Today I’m reporting to you live from Las Vegas, and wow, this place could spawn so many articles on money and investing it’s mind-boggling.

My brain is still trying to take it all in!

I’ve been here less than 2 hours and have already come up with:

  • Gambling vs. Speculating vs. Investing (I know, this one’s obvious and has been written about to death, but still…)
  • How to Lose All Your Money in 10 Minutes (But Not Care…) (Vegas has elevated losing money to an art form)
  • The True Cost of “Free” (all those “free” drinks really add up at the tables…)
  • How Billionaires Splurge (my cabby today informed me that cabanas at the über popular “Rehab Pool Party” go for $20,000 per DAY…and the cover charge is $40…that’s double the cover at the cheesiest-yet-most-pretentious club in SF!)
  • How “Diversification” in Gambling is like the Mainstream Idea of Diversification (you can go from black jack, to craps, to slots, to roulette, to sports bets…and still lose all your money)
  • How To Be an Enterprising Entrepreneur, or, How Best to Legally Separate People From Their Money (it is seriously hard to NOT spend money here. NO opportunity is missed to separate you from your money. If you happen to “win big” in the casino, you pass umpteen stores selling you every product under the sun before you ever make it back to your room…and if shopping’s not your thing, there’s food, and drink, and shows, and clubs, and sex, and booze, and a spa, and a swim with the sharks experience, and ever more! Except investments, that is…there are exactly zero places here selling what I would consider “investments” or “assets”—nary a Wall St. broker nor a commodities/futures broker nor a coin shop nor anything else asset-like in sight)

I could go on and on… but I will spare you because luckily I ran into none other than Andy Schectman from Miles Franklin today (we were on the same flight from Minneapolis) and he reminded me of the actual reason I’m here…

(so easy to get distracted in Vegas!)

FREEDOM!

And particularly, financial freedom…

And most importantly, how to help YOU achieve financial freedom and independence!

And one hot topic at this conference of course is sound money (e.g. gold and silver…hence why Andy is here) and I can’t wait to report on it for you.

However, as the conference is just beginning, today I want to provide you with an article I wrote on the GLD (so-called “paper” gold, the ETF) back when I was first getting started with Kung Fu Finance (and had possibly 10 or 15 subscribers…hence I’m pretty sure it will be “new” to you).

I receive many, many questions about how to invest in gold each day.

Should you buy paper or physical gold? Should you use allocated or unallocated storage? Pooled or not? Coins or bars? What kind of coins? Which dealers to call? What to ask the dealers when you get on the phone with them? Etc.

I am thrilled to announce that I finally have a great solution for you that is opening its doors on Monday. This solution (which I am going to use myself) will allow you to buy and store physical gold and silver in several locations worldwide at wholesale prices, and to take delivery of your metals if you so choose, thus avoiding all (or the vast majority) of problems with buying and selling gold. Stay tuned…

Meanwhile, I hope you enjoy this article on several “gotchas” to be wary of when investing in “paper” gold, even in the well-known GLD ETF.

(And yes, I have invested in GLD myself in the past, but I do not recommend it. If you are set on investing in paper gold, I highly recommend choosing CEF, the Central Fund of Canada, when its premium is less than 5% of NAV…it avoids many of the problems mentioned below. Good luck!)

8 GLD “Gotchas” To Be Wary Of

There is much speculation and misunderstanding about the largest gold ETF, the SPDR Gold Trust (GLD). GLD is an exchange-traded fund (ETF) that purports to be backed by physical gold and to track the spot price of gold on approximately a 1/10th basis, minus fees and expenses. (This means that if the spot price of gold is $1700, 1 share of GLD should be very close to $170.)

If you are considering adding GLD to your portfolio, I recommend you do a little studying first and know what you are getting into…it’s not necessarily a bad option, but there are 8 potential “gotchas” to beware of:

1. Does the share price accurately track the real spot price of physical gold, and will it be able to do so in a mania?

Currently the answer to this is “maybe”…

When GLD first came out, in late 2004, it did track the gold price quite well. However, over the years, the discrepancy between the share price of GLD and the spot price of gold has slowly increased.

Let me show you:

As I write this, the spot price of gold is $1717 (it has just dropped significantly in the past hour along with the plunge in ES). And a share of GLD is $167, which would reflect a spot price of $1670, a difference of $47, or 2.7%.

If we take a look back, a few months ago, we can see what happened on a day when the spot price of gold soared:

Back on August 22nd of this year, gold rocketed past $1800/oz., briefly passed $1900, and closed (NY Spot Gold) at $1898.10. That same day, a share of GLD closed at $184.59, reflecting a spot price of $1846 for a $52 difference, or 2.7%.

