Gold prices tumbled 6 percent after hitting a new record in late April. Investors who sense trouble ahead expect gold prices to surge higher. But other precious metals are poised to rise if the recovery strengthens.
Gold has been one of the shiniest of investments in the past year. Up more than 30 percent, the precious metal reached a record $1,565.60 an ounce. Then last week, gold prices tumbled 6 percent, before stabilizing around $1,500 an ounce.
So is it time to buy gold before it starts another climb? That depends on what your outlook is.
If you believe that America's easy money policy will lead inevitably to high inflation – and that the Federal Reserve can do nothing to control it – then gold is a good hedge against inflation. If you think that Congress and the White House won't control spending and that US debt will continue to spiral out of control, then gold is a good way to protect against long-term decline in the value of the dollar.
IN PICTURES: Gold's journey
"Investors are concerned about the long-term purchasing power of the US dollar," says Axel Merk, president of Merk Investments, which owns some gold and manages $650 million from Palo Alto, Calif. "The fear is the US budget is not on a sustainable path and our policymakers are not taking it seriously enough."
Of course, too much pessimism can create its own market bubbles. Some analysts believe gold itself has become overvalued, driven by too much fear. Last week's sell-off could be evidence that many investors agree. Is it time to move into more optimistic investments, such as stocks or even other precious metals?
The fundamentals "justify the high price of gold," wrote Scott Anderson, senior economist at Wells Fargo Securities, in a report in late April before the latest decline. The headline to his research: "Gold not in bubble territory … yet." Although inflation is not a major economic worry yet, Mr. Anderson thinks it's "creeping higher and higher." In addition, he's concerned that reducing the soaring US government debt and deficit may entail "significant sacrifices that many Americans may be loath to endure."
Although many mainstream economists and investment professionals have long been doubtful about gold as an investment, the 2-1/2 year rise in gold prices, combined with concerns about inflation, are prompting some nontraditional buyers to invest. For example, John Paulson, a hedge fund manager who made billions in the collapse of the financial markets, decided to buy gold last year, writes Gregory Zuckerman, author of "The Greatest Trade Ever," a description of Mr. Paulson's winning strategy during the housing crisis.
Paulson has decided his next moneymaking enterprise is to bet against the US dollar, according to Mr. Zuckerman's book. Paulson calculated the supply of dollars had expanded by 120 percent over several months following efforts to prevent an economic depression, a move that he argues will lead to massive inflation and makes gold's prospects exciting.
Some mutual funds are also starting to add gold to their investments. And so are individual investors, especially as it has become easier to buy gold-related products with new financial products. Exchange traded funds (ETFs), for example, are traded on the exchanges but buy gold bars and let investors own a share without worrying about vaults and insurance.
Research shows that a portfolio with 5 to 15 percent invested in precious metals can reduce risk, says Fred Jheon, managing director of US product and business development at ETF Securities in New York, which offers ETFs and related products in precious metals, currencies, and commodities. Investors "are now starting to realize that adding an element of precious metals into their portfolios helps to diversify their portfolios."
However, some economists are not so certain gold is the best investment – especially at current prices.
"Gold is the investment for people who have lost hope in everything else and are not thinking about what they are investing in," says Robert Brusca of Fact & Opinion Economics in New York. He argues that if the Federal Reserve sees inflation picking up, it will raise interest rates. "Higher interest rates are like antimatter for gold," he says, since gold pays no interest.