Opportunities & Threats in Gold & Oil Investments - Research Paper Example

?Investment Analysis – Opportunities & Threats in Gold & Oil Investments Introduction With the ever increasing uncertainties regarding the overall global economic and fiscal outlook, the investment strategies have also experienced some major changes. It is actually belief and confidence of the people that changes as the time and situation changes. As a result, the real value of the investment changes with the perception of the people (Blume, 1970). The real worth or substance remains the same, however, the other party to the transaction perceives it to be either on a higher side, lower side or at a stable level. In short, the substance of the investment remains the same but what actually changes is the worth of that investment in the eyes of other person as per his/her perception, belief and confidence. The change in the perception of the people leads to the change in the worth of the investment as a result the investors actually face a risk that their investments can experience significant fluctuations associated with the unpredictable behavior of the people. Over the years, there have been different patterns and trends that represent the psyche of the people regarding the riskiness of different types of investments. From bonds to stocks, commodities to metals, currencies to real estates, each different class has different sorts of risks associated with it. The risk appetite of individual investors also varies which in turn contributes significantly in the variation of the values of the investments (Fabozzi, Gupta & Markowitz, 2002). The above mentioned asset classes can be broadly split into two categories namely as paper money investment and real substance based investment. For instance, currencies, bonds, stocks are considered as paper money as the investor ultimately do not acquire a physical substance or matter when he or she purchases investment. For example, by buying some shares of a company cannot actually allow a common stockholder towards entitling a specific asset of the company. Similarly the bonds or other paper money instruments do not allow entitlement to the investors on a particular asset of the issuer of that instrument. On the other hand, the non-paper money instruments provide a possession of the investment in the form of goods, property or any other physical substance. The term “physical delivery” for these kinds of investments is vastly associated as they entitle the investor for the taking the actual physical delivery of the form of their goods (Shefrin & Statman, 2000). For instance, in case of metals, gold, silver or platinum, the physical delivery is possible and the investor can keep the possession of the metals with himself. Similarly, in case of real estate property, the investor can actually take the possession of a particular property after transferring the property documents. The above two categories of investments have some specific risks associated with them due to which the non-paper money based investments are considered as safe heavens for the investors as the investor enjoys the possession of those investments and later on can make the use of those goods for his/her personal needs unlike paper money investments which are intended to be returned to other investors or the issuers of those investments because they cannot be used for personal needs. On the basis of usage or consumption as well as holding the possession of those investments, this particular assignment deals with the opportunities and threats that rest with the investments that are movable in nature (FinanceSpain, 2012). Particularly the investment in gold and oil are highlighted in the discussion. Gold is a precious metal which is the most highly recognized and consumed metal especially used in the jewelry and ornaments. Oil is the commodity which is used as an energy resource for varieties of different purposes. Both of these investment classes have distinct opportunities and threats which are discussed separately in further sections. The first section emphasizes on the opportunities and threats pertaining to gold followed by the other section which elaborates the opportunities and threats that lie with the oil. Gold Gold is the most commonly used metal various different purposes among which the jewelry and investment purposes are more famous. The history of gold in terms of investment strategy has come into lime light after the recession of 1991 when people realize the worth of gold in true manner as every other investment experienced significant downfalls but gold stood still rather even on a highly stable side (West, 2011). The perception of the people regarding the inclusion of gold in their investment portfolio is quite firm and stable such that it is assumed that it is the only asset class which can last for many years coming up. The past records are also evident of this fact as the gold prices have never seen substantial downfall over a longer period of time. There were times when the gold prices remained stagnant for a while but even those locked periods were proved to be temporary and once again gold prices climbed higher and did not look behind. Opportunities Jewelry Purpose The biggest opportunity for investing in gold is the widespread purpose which is jewelry. In case if the prices of the gold are not in a favorable position and they experience a slump, it may alternatively be used as jewelry which is the basic purpose of this metal. Therefore, gold provides an opportunity to its investors to use it for jewelry purpose till the time the desired price of gold is achieved and the investment can be realized with healthy return. Non-Perishing Nature of the Material Gold is that metal which comes under the head of commodities in investment management jargon. However, being a metal, this asset class does not perish with the period of time and the physical outlook and the matter does not change even after longer periods. This property of gold makes it more viable for the investors to be interested for the inclusion of gold in their investment portfolio. Hedge against Inflation Inflation is the most disturbing element for every other individual as the amount of expenditures increases at a greater rate than the resources. However, the gold provides an opportunity to the investors to protect their savings from the inflation by keeping them in the form of gold. Over a century, it has been experienced that gold has always showed tremendous consistent growth in its prices, therefore, the best hedging strategy suggested by analysts is to use gold for the investment purpose in order to combat the risk associated with inflation. Change in Demographic Factors With the changes in the demographic factors including higher population rate, income levels, social status and lifestyles, there is likelihood that the demand for gold may increase with the passage of time. Gold has been a precious and most commonly used metal for jewelry purpose therefore there are strong chances in future that leads towards increase in the gold prices as a result of increase in demand. Threats Slow growth in Populated and Developing Economies China and India are considered as the largest buyers of gold which influence the gold price mechanism substantially. After 2008 recession, the gold prices have remained consistent as well as increasing but with the dangers of double dip recession in 2011, global economies especially Chinese and Indian economies seem to struggle which has lead towards tumbling gold prices (The RIC Report, 2012). Over next few years, the growth progress of both these economies would need to be kept in focus especially in order to take a timely decision for the investment in gold. Price Bubble Every asset class has been