce you like the snake in the Garden of Eden. “I can tell that you are smarter than the average person who calls us. I have a sneaking suspicion that you won’t be happy with the Eagles. I just know it! You’ll be much happier with the Lincoln Bicentennial Set. And the best part is we are offering it, only today, at the wholesale price of just $149.”

The problem is that the Lincoln Bicentennial Set could be a set of 8 pennies that weren’t circulated, but the current value of it is just 8 cents. Some of the special numismatics were created specifically for these companies to sell them, but have no historical significance or anything else that would cause them to justify the high prices. They’ll try pretty hard to convince you the coins are special, rare, high value, and will appreciate in value faster than bullion.

They want you to buy it instead of bullion bars and coins for two reasons. First, the dealer makes a higher percentage profit on it. Second, the salesman makes a higher commission on it. You’re not buying to help the sales rep pay for his Mercedes. You’re buying strictly for your own benefit.

Not only are the commission and profit margins extreme, but there are other reasons to stay away from numismatics. Most important, aside from the 2x-3x premium that you don’t want to pay, these coins are hard to liquidate even now. And if they’re hard to liquidate now, just wait until something hits the fan on the economy and you might seriously need to sell. The dealer that sold the coins to you?They won’t take them back.

They’ll also add to the case by showing you charts that prove numismatics outperform bullion bars and coins. It’s a total crock. They cherry pick the best of the best to create high-octane performance against bullion. And finally, they’ll try to convince you that numismatics will be exempt from confiscation whereas bullion bars and coins will not.

Confiscation won’t happen. The last time it did, citizens were urged to bring their gold to the bank in exchange for currency, on pain of jail time and fines. But 1) it wasn’t enforced, and 2) only about 20% of privately held gold coins were handed in without any arrests, fines, or imprisonment to citizens who didn’t comply. Gold bullion is legal private property and while the government has the capacity to concoct laws against ownership, the likelihood is higher to win the Powerball billion dollar jackpot without having to share it.

The next scam to watch out for is brand new bullion coins with certified investment grading. For example, you ask for a one-ounce 2019 American Silver Eagle, and they try to convince you to buy investment grade MS-70 rated Eagles instead. That just means it was uncirculated and they put it in a hard plastic protective sleeve at the time of manufacture. It also means that you’ll probably pay $75-$100 each for coins that should cost about $18 including the premium. Don’t buy into the hype, because the grading system is only important for wealthy investors of the numismatics that are worth several tens of thousands or more.

The next sham is something called price protection. “We’ll buy your coins back from you for the next 60 days, no questions asked, and at the same price we sold it to you. Even if the price of gold or silver drops.” Sound too good to be true? What they do is charge extra premiums and the only party who is protected is the guy who sold it to you. The tip-off here is that it is only offered on numismatic coins and proof sets that have no intrinsic value. Bullion bars and bullion coins won’t be sold to you with the price protection because they really don’t need it.

Another sham to stay away from is the double dip. This happens when a financial adviser buys the coins for you and takes an extra fee for doing it. In other words, you buy a one-ounce Gold American Eagle for spot plus $50 (which is a normal price), and on top of that he charges you an extra 10–20% broker’s fee…about $125-$200 per ounce! So you just bought a coin worth $1300, but instead paid about $1500 or more. Gold will have to hit a spot price of about $1550-$1600 to break even when you sell.

More Don’ts

There are a couple other temptations to avoid because they just don’t make sense from a financial perspective. If you make these mistakes, you’ll be learning the hard way because it either cuts your returns or you’ll lose money. Lot’s of money. No matter, just don’t do it.

First is buying on leverage or on margin (it’s the same thing). That means borrowing cash to buy gold or silver. I endorse having a margin account, but only because you can sell an asset and have instant access to your cash if you need it today. On a non-marginable account, by law you’ll usually wait the day of the trade plus two more days before you get your cash.

The problems with buying on margin are several. First is that if you bought $6500 of gold (5 ounces), it’s fair to say that you might pay $250 in premiums or commissions for the purchase. But if you borrowed another $18,500 to make a total purchase of $25,000 worth of gold, you’ll end up paying $750 on a $6600 investment.

On top of that you’ll be charged about 8%-10% interest per year or more on whatever amount you borrowed, and the interest is compounded monthly. You won’t get collection letters, but your balance of $18,500 that you borrowed will be nearly $20,500 by the end of 12 months. That severely digs into your returns, because a $6500 investment plus $2750 in fees means that your starting point is now $9250, or $1850 per ounce. Yikes!

As if that is not enough with buying on leveraged accounts, what if you are over leveraged? That means you borrowed too much, the value of your assets fell, or both. You’ll get a notice from your broker called a margin call. That’s a scary collection letter to receive. It basically says that if you don’t pony up the cash they want on the same day, they will sell your assets at their discretion and laugh when you beg and plead with them over which assets you want to keep. I learned this the hard way in late 2008 as stocks were in the midst of plummeting.

And that brings me to a related point, which is short term vs. long term trends. Even if the long term trend is a bull market in precious metals, we can see very clearly that there may be daily, weekly, monthly, or even longer periods that gold will not perform as you want or expect. When gold started to increase in price again in 2000, no one expected it to rise on an even, steady pace. The point is 1) expect volatility, and 2) stick with the long term trend rather than trying to trade the daily prices.

Final Thoughts

There was a time when the recommended allocation to gold for everyone was 5–10%. I think that day will once again come, but it may be a while. Even though most advisers shy away from the yellow metal, still it could play a vital role in your wealth preservation strategies. DM me if you want to learn how to earn interest on your ounces, paid in more ounces (not paid advertising). Make sure you ask a competent adviser to help you decide what is appropriate to your situation, and don’t buy from the radio advertisers just because they have an endorsement from Savage, Levin, or Hannity. You must do your own due diligence, and stick with the bullion bars and coins.