The simple truth about gold leverage programs
A lot of people ride motorcycles, but there's a reason most don't try to be Evel Knievel. Sure, there's a big reward if you can land a jump over 14 school buses – but what if you don't?
A new craze among our competitors is to push gold buyers into "leveraged accounts." In one of these accounts, the dealer lends you money to buy gold, on the assumption that gold will go up faster than the rate of interest on the loan. In other words, if you call with $5K, they'll give you another $20K in credit to make a $25K total purchase of gold bullion.
The sales pitch is that since we all know gold is going up, you might as well maximize your returns by leveraging up. What they don't often mention is what happens if gold goes through a correction. You'll likely be asked to send in more cash for a "margin call." If you don't, they'll sell your gold for a substantial loss.
GOOD OLD BUY & HOLD BULLION
If you simply purchase bullion, it doesn't really matter whether gold falls in the interim, as long as it regains the loss by the time you need to sell it. In fact, the money you would use to pay margin calls on leveraged accounts could instead be used to buy more bullion on dips. That's how you make serious money in a gold bull market.
THE LEVERAGE RIPOFF
Unfortunately, the leverage rip-off doesn't end with margin calls. Expect to pay commission on the entire value of the purchase. If you have to pay 3% commission on the whole $25K, that's actually 15% of the $5K you invested.
Then, there is interest on the $20K loan, which may run you 8% per year, adding an additional $1,600 in the first year of holding. With the commissions, this amounts to a staggering 47% of your original $5K investment!
Tack on leasing fees, transaction fees, administration fees, storage fees, delivery fees… with many of these accounts, it is nearly impossible to come out ahead.
A "GOLD ACCOUNT" IS NOT GOLD
Importantly, with leverage, you do not get possession of your gold – it is held as collateral. That defeats the major objective of buying physical gold coins: the elimination of counterparty risk. Counterparty risk is the chance that the person who owes you gold doesn't actually have it, or refuses to pay. That could leave you stuck when you need your gold most – like in a hyperinflationary environment.
Maintaining a brokerage-style account with a dealer also defeats a second objective of buying physical gold coins, financial privacy.
THE HOUSE ALWAYS WINS
Even if it weren't for the rampant shady practices of firms offering these accounts or the disadvantages of not holding your own gold, leverage still adds a large element of market risk that I think is inappropriate for most gold investors.
If you do happen to be experienced enough to successfully speculate on gold prices, you should be trading on the futures markets, where fees and interest rates are substantially lower.
There really isn't any demographic that should be opening leveraged accounts with coin dealers. The only reason these accounts are offered is that they are extremely profitable to the dealers and salesmen who push them, at the expense of the small percentage of people who are suckered into opening them.
THE GOLD-MEDIA COMPLEX
This brings up a key point about the current state of the gold industry. Dishonest dealers are raking in profits from inexperienced buyers, which are funneled into pricey advertising campaigns, driving more inexperienced buyers into their clutches.
Some pundits point to these ubiquitous ads as a sign of a bubble. However, I see it as just the opposite. Right now, legitimate dealers are not profitable enough to pay for big ad campaigns by simply selling bullion at reasonable markups. That is why all the ads we're seeing now are produced by dealers pushing leverage and over-priced numismatics. The huge markups and fees enable them to afford high-priced marketing campaigns.
If gold truly were to become a bubble, then there would be such great volume and so much interest and education among buyers that legitimate dealers would take over most of the market. Your neighbors would be able to tell you the average markup on an American Gold Eagle just like they can now tell you the average price of a three-bedroom house in the neighborhood.
My public profile provides a certain level of exposure that allows Euro Pacific Precious Metals to overcome the high barrier to entry facing other honest dealers this early in the bull market. We see it as our mission to guide investors who are new to the gold market into making smart purchases and help them avoid the traps that have already ensnared so many others.
A LONG ROAD AHEAD – CHOOSE THE RIGHT VEHICLE
It's going to be a long road to the top of this gold bull. If you can avoid pitfalls like leveraged accounts and numismatics, gold will shield your wealth from the Fed's steady erosion of the dollar's purchasing power. An old proverb goes, "the greatest truths are the simplest; and so are the greatest men." Don't trust brokers who pressure you to invest in complicated schemes or fancy products when all you really need are pure bullion coins and bars, held in your physical possession. This advice has been given from father to son since Ancient Babylon, and though Americans have forgotten it for a few generations, it remains the simple truth.
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Peter Schiff is CEO of Euro Pacific Precious Metals, a gold and silver dealer selling reputable, well-known coins at competitive prices. To learn about our products and policies, please visit www.europacmetals.com or call us at (888) GOLD-160.