affected by severe price bubble bursts which has eradicated substantial amount of people’s savings. Gold has not seen such bubble burst up till now but now the gold prices are almost at their all time highest level which is an important area of concern (Incredible Charts, 2012). Nobody can exactly determine as what would be highest level of gold prices and when these prices would gain stability which creates a dilemma in the minds of the investors. In case, if an investment is made at a wrong time, then a longer time period would need to be required in order to regain the desired price level. Therefore, at the time of investment, the element of price bubble must be considered so that the investment should not get stuck in a rather inadequate price zone. Change in the Preference of the People With the invent of new designs and styles of the imitation and artificial jewelry as well as its growing popularity, people are trying to use this kind of jewelry in place of gold. As this jewelry is affordable as compared to gold, therefore people are more prone towards using the imitation jewelry which in the longer run can deteriorate the demand for gold as a result there are chances that gold price might start struggling. Therefore, the fashion trends and related dynamics need to be especially focused as the prices might be reduced with the decrease in demand. Different Time Horizon It is strongly perceived that the investment in gold remains beneficial only for longer investment time horizon. To some extent, it is true as people have generated huge amount of returns in past decades. But in the past few years, the gold prices have increased so sharply, as they have reduced the chances to earn some returns in terms of both short term and long term time horizons. Specifically, the short term investment purpose of gold can simply be unrealistic strategy under the given price behavior of gold. So, if the investment is to be made for a period of, let’s say, 5 years or more, then it seems a better strategy to invest in gold. But for a period of less than 5 years, it would be a risky strategy to keep the majority portion of the savings in the form of gold as there are very rare chances for gold to earn healthy returns in shorter span of time. Oil With the ever increasing energy requirement for the industrial purpose as well as household purpose, oil has turned out to be one of the promising energy resources that are being used as a primary energy resource. Generally as part of the investment strategy, oil is collaborated with gas. Normally there are different investment strategies for oil which includes either directly investing in oil futures or indirectly investing in the stocks of oil companies which include oil exploration, refineries or marketing companies. So it is up to the personal interest of the investor to adopt a particular investment area. However, it is noted that basically it is a demand for oil that really sets up the prices of oil and demand is mainly dependent upon the economic growth and development of the countries (Stafford & Faber, 2012). Opportunities Consistent increase in the demand The all time increase in the population and more industrialization, the demand for oil is on an increasing trend on a consistent basis. Therefore, in the near future and in 5 years time horizon, the investment in the oil sector can become worthy such that the demand for oil is likely to increase more with the passage of time. Non-Commonality of the Renewable Energy Resources It is evident from the recent development and practices that, still the use of renewable energy resources in industrial processes as well as for household purposes is quite uncommon and will remain uncommon in the near future due to high cost (West, 2011). So besides having great developments in discovering and innovating new renewable energy resources, a lot of work is yet to be done as well as too much time is required to put those resources in the common use. This indirectly keeps alive the demand of oil in the future and until the new energy resources do not become common, the demand for oil will remain steady or even can increase which is in fact a better opportunity for the interested oil investors. Exploration of New Oil Reserves In the year 2007, new oil fields were explored in the South America especially in Brazil which is another positive attempt towards facilitating the supply and production of oil. Due to these explorations, there is likelihood that the equilibrium in the demand and supply of oil production will remain steady in the longer run and there are good enough chances for the investors to figure out oil as a bright investment area (West, 2011). Threats International Relations The biggest threat in the oil industry is the nature of the relations between the oil producing countries. In recent past, significant amount of tension occurred between Iran and other powers including United States and European Union, due to which the supply of oil got deeply affected and the prices rose quite high (The RIC Report, 2012). So at the time of making investment in oil sector, it is quite essential to figure out the international relations between the countries especially the oil producing ones in order to assess the future outlook of this area of investment. Dangers to Environment The increasing consumption of the oil is hurting the environment badly and it is a great hurdle towards the sustainability of the fossil fuels which is an alarming sign. Therefore, the demand and supply mechanism of oil can be seriously disturbed if the countries or other environmental groups might begin to increase their campaigns against the oil production and consumption (Stafford & Faber, 2012). Therefore, this is a threat which can substantially impact upon the oil investment strategy of the potential investors. Likelihood of Double Dip Recession After 2008 recession, there were hopes that the global economy would bounce back but even after spending around 4 years to that recessionary period, the global economy is still at a struggling stage due to which the threats regarding the future of oil prices are still in place (The RIC Report, 2012). With low confidence levels on the global economic position, the oil prices tend to behave in a shaky manner and therefore the investment strategies might be hampered with the slow progress of the global economy. Conclusion There are different kinds of opportunities and threats that lie with both gold and oil which put investors into a dilemma as to whether it would be beneficial for them to make investment in these particular classes of investment. These investment classes are also a bit risky as they do not provide specific series of cash flows unlike stocks and bonds which provide dividend and interest payments respectively. Therefore, the only possibility of earning some returns for these asset classes is the price appreciation which makes these asset classes quite risky (Incredible Charts, 2012). However, if the past trends of these asset classes are observed especially for the gold sector, it can be observed that most of the times the prices of gold have remained stable and did not get affected by the prevailing threats. But on the other hand, oil has shown massive fluctuations in terms of its price movements mainly due to the reasons of international relations among the oil producing countries as well as the reluctance of oil importing countries in the times of economic depression (The RIC Report, 2012). References Blume, M. E. (1970). Portfolio Theory: A Step toward Its Practical Application. The Journal of Business,43(2), pp. 152-173. Fabozzi, F. J., Gupta, F. & Markowit, H. M. (2002).The Legacy ofModern Portfolio Theory. The Journal of Investing, pp. 7-22. FinanceSpain. (2012). Turmoil in the Middