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THE GREAT DEBATE:
TRADING VS. LONG-TERM GOLD INVESTING

 

By Dr. Richard S. Appel             Printer Friendly Version

October 22, 2003

www.financialinsights.org

My early years as an investor witnessed my attempt to master all aspects of this enormously complex and difficult field. I repeatedly read or heard of individuals who amassed great fortunes while investing or trading for their own accounts. Some succeeded by trading commodity futures. Others reaped great rewards when dealing in stock options. While still others gained their wealth through day trading or short selling. However, after much study and research it came to me that those who most often achieved their ultimate goals were those individuals who identified a long term Bull Market, invested early in it, and then let the trend work for them. They bought and held during both the various exciting and pleasurable upswings as well as through the sharp, terrifying reversals, as the market ultimately worked higher until it reached its ultimate peak. Then, when the Bull Market appeared to be in its final, frothy stage, they gradually sold their holdings to the late comers who were clamoring to accommodate them.

Throughout this era, I felt that if great profits could be garnered from trading currencies, stocks or bonds by others, certainly I should easily be able to join their ranks. After all, I was quite bright and not only loved the markets but thoroughly immersed myself in learning about and understanding them. In fact, although it was early in my adult life, investing had already become my second occupation. How could I lose, I thought?

I tried them all! During this period I spent many sleepless nights wondering if I had over-leveraged myself. I tossed in my bed questioning if a sharp correction was destined to deepen into a devastating Bear Market. I remember buying call options on General Motors in December, 1974, when it appeared that the great equity Bear Market of 1972-1974 had ended. I paid $1 for each and sold them near their high at $10 several months later. What a rush! I reminisce about buying a number of silver futures contracts in 1976 or 1977 when silver was about $5.00 an ounce. Then, just prior to its amazing run the locals briefly sold silver off to about $4.90. They took silver to about $0.02 below my stop-loss level and stopped me out. I was left in the dust and licking my wounds as I watched silver move higher, questioning if I should acquire a new long position. I never did! Silver traded to $52.50 only a few years later. What a bummer.

In the end, after trying for a number of years to trade with the pros, I lost most of my youthful naivete but gained much experience and wisdom. I tried to focus on my successes and the reasons that I had profited from them. I came to realize and accept both my strengths and weaknesses. Through my experience I recognized that I was not a trader and never would be one. While I had a number of very successful trades, my losses were quite painful and overall I am sure that I lost money. Further, the agony that I often went through when a trade was going against me became more and more difficult to endure. On the other hand, I recognized that I had a great ability to often perceive the emergence of a nascent Bull Market. I realized that the times when I acted upon these correct observations, and bought and held my positions through the unfolding Bull Markets, were the periods when I most prospered from my investments.

In the case of the silver commodity trade described above I was correct on the trend, but I allowed myself to be tricked out of my contracts by the sharper traders in the silver commodity pit. I could have reinstated my positions but I was frightened that once doing so, silver would again move lower and bestow me with further losses. Unfortunately, this is too often the result to which competent investors succumb, when they are seduced by the lust to trade.

Of course I did not immediately refrain from my trading propensity! While intellectually I recognized that it was a mistake, emotionally, I continued to believe that I should be able to trade with the pros. However, such interludes became increasingly less frequent. And, virtually each time that I again tried I wound up kicking myself, saying that I should have known better. I was beginning to learn to protect myself from myself!!

It is one thing to make a fortune trading stocks, commodities or options over the short term, but it is another to consistently do so. It takes a certain type of individual to regularly profit from trading the various markets. Among other attributes they must be extremely disciplined, have nerves of steel, have great experience in trading markets, and possess not only a great understanding of both the market and their opponents, but also a sort of sixth sense. They must be capable of actually feeling a subtle change in the trend of their market. This allows them to either quickly exit their trade to prevent losses, or to increase their exposure to profit. Few people have a combination of these traits and abilities! Still fewer can successfully put them to use as a trader!

At one time or another we all feel compelled to trade. It is exciting. It has the lure of great profits. Successful trades boost our perception of ourselves We feel that if others can do it, why can’t we? Most of us enter trading for all of the wrong reasons!

I am here to tell you that the odds are heavily stacked against anyone who tries to trade this gold Bull Market! Further, the price that one must normally pay of sleepless nights and possibly damage to one’s health, not to mention financial losses, are typical attending elements that go part and parcel with a life of trading.

This brings me to the subject of gold and silver. As long term readers know I am convinced that we have entered a secular Bull Market in both metals. Further, I believe that we are presently in only their early stages. Additionally, given the various reasons for the emergence of gold’s Bull Market, and the sequence of events that have transpired since its birth, I am confident that these Bull Markets will not end for several years, at minimum.

