An idea for building wealth...using only gold

Hello friends, I'd like to present an idea for commentary. I've tried this before (when we were only FX factory) but now that we have a dedicated metals site, with some seriously good talent here...I'd like to present this idea and ask for your comments:

Idea for wealth building (using only gold):
Lets say you have x dollars (Euros, Pounds, Yen, what ever) that you wish to set aside and use it exclusively for building wealth. This is apart from your normal trading activity and/or savings for emergency (which BTW I NEVER trade with). So lets say this amount is $10,000 (or what ever you wish to dedicate).

My proposal is this...place 1/2 of those funds in physical gold at the market price and hold. Use the other 1/2 of those funds to trade gold (either futures or spot). Then every 6 months re-balance the funds to maintain the 50/50 ratio. Here is how it would work...(I'd like to believe).

You buy (as I did) physical gold at 1308. And if price goes (or is) below that price you balance your position with a short in the cash market (assuming your trading method makes this appropriate). You would trade this like a "normal short" and assuming price drops to 1100, you collect the 208 pt drop (which actually works out to 20,800 pips). Because this account is leveraged you'd only have to use approximately 25% of your "liquid" funds to trade this and recover the cash value lost in your physical position. But that's not all...

Lets say while price is very low, you close your shorts...collect the cash, and then place a long (again assuming your trading method provides the appropriate signal). Now your physical gold position recovers lost value, AND your trading position, is gaining value up to the point of your original position. So now, you have not only recovered the value of your physical gold position (which would normally be just break even), but you also have the profit gained from the short --> long trading. So that little tip just profited you (considering how you trade) twice the distance your original physical position devaluation...and viola...you've made a very nice profit on your entire gold portfolio, when the physical position was just break even.

Are you confused yet? But wait there's more. Lets say Gold prices rise, and your physical position is gaining value. You start switching to "buy the dips" in your trading strategy...and now you entire gold position is creating double the profit (depending on your leverage).

So every 6 months or so...assuming there is profit...you re-balance the "portfolio". You take extra cash...buy more physical gold, and then calculate your new aggregated position price. Depending on how the market is moving this price may rise or fall...but it always has you buying at the lows and selling at the highs. All the while, accumulating physical gold to build wealth. In this way your portfolio is always creating profit (where as most gold is just an anchor of value). And if at some point (when prices are high) you have more value in your physical gold, than your trading portfolio...you liquidate to cash to re-balance at 50%...

In my way of thinking this creates a self sustaining ever growing wealth building machine...apart from your regular trading or day job activities...and (if done correctly) would generate greater wealth than property ownership ever would. It is a combination of passive and active wealth building.

What do you think? (try to be constructive)

Now for the down side...of course this assumes that you have a trading strategy that is acccurate at least 50%-60% of the time. AND it would be a much longer term strategy (in my view). This is simply because you are not trying to generate income from small (miniscule) movements of a few pips, but rather holding for larger (500-1,000) pip moves.

Again the purpose of this trading activity would be to balance and/or recover any lost value in your physical gold portfolio. So once you've recovered that value, you could just wait to see what will happen next...there is no pressure to constantly trade. This is because you already have a position...your physical position. And what you're looking to do is balance any devaluation, but also profit when price recovers...

I think most long term trading strategies would work well on this idea...but that's only what I think...tell me what you think...

OK...let the trolling begin...

Anyone??

If I understand this correctly, the core philosophy here is to use proceeds from one asset to buy other assets?

I'd completely agree with that. There's a lot of ways to do that, whether its using a gold trading account to buy physical gold or using stock dividends to buy real estate. In any case, using something highly risky to buy something less risky makes a lot of sense even if it only lets you sleep better at night. lol

One other interesting idea would be to own physical and selectively writing calls on GLD. This way you make some monthly income no matter what, and worst case scenario there's a big rally and you have to sell your physical gold to cover the trading loss. Even in that case you'd still earn the time premium at least.

so basically a delta hedge that gets rebalanced?

I'm not an options trader and know very little about options. Frankly I had to look up the term to understand what you meant.

However I would point out this one significant difference. There is no time decay as there would be with option contracts. Thus if the market just ranged for several weeks/months you could hold both positions as long as you like.