So, no big deal so far, right? If the discrepancy between the GLD share price and the gold spot price is constant (meaning it’s 2.7% lower when you buy but also 2.7% lower when you sell) this might not be so terrible. However, let’s look back a few years…

8/22/2005: $437.80 NY Closing spot price
8/22/2005: $43.70 GLD price

This is much less than 2.7%…back in 2005, the share price of GLD trailed the spot price by only .18%! So depending on your time horizon, and if the discrepancy continues to increase, it could spell some missed profits for your portfolio.

And if you look closely, you’ll see that this is actually built into the GLD prospectus itself (which, if you are a glutton for punishment, you can read here…),

“The sale of gold by the Trust to pay expenses will reduce the amount of gold represented by each Share on an ongoing basis irrespective of whether the trading price of the Shares rises or falls in response to changes in the price of gold…Assuming a constant gold price, the trading price of the Shares is expected to continue to gradually decline relative to the price of gold as the amount of gold represented by the Shares gradually declines.

Great.

2. You cannot exchange your shares of paper gold for actual physical gold.

GLD is not and never has been intended to be redeemable for actual physical gold. It was designed simply to track the price of gold and allow more investors easy exposure to the price of gold without the option of taking delivery. It is currently redeemable only to “Authorized Participants” in blocks of 100,000 shares, and the list of Authorized Participants is a select group of 16 of the largest global banks such as Goldman Sachs, JP Morgan, UBS, HSBC, etc.

So, unless you have $171,700,000…you cannot redeem any of your GLD shares for gold.

3. Potential for fraud– does the physical gold truly exist behind the paper?

Here is where many “conspiracy theories” come into play. Multiple audits have been performed on GLD in the past, but unfortunately, these audits have raised more questions than they have answered and have shown some discrepancies in the number, weight, and serial numbers of the bars of gold.

Most recently, CNBC’s Bob Pisani visited GLD’s vault and filmed a segment on the gold. Hilariously, though, this only spawned more conspiracy theories, because the bar of gold that was zoomed in on while he spoke on camera was “ZJ6752”, which was nowhere to be found on the full bar list that is posted daily by GLD. Here’s a great pic, and you can read the funny story about it here on ZeroHedge:

Gold Bar? Or Tungsten....

Gold Bar? Or Tungsten… ***Photo courtesy of Zero Hedge

Additionally, the GLD prospectus itself states,

“The Trust may not have adequate sources of recovery if its gold is lost, damaged, stolen or destroyed and recovery may be limited, even in the event of fraud, to the market value of the gold at the time the fraud is discovered.”

Buyer beware.

4. Conflict of Interest

Two of the custodians for GLD are JP Morgan and HSBC, companies that are also players in the wholesale gold market and who have been accused of manipulating the gold market and suppressing the price of gold (note: these allegations have yet to be confirmed by the CFTC, but there is a big enough movement behind the allegations that it has formed its own organization called GATA, the Gold Anti-Trust Action committee).

5. Fund expenses

From page 1 of the GLD prospectus,

“The investment objective of the Trust is for the Shares to reflect the performance of the price of gold bullion, less the Trust’s expenses.”

Yes, ETFs tend to have low expense ratios, but you will still be losing some money to expenses (and whatever trading fees your brokerage charges).

6. Not regulated by the CFTC (Commodity Futures Trading Commission)

Also from the very first page of the GLD prospectus, we find,

“The Trust is not a commodity pool for purposes of the Commodity Exchange Act of 1936, as amended, and its sponsor is not subject to regulation by the Commodity Futures Trading Commission”.

7. Bars in trust not guaranteed to meet London Good Delivery Standards

“Gold bars allocated to the Trust in connection with the creation of a Basket may not meet the London Good Delivery Standards and, if a Basket is issued against such gold, the Trust may suffer a loss.” GLD Prospectus, page 11.

Basically, the Trust “requires” that its bars meet “London Good Delivery Standards”, but they never actually verify that the bars actually do meet these standards (hence all of the articles and conspiracy theories alleging that the bars are actually gold-plated tungsten).

8. Taxation

Finally, because GLD is an ETF, you may think that it is taxed like most securities, where if you hold it for longer than one year you will pay the long-term capital gains tax rate, currently 15%.

However, GLD is not structured as a mutual fund…it is set up as a “grantor trust” and is therefore taxed at the underlying commodity tax rate. Gold is considered a “collectible” by the IRS, and is taxed at the long-term tax rate for collectibles, which is currently 28%, NOT 15%. And, if you sell it in less than one year, it is taxed at your ordinary income tax rate. Ouch.

In sum, the GLD ETF has several gotchas that investors should be wary of! Yes, it is highly liquid, easy to trade, and saves you some of the hassles of physical gold ownership, but it is not without risk.

So there you have it: do your homework before you jump into GLD!

I personally prefer physical bullion for all of the reasons listed above (but that has its own set of “gotchas” to beware of, primarily theft and fire, and is the subject for another day!).

To your financial success,

— Kung Fu Girl