It remains to be seen how future events will affect their developments, but it is likely that they will only act to drive the ultimate prices of both metals to levels that will appear incredible to the majority of onlookers. If this is the case, what are the pros and cons of investing, or holding over the long term, versus trading in these markets and in the shares of companies that either produce or explore for them?

The primary financial benefits of trading in a confirmed Bull Market is that it often gives the trader a form of leverage, and the hope that one can garner larger profits than if he only bought and held. The added leverage has the potential to substantially increase one’s profits. For example, if a person purchases gold futures or gold call options they must only commit a small percentage of the underlying gold’s value to initiate the trade. Then, if prices move higher, the profits that result may be a multiple of those that would accrue if he owned the physical metal. Unfortunately, this can act as a double edged sword if the trade, even for a short period, goes against the trader. And, in isolated situations they may be devastating!

In the case of futures contracts the person is not only liable for his committed margin, but also for all losses that may occur while he holds the contract. In early 1980, the rules regarding silver were changed on the Comex. Silver had run from about $15 to over $50 in the space of only several months. When silver passed $50 the Comex officials mandated that the exchange would only accept orders for liquidation. This forced the longs to sell as no new buy orders could be entered. The result of this rule change was that silver plummeted! It went limit down for a number of days until it again resumed trading in the mid-$30 range. The longs, who earlier had amassed substantial profits, were then faced with staggering losses as they could not exit their trades. They were locked in! Each contract consisted of 5,000 ounces of silver. Thus, when silver fell from over $50 to below $40, the longs lost over $50,000 per contract. Numerous individuals went bankrupt overnight. This is not to say that such an event will be repeated. However, when trading futures, recognize that one’s losses are not limited to their margin requirements.

With gold options the negatives are primarily three-fold. They are often cost prohibitive and the potential of losing your entire investment is likely. The call’s cost may be in excess of an annualized 30% of the underlying gold covered in the optionl. To me even when I was trading, the risk vs. reward was often so onerous that they usually kept me out of options. Further, I often heard, and later confirmed from experience, that the vast majority of options expire with no value. Most option purchasers exit their positions with losses! The last negative is that time is working against you. All options have an expiration date. As time passes the value of the options quickly deteriorates. Eventually, unless your timing is exceptional, that date arrives without an attending rise in gold, and they become worthless.

The case for today buying and holding gold and silver bullion and equities, is primarily that you have the actions of their Bull Markets working in your favor. Yes, you will miss the excitement of trading, but you will also miss the loss of countless hours of sleep! True, you will experience periodic sharp reversals and breathtaking declines when you will show paper losses! Yet, if we are indeed in a Bull Market as I believe, your asset base will inexorably work higher.

The primary reason for trading gold equities is the possibility to enhance one’s return. What you must remember for this discussion is that we are dealing in a confirmed Bull Market that over time will bestow profits upon the investor. Successful trading in gold stocks can occur if one is sufficiently competent and agile to recognize and benefit from short term reversals. However, the primary negative of trading this Bull Market is that the typical investor will too often find himself out of position when a major up-wave develops.

This is not to say that even long term holders should not occasionally reduce or eliminate their positions! During the great gold Bull Market of the 1970's, gold suffered a major secondary correction. This lasted from January 1, 1975, until July 4, 1976. During this period gold plummeted from $200 to $103 an ounce. Gold had earlier surged when the U.S. government announced that on January 1, 1975, Americans would once again be allowed to own gold. However, when that fateful day arrived, everyone who believed that a great influx of buying would result from the lifting of sanctions, were sadly mistaken. Rather than exploding higher, the last buyer had temporarily been satisfied. The result was a harrowing, trying, eighteen month fall in the price of the yellow metal.

In this as in every Bull Market there will be at least one such periodic, major price collapse. I can not more strongly recommend that if you sense that gold is encountering such a period, or that an external shock occurs that might precipitate such an event, that you immediately and sharply reduce all gold and silver related positions. Similarly, in the case of a given gold or silver equity, if the fortunes for a company negatively changes it is best to look for another similar equity to switch into. These are the only reasons that should financially motivate you to terminate your gold related investments as long as you remain confident in your belief of gold’s Bull Market.

Returning to buying and holding during a Bull Market the primary negatives are two-fold. First, is that it is boring! You will miss the excitement of trading! The second is that you risk being out of the market during a major price advance.

With normal secondary corrections, I feel that all but the most sophisticated traders should ride them out. They are a common thread that appear during all Bull Markets. Last Friday, many new traders were whipsawed out of their trading positions when gold plummeted sharply below support only to recover to near unchanged. Under these circumstances it can be quite difficult to reenter the trade. Often, as in the case of my earlier discussed silver futures experience, you will not have the courage to again make purchases before gold moves higher. This will force you to miss out on the profits that would have accrued if you had remained invested. Bull Markets have a tendency to move higher while carrying as few investors with them as possible. Gold Bull Markets are no different! If you allow yourself to be faked out of your position, by trying to be cute and trade the market prior to a major gold advance, it is not gold’s fault if you miss the rise, it is yours!


The above was excerpted from the November 2003 issue of Financial Insights © October 19, 2003.

I publish Financial Insights. It is a monthly newsletter in which I discuss gold, the financial markets, as well as various junior resource stocks that I believe offer great price appreciation potential.

Please visit my website www.financialinsights.org where you will be able to view previous issues of Financial Insights, as well as the companies that I am presently following. You will also be able to learn about me and about a special subscription offer.


CAVEAT

I expect to have positions in many of the stocks that I discuss in these letters, and I will always disclose them to you. In essence, I will be putting my money where my mouth is! However, if this troubles you please avoid those that I own! I will attempt wherever possible, to offer stocks that I believe will allow my subscribers to participate without unduly affecting the stock price. It is my desire for my subscribers to purchase their stock as cheaply as possible. I would also suggest to beginning purchasers of these stocks, the following: always place limit orders when making purchases. If you don't, you run the risk of paying too much because you may inadvertently and unnecessarily raise the price. It may take a little patience, but in the long run you will save yourself a significant sum of money. In order to have a chance for success in this market, you must spread your risk among several companies. To that end, you should divide your available risk money into equal increments. These are all specula-tions! Never invest any money in these stocks that you could not afford to lose all of.

Please call the companies regularly. They are controlling your investments.


FINANCIAL INSIGHTS is written and published by Dr. Richard Appel and is made available for informational purposes only. Dr. Appel pledges to disclose if he directly or indirectly has a position in any of the securities mentioned. He will make every effort to obtain information from sources believed to be reliable, but its accuracy and completeness cannot be guaranteed. Dr. Appel encourages your letters and emails, but cannot respond personally. Be assured that all letters will be read and considered for response in future letters. It is in your best interest to contact any company in which you consider investing, regarding their financial statements and corporate information. Further, you should thoroughly research and consult with a professional investment advisor before making any equity investments. Use of any information contained herein is at the risk of the reader without responsibility on our part. Past performance does not guarantee future results. © 2003 by Dr. Richard S. Appel. All rights are reserved. Parts of this newsletter may be reproduced in context, for inclusion in other publications if the publisher's name and address are also included for credit.

I publish Financial Insights. It is a monthly newsletter in which I discuss gold, the financial markets, as well as various junior resource stocks that I believe offer great price appreciation potential.

Please visit my website www.financialinsights.org where you will be able to view previous issues of Financial Insights, as well as the companies that I am presently following. You will also be able to learn about me and about a special subscription offer.

CAVEAT
I expect to have positions in many of the stocks that I discuss in these letters, and I will always disclose them to you. In essence, I will be putting my money where my mouth is! However, if this troubles you please avoid those that I own! I will attempt wherever possible, to offer stocks that I believe will allow my subscribers to participate without unduly affecting the stock price. It is my desire for my subscribers to purchase their stock as cheaply as possible. I would also suggest to beginning purchasers of these stocks, the following: always place limit orders when making purchases. If you don't, you run the risk of paying too much because you may inadvertently and unnecessarily raise the price. It may take a little patience, but in the long run you will save yourself a significant sum of money. In order to have a chance for success in this market, you must spread your risk among several companies. To that end, you should divide your available risk money into equal increments. These are all specula­tions! Never invest any money in these stocks that you could not afford to lose all of.

Please call the companies regularly. They are controlling your investments.

FINANCIAL INSIGHTS
is written and published by Dr. Richard Appel and is made available for informational purposes only. Dr. Appel pledges to disclose if he directly or indirectly has a position in any of the securities mentioned. He will make every effort to obtain information from sources believed to be reliable, but its accuracy and completeness cannot be guaranteed. Dr. Appel encourages your letters, but cannot respond personally. Be assured that all letters will be read and considered for response in future letters. It is in your best interest to contact any company in which you consider investing, regarding their financial statements and corporate information. Further, you should thoroughly research and consult with a professional investment advisor before making any equity investments. Use of any information contained herein is at the risk of the reader without responsibility on our part. Past performance does not guarantee future results. © 2003 by Dr. Richard S. Appel. All rights are reserved. Parts of this newsletter may be reproduced in context, for inclusion in other publications if the publisher's name and address are also included for credit.