Moneyization Part Thirty-one

By: Ned W. Schmidt | Fri, Oct 27, 2006
Print Email

Moneyization: The global financial phenomenon of individuals and businesses moving their funds to monies in which they have the highest confidence, or money in which they have a higher store of faith.

Or, What Will They Use For Retirement

The longer term motivation for today's article is the Gold Super Cycle that will carry to $1,400. Both Gold and Silver have put in place important bottoms and are now building formations that will carry both higher. Investors need to keep those two factors in mind when considering any single day's action. When the hedge funds pushed Gold above equilibrium a few months ago all were excited, but the action was not real. That same lack of reality will arrive too in the paper asset markets, and many will again feel relieved to be in Gold and not paper.

On a more immediate basis was a recent article on the investment mix of 401-k plans, the defined contribution retirement plans used in the U.S. With the ongoing demise of pension plans in the U.S., these plans are intended to provide the retirement income of the coming generation of baby boomer retirees. But, will that happen? The failure to diversify the retirement system of millions of workers has put their retirement hopes at great risk. Readers involved in such plans are encouraged to email this article to other plan participants and the human resource department with the hope of rectifying this common investment error.

The foundation for retirement in the U.S. has two components, the 401-k plan at work and the equity in the worker's home. Unfortunately, the retirement plan components, 401-k's for example, are overwhelmingly invested in paper assets. Plan sponsors have in near universal fashion failed to adequately diversify the offerings for employee retirement plans. Offering "twelve" mutual funds invested in paper assets is not diversification. It is still all invested in paper assets, one and only one asset class.

In the first graph is plotted the asset distribution as determined by the analysis of Holden & VanDerhel(2006) for 2004 as gathered by the Employee Benefit Research Institute and the Investment Company Institute. This analysis, according to the authors, covers approximately one third of the workers in 401-k plans. Included in this analysis are about 16 million participants and US$926 billion of assets.

As is apparent from the chart, about 97% of these retirement assets are explicitly invested in paper assets. The classification "Other" is the only category in which real assets, such as Gold and Silver, could appear. That category amounts to about 3% of total assets. An explicit estimate of exposure to real assets is not available. Since that investment would fall within "Other" in this classification system, we can reasonably assume that real assets represent an insignificant portion of the retirement assets of those participating in U.S. defined contribution plans.

Private retirement plans in the U.S. are clearly not adequately diversified. This situation is not unique as he world's retirement plans are mired in paper assets. The U.S. Social Security System is entirely invested in U.S. government bonds. In the UK, moving plan investments to bonds has been a popular choice there. How much of your retirement is invested in paper assets versus real assets? Are you well diversified?

Why have retirement plans, particularly in the U.S., failed to diversify? Reasons exist, but none of them excuse this situation. The principal reasons retirement plans failed to have Gold included are tradition, convenience and ignorance. Using mutual funds, or other means of investing in paper assets, is easy and generally accomplishes the goal of establishing the retirement plan. From the early days of profit-sharing plans, the use of commingled investment vehicles was adopted for ease of use. This starting point established a tradition of using paper assets in such plans, and generally ignored the need to adequately diversify plan assets.

Most disheartening is that despite the growing body of evidence that Gold, and other precious metals, should be included in a portfolio, corporate plan sponsors ignore the important diversifying effect of these assets. Often either of two factors are influencing this situation. First, and most bothersome, is that many consultants to retirement plans either are not familiar with the benefits of Gold or choose to ignore it as it does not add to the financial well being of the consulting firm. In short, Gold pays no fees or commissions to consultants. Second, many plans simply have fallen into the clutches of mutual fund companies in order to save money, and the mutual fund company does not provide a full range of diversifying funds.

Diversification is the use of assets that do not move together to enhance the return on a portfolio. The second graph portrays return indices for Gold and U.S. paper equities for the past ten years. While they have generally moved in the same direction recently, the overall pattern shows divergence in the performance of these assets. Informed plan sponsors and consultants certainly can not be unaware of the picture shown in the graph. Perhaps it is being intentionally ignored. By the way, how will these plan sponsors and consultants react when the positions in that graph are reversed? 2000-2002 will be repeated in the paper equity markets.