In addition the point of the exercise would be to accumulate physical gold at a relatively low price. And when gold rises you are then converting back to cash...and the cycle starts again.

The only "paper" you are holding is the cash itself or a cash contact like the spot or futures contract. I would personally go with the leveraged spot. (Smaller carrying charge)

In concept however it would be very similar to what you mentioned but actually accumulating "hard assets" as opposed to a FIAT currency

I see, makes sense now. Pretty good Idea

I'm not as fond of this idea for the reason you explained as the "worse case scenario". I would argue it is less complicated and even easier to simply trade the "paper side". The object (for me) would be to accumulate the real asset while offsetting the risk. Again it would require some trading skills to keep trading losses at a minimum. However as the trading would be longer term the losses might be fewer assuming an accurate trend following strategy. Range trading (unless it's a really big range) would not be part of the strategy.

What's more...I'm going over some math here. I think that for every ounce of physical gold you can offset it with a single mini lot with. 100:1 leverage. Leaving a significant amount of "buffer" on the cash side (again assuming 1/2 of $10,000) to trade with very limited risk.

It would be slow but I think it might work. And if (like we're heading) a recession hits the physical gold would gain value forcing a cash out to rebalance and providing income when the need is greater.

Just thinking out loud now...

I'm not a big fan of that worst case scenario either. I just mention it because it's one way you can invest in metals and actually earn income.

If your trading strategy component of this is effective though, why not reinvest the proceeds in something uncorrelated with the strategy? It seems like using your gold profits to buy physical might come with higher risk than if you diversify into another asset class. You could trade YM to buy gold bullion, or trade GC to buy REITs for example.

Actually this is exactly what I do. What I have mentioned here is only part of a much larger plan. I did lay it out on another thread quite awhile ago, but that seems a long time ago. The plan is 3 parts.

1. Day Job - I trade YM futures on a daily basis with a goal of a minimum of 1%/day. This pays the day-in and day-out bills and has a little left over for saving. Of the left over, I take 1/2 of that to increase the futures account (it is slow going). And the other 1/2 I put aside as a savings account.
2. Savings - once a 6 month emergency fund is put aside I put the rest into a retail FX trading account. It is perfectly reasonable and achievable to increase these savings by 25%-50% annually. So as savings grow I have wanted to find a way to diversify from cash into real assets. Not necessarily land...(not enough accumulated to buy just yet)...and I refuse to go into debt. (Been there done that)
3. Wealth Building - So the idea I presented above was an alternative that can be done with relatively small cash that comes from excess savings proceeds. I would also consider it "diversified" in a sense that you are always moving back and forth between physical gold and "paper" - cash. It can offset any devaluation in physical gold with cash (by short positions) and the excess money gained doing this can be used to purchase more physical gold at a lower value, thus lowering your basis.

This is why I'm trading 1/2 the allocated funds and buying the asset with the other 1/2. The "risk" in gold is that it will be worth less in time after you buy it, but that devaluation is never going to be zero (in all of human history)...where as other asset classes do have that risk especially REIT's. So if I short the cash market, (assuming I have a valid trading signal to do so). AND if I am trading the same number of ounces I currently possess. For every $1.00 physical Gold devalues, I gain that back in cash. So the cash account grows, while the physical Gold devalues. This takes (on average) 6-9 months. Thus if I "re-balance" when price is low...I will have more cash value than physical Gold value. So, I re-balance so I am 50/50 again. This does many things. It accumulates more Gold...AND the added purchase at the lower value, reduce my overall basis. In addition, once price does finally return to my basis, I accumulate more cash by trading long. Again with a 6 -9 month window, I can re-balance and again accumulate more of the hard asset.

If Gold value rises above my basis, I am long both cash and the asset is increasing in value. If I don't want to buy the asset above my basis, I can take the excess cash and place it back into the savings account (FX) and trade it there. If my asset is greater than the cash side, I sell (while price is high) and re-balance the cash...and off we go again. The account will continue to grow as I accumulate the physical asset the only risk is really the trading risk. That is, that I don't trade as well as I'd like to.