The Mailbag: Gold, War, Inflation, Recession…and More

When it comes to the psychological fears of stock investors, Mark Twain perhaps said it best:

“October. This is one of the peculiarly dangerous months to speculate in stocks. Other dangerous months are July, January, September, April, November, May, March, June, December, August and February.”

We wouldn’t go that far. But as the stock market’s swoon so far in 2022 has reminded us, the financial markets can still humble even the most seasoned investor.

Inflation, the Russia-Ukraine war, the January 6 committee hearings, signs of a slowing economy, tightening monetary policy, stock market volatility…risks are mounting and investors are nervous. Let’s see what’s on your minds. Some of your questions were about the basics of investing. Even Wall Street veterans need to be reminded from time to time of the essentials.

Putin and Midas…

“Should I increase my exposure to gold? The textbooks tell us that it’s a safe haven during times of crisis.” Bill G.

Yes, gold is a time-tested hedge against crises, which are multiplying with each passing day. During the Great Recession of 2007–09, the worst economic downturn since the 1930s, gold prices rallied from $840 per ounce at the end of 2007 to over $1,200/oz by the end of 2008, even though inflation over this period stayed in check.

The rule of thumb is that gold should make up 5%–10% of total portfolio assets. The yellow metal is poised for a bull run. Amid the backdrop of war and inflation, investors will increasingly turn to gold.

No one can say when Russian President Vladimir Putin’s misadventure in Ukraine will end, but until it does, just remember that geopolitical turmoil invariably favors the Midas metal.

Recession worries…

“I’m hearing more and more talk on cable news that a recession is around the corner. How worried should I be?” Sally M.

Economic growth in the U.S. and around the world is slowing, as the conflict in Eastern Europe, rising interest rates, soaring inflation, and supply chain disruptions take their toll. That said, many analysts (I’m among them) don’t foresee two consecutive quarters of negative growth, which is the general definition of a recession.

Let’s look at the positives. In the U.S., employment growth has been robust. Many companies are getting squeezed by higher labor and input costs, but consumers remain in the mood to spend. Households and corporations are sitting on ample cash reserves. The global growth engine of China is picking up again, in the wake of Beijing’s recent reduction of interest rates and removal of pandemic lockdowns.

Can the Federal Reserve fight inflation without crashing the economy? That remains to be seen. But if you’re properly diversified, stick to your long-range goals and ride out the current bout of turbulence.

Our flagship publication, Personal Finance, recommends the following allocations: 40% stocks, 25% hedges (such as gold and other precious metals), 25% cash, and 10% bonds. Tweak these percentages, according to your stage of life and tolerance for risk.

We define “hedges” as precious metals, real estate investment trusts (REITs), and commodities, among other investment classes.

Fundamental versus technical…

“What’s the difference between technical and fundamental traders, and which approach is best?” Larry K.

Fundamental traders and analysts subscribe to the investing philosophy that a stock price’s worth is tied to the underlying metrics of the company, the company’s sector, and the broader economy.

Technical traders and analysts act according to the theory that everything you need to know about a particular stock is priced into that stock, and the vicissitudes of the price are more revealing about the future price than the underlying business and economic fundamentals. I prefer a hybrid model that combines both approaches.

Vexxed by the VIX…

“Wall Street pundits note that Vanguard index funds aren’t influenced by the VIX index. Are ETFs influenced by the VIX? Are both influenced by algorithms and program trading?” Grant P.

The vast majority of put and call index options that comprise the CBOE Volatility Index (VIX) are traded by institutional investors as insurance against a stock market crash. Consequently, the VIX tends to overstate downside risk during a correction and overstate optimism during a bull market.

Indirectly, both the VIX and most exchange-traded funds (ETFs) are influenced by algorithms, since selling begets more selling due to the triggering of stop-loss orders. Short sellers pile on and program trading by index ETFs must mimic the weighting of the index, which is constantly changing.

Keep in mind, the VIX is a measure of fear in the stock market. But it’s a poor predictor of the market’s future direction.

The Chicago Board Options Exchange created the VIX as a gauge of “implied volatility” in the market. It’s based on the amount of trading in near-term put and call options on the S&P 500 index.

The VIX rises when demand for put options outweighs demand for calls. Put options increase in value when the S&P 500 declines in value. The VIX falls when demand for call options outstrips demand for puts. Call options increase in value when the index goes higher.

The VIX is not a leading indicator, as many investors mistakenly believe. The VIX measures current market fear, of which there has been plenty in recent days.

Whither inflation?

“We’re witnessing the worst inflation in 40 years. Will it get worse before it gets better?” —James F.

The “transitory” school of thought about inflation has been proven wrong. Inflation has been “stickier” than Fed Chair Jerome Powell and other policymakers predicted. In this regard, U.S. Treasury Secretary Janet Yellen recently performed a mea culpa on Capitol Hill (for which she was pilloried by the opposition party).

Read This Story: How to Keep a Cool Head Over Hot CPI Data

That said, I share the view of many optimists who believe that supply chain imbalances caused by the Russia-Ukraine war and the pandemic will eventually get sorted out and inflation will start to ease by the end of 2022 or in early 2023. Inflation remains a serious threat, but by the same token, I don’t expect the occurrence of worse scenarios (e.g., hyper-inflation or stagflation).

Investors that are hedged against inflation are in a much better position to survive it. That’s why you need the advice provided by our premium trading service the Weekly Cash Machine, helmed by my colleague, Dr. Joe Duarte.

Dr. Duarte’s inflation-proof income summit is “on air” now. You don’t want to miss his latest investment insights. He’ll show you, step-by-step, how to make money while simultaneously keeping inflation at bay. Click here to secure your spot.

Questions or comments? Drop me a line:

John Persinos is the editorial director of Investing Daily.

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