Perhaps diversification and the role of correlation in achieving effective diversification are indeed beyond the grasp of some consultants to employee benefit plans. Certainly that can not be the case around the globe. The third graph is a rather simple concept that should be understood by almost anyone supervising employee retirement plans. In that graph are shown annualized returns on Gold and paper equities for 10 years, five years and the past year. A reasonable assumption would be that employees want good returns on their retirement funds. But yet, such results are apparently being ignored by many plan sponsors. By the way again, wonder why we never see a chart like this on CNBC.

Perhaps the ready evidence in these charts is too simple for consultants and plan sponsors. Maybe they want more heady academic type studies. If that is the case, they are available. For example, Ibbotson Associates produced a study in 2005 titled "Portfolio Diversification with Gold, Silver and Platinum" for Bullion Market Services, They concluded:

"Investors can potentially improve th reward-to-risk ratio in conservative, moderate, and aggressive [risk orientations] asset allocations by including precious metals with allocations of 7.1%, 12.5%, and 15.7%, respectively. These results suggest that including precious metals in an asset allocation could increase expected returns and reduce portfolio risk"(Ibbotson,3).

Further, Hillier et al concluded that precious metals, Gold, Silver and platinum, in "Do Precious Metals Shine: An Investment Perspective" in the March/April 2006 issue of Financial Analysts Journal improved the performance of portfolios. They wrote:

"Through analyzing daily data for the 1976-2004 period, we showed the following: Gold, platinum, and silver have the potential to play a diversifying role in broad-based investment portfolios. . . . Financial portfolios containing a moderate weighting of gold perform better than portfolios consisting only of financial assets.... Furthermore, our results suggest that over the past 25 years, the optimal weight of gold in broad-based international equity portfolios was approximately 9.5 percent, significantly higher than is currently seen in most funds' equity portfolios today" Hillier et al,104-105).

The readily observable evidence and the academic studies all suggest that Gold should be included in retirement plans. That void in the asset distribution in the retirement funds of the baby boomers leaves them at great risk. The experts on paper assets continue to contend that all is well, just as they did in 1999-2000. Their last great paper asset recommendation was the NASDAQ at 5000, and that market is still down 50%. The same is likely to happen to paper asset portfolios of this group of soon to be retirees. Should the Dow Jones Industrial Average match the performance of the NASDAQ, which is increasingly likely, the retirement assets of the baby boomers could collapse by 25-40%. How will they pay their bills, buy groceries and drugs, and eat in retirement with those kinds of results? Failure to diversify carries great financial risk.

This situation is both a failure and an opportunity! Retirement plans, just as we observed with central banks, own too much paper assets. The exposure of retirement plans to Gold is at a minimum. At current levels, approaching none, the exposure can only go higher as enlightenment spreads to these victims of the paper asset crowd. Many will learn that owning Gold outside their retirement plan may be the only way to protect their retirements. Here, like elsewhere unfortunately, Gold ownership continues to be too low. More likely global Gold ownership by individuals is likely to rise as the coming paper asset financial disaster moves closer. Gold's price is likely to benefit from the absurdly low rate of exposure to Gold that is the current situation.

Paper assets markets are slowly moving into an era of great vulnerability. In the late 1960s the baby boomers began to enter the work force. When they did contributions to retirement plans, including the Social Security system, began to grow. Retirement plans experienced net cash inflows which were subsequently invested in paper assets. Contributions into the plans were greater than the benefits being paid out. That net cash inflow has been the norm for more than forty years. Now, the front edge of the baby boomers is approaching 60. Retirement plans are soon to become net sellers of plan assets to finance the retirement of the paper boomers. Paper assets markets are soon to face a 10-15 year period when retirement plans, around the world, are net sellers of paper assets. That long-term deluge of selling will push paper asset prices to lows none expect.

Many may plan, or hope, to use the equity in their homes for retirement. This past week the report on existing home sales in the U.S. indicates the housing price bubble has burst! Housing prices have started a slide that will likely persist for up to ten years. A far greater concern is to whom the baby boomers will sell their homes. The baby boomers will be selling more houses than buyers will exist to buy them. How many of your neighbors are baby boomers that are likely to want to sell their big houses in the next 5-10 years? The bottom on housing prices as the baby boomers move into retirement will be far below any expectations.

Of the major assets classes, paper assets and housing are over owned by investors around the world. The under owned asset class is precious metals, Gold and Silver. As paper asset markets begin to be pummeled by net selling by retirement plans, Gold and Silver will be the safe havens. As central banks begin to sell their bloated holdings in bonds, bond prices will fall and yields, interest rates, will move dramatically higher. The selling plans of baby boomer home owners will be dashed. The world will then be a net seller of U.S. dollars at the same time. Gold and Silver may be the only investment alternatives with any reasonable hope of being viable.

Clearly, the first step for most investors is to begin building a portfolio of Gold. Investing in Gold is too easy today. Be it in physical form or electronic form, ETFs, Gold belongs in an investor's portfolio. The decision to add Gold is not one that requires great consideration or reflection. Only two issues need be decided. How much Gold should be bought? When should Gold be bought, in a tactical sense? The simple table that follows can provide an easy way to determine the answer to the first question.

How Much Gold To Buy
Value of retirement plan
plus value of your paper asset investments
plus reasonable estimate of home equity
minus Gold & Silver currently owned
Equals amount of Gold to buy

After determining how much Gold need be purchased, the remaining decision is when to buy. Fortunately for today's investors the heightened volatility created by hedge funds and global events repeatedly creates buying opportunities. These opportunities exist when prices have been pushed lower by irrational selling forces. With $Gold about to explode through $600 in a violent breakout, buyers should not be hesitating.

$Gold has been putting in place a lateral pattern as part of the completion of an A-B-C pattern. With the U.S. dollar again becoming the target of sellers, $Gold is likely to move dramatically upward. The abnormal pattern created by hedge fund trading that pushed $Gold to more that $700 will soon fade from memory. Gold investors will be looking to the future and higher prices. Dwelling on yesterday is interesting, but investors should be looking to the future and the potential for $Gold to rise to near $1,400. You do not drive a portfolio by looking in the rearview mirror.

CN$Gold is exhibiting a similar pattern, as shown in the last chart. With the Canadian dollar returning to a bear market against the other global monies, adding to Gold holdings would be wise. Canadian based investors should be long term sellers of the Canadian dollar and long-term buyers of Gold. Charts with buy signals also available on Euro Gold, pound Gold and Silver.

Hillier, D., Draper, P. & Faff, R. (2006, March/April). Do precious metals shine? An investment perspective. Financial Analyst Journal, 62(2), 98-106.
Holden, S.A. & VanDerhei, J.L.(2006,Third Quarter). 401(k) plan participant asset allocation in 2004. Benefits Quarterly, 37-47.
Ibbotson Associates(2005). Portfolio diversification with gold, silver, and platinum. Chicago: Ibbotson Associates.



Author: Ned W. Schmidt

Ned W. Schmidt,CFA,CEBS
The Value View Gold Report

Ned W. Schmidt,CFA,CEBS is publisher of THE VALUE VIEW GOLD REPORT and author of "$1,265 GOLD", published in 2003. A weekly message, TRADING THOUGHTS, is also available to electronic subscribers. You can obtain a copy of the last issue of THE VALUE VIEW GOLD REPORT at The Value View Gold Report. Ned welcomes your comments and questions, and tries to answer most all. His mission in life is to rescue investors from the abyss of financial assets and the coming collapse of the U.S. dollar. He can be contacted at

Copyright © 2003-2016 Ned W. Schmidt

All Images, XHTML Renderings, and Source Code Copyright ©