Putting Your Cash To Use: Be A Gold Bug And Clear Debts

Global stock markets have been whitewashed over the past month, Dow Jones fell to its lowest level in 6 years this week, and gold has charged to a record high $1,007 as investors seek to preserve capital.

Granted that Obama’s administration has been hard at work – a $787 billion economic stimulus was signed into law Tuesday and a $75 billion foreclosure prevention plan was unveiled to aid distressed homeowners and revive the housing market. However, there is little confidence that these measures will be effective.

It didn’t help the fragile investment community that Treasury Secretary Tim Geithner’s much anticipated bank bailout plan fell flat on its face due to its lack of details. So far, notable “contributions” from Geithner has been to test Obama’s damage control ability with his tax evasion and currency manipulation remarks about China.

Geithner has another mammoth task on his platter sitting on the committee to reform the automakers. The endless black hole coming from General Motors and Chrysler is troubling. Both companies had the audacity to ask for $21.6 billion in addition to the $17.4 billion in government assistance already doled out.

But we are getting ahead of ourselves. Let’s just focus on the details of the bad bank concept. While waiting anxiously for Geithner’s grand financial plan, calls for nationalization of banks has gained such a strong following that it is virtually guaranteed (despite Obama’s insistence to the contrary) that shareholders will be wiped out while bondholders are eventually paid pennies on the dollar.

Then, we have Allen Stanford’s $8 billion Ponzi scheme which rubbed salt into the wounds of rattled investors. Clearly, devious elements in financial institutions have not been fully weeded out. When you see a rat in the kitchen, surely, there will be many others lurking.

Who else has been running Ponzi schemes, good old Madoff has shown that it is perfectly possible to keep investors happy with no investments for 13 years, except robbing Peter to pay Paul. And if this financial crisis has not erupted, I believe his investors may just enjoy another uninterrupted 13 years of solid returns.

The numbers for other major economies are not inspiring either, and I meant it as an understatement. Japan’s economy contracted at its quickest pace in 35 years and G7 finance ministers warned the global slump will drag on through 2009. Europe’s services and manufacturing also shrank at record pace while Eastern Europe, once among the world’s fastest growing region, is staring at a severe economic shakeout.

Not surprisingly, gold is the flavor of the month – it is the best asset class besides cash. Its run-up from $771 last month to breach a major resistance at $930 and then closing over $1000 this week is clear evidence that many investors are turning into gold bugs.

Putting Your Cash To Use: Be A Gold Bug And Clear Debts

Since January, if you have invested in gold and reduced your portfolio’s exposure to stocks and bonds, you will have clawed back substantial losses and maybe breakeven. In the short term, I am not sure if the uptrend will fizzle out, as the momentum over the last couple of days has been so powerful, and any readjustments from profit taking is normal.

In the long term, the fundamentals could not be better for gold. Many nations are diluting their currencies in bailout, easing of credit crunch, and economic stimulus to avoid further deterioration in their domestic markets. Inflation will certainly come back with a bang, thanks to all these newly minted paper money.

With no bottom in sight for the global stock markets, except for Shanghai benchmark, and deflation looming, (someone please prepare the helicopter, the time for Ben Bernanke to take to the sky and start dropping money has come), it is safer to conserve cash.

Alternatively, if you are sitting on too much cash and not being in a hurry to invest in stocks or being a gold bug, I will suggest you tackle debts aggressively, especially credit card debts. Assuming a standard 24% interest rates on credit card debts, eliminating this debt is equivalent to achieving a 24% return per annum on your cashflow.

In a deflation, prices fall across the board (a boon for consumers), but those who are debt laden will suffer tremendously. The same $1000 debt is now being paid with increasingly valuable cash. Hence, debts are onerous in a deflation.

However, you don’t have to give up your credit cards altogether. They offer superior protection against dishonest or faulty transactions, especially when you are a fanatic online shopper. There are also attractive rebates and rewards available. Here are some tips to help you to eradicate irresponsible credit card habits.

1. Limit usage to your credit card. The only way to extricate yourself from a hole is to stop digging deeper.

2. Pay debts off from smallest to biggest. This snowball method is advocated by Dave Ramsey (check out The Total Money Makeover Workbook for useful financial worksheets) where you throw all your bullets at the smallest debts and build up the momentum. Clearing one or two quick debts keeps you motivated rather than whittling down a huge debt which you are not able to make headway in the short term.

3. Increase your credit card minimum payments, if you are not able to make the full payment. To ensure you are able to cough out the requisite amount, create a monthly budget to keep your expenses in check.

4. Make one-time payments when you receive extra money. You should direct lottery winnings or earnings from overtime/part time work directly to your credit card debts. Every penny adds up and you don’t have to worry about fighting temptations to spend the idle money in your bank account.

If you want to be debt-free, it is necessary to make sacrifices for a period of time and scrape every penny to repay outstanding debts.

Once you paid off your credit card debts, consider living on a cash basis and building up an emergency fund to sustain at least five or six months of expenses. It will definitely come in handy if we go into a Depression and more layoffs ensue.

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6 Comments

Filed under Banking, Deflation, Economy, Stocks, bonds, credit cards, gold

6 Responses to Putting Your Cash To Use: Be A Gold Bug And Clear Debts

  1. HPX

    Great advice for anyone with too much credit on their cards. Where I come from, paying with credit is considered pretty stupid – I do not nor will I ever own a credit card. I mean – anyone who understands what interest rate means should realize that it is in the end a bitter loss of money you could otherwise have spent.

    HPXs last blog post..Nourel Roubini is mentally incoherent

  2. I agree with being clear of personal debt and building up a stash of cash to see you through challenges. I have never bought gold and wouldn’t now but at least see the arguments now as more reasonable (at least if you have very large amounts of money to put some in gold may make sense). The global economy is certain deteriorating and scary. I am still optimistic by the end of this year we will see positive signs but I am getting less optimistic.

    And the huge problems we have seen for years of the USA spending far beyond its means continue to dig us deeper and deeper into a hole. The long term problems are not much different today than 3 years ago. But it seems many more people are focused on those problems today. The immediate economic problems are much more obvious today than 3 years ago.

    John @ Curious Cat Investing Blogs last blog post..Volcker: Economic Decline Faster Now Than Any Time He Remembers

  3. Gold is a good investment but since the prices have gone up for last few years be carefull. The price of gold has been up and down even with everything that is going on. Etf funds hold alot of gold so they keep price higher just like the oil funds did.

    Best etf funds lists last blog post..Gold double long etf.

  4. @ HPX -

    Glad to know you abhor the use of credit cards. You are not beholden to the terms and conditions of the lenders, especially during this credit crunch, when they pile on the misery by raising interest rates at their whims and fancies.

    However, I won’t say credit cards should be avoided totally. They offer protection in the form of charge-backs for fraudulent transactions as compared to cash. There are also attractive rebates and discounts.

    Main thing is not to roll over the debts. Settle them in full every month.

  5. @ John -

    Yes, clearing up debts and setting up emergency funds will be critical in a deflation.

    It is a pity you have not bought gold. It is a good hedge against inflation and deflation, and you don’t need to invest too much at one go. My strategy is to accumulated it slowly anyway.

    I don’t know if the global economy will turn around at the end of this year. In the short term, the situation is definitely getting worse. The era of excessive spending based on debts is over as Obama commits to reducing the deficit drastically.

    There will be years of slow growth in its place but the financial prudence will be good for future generations.

  6. @ Best etf funds list -

    Gold has gone through massive gyrations over the last year but if you are buying on the dips, it will be a good investment in this uncertain time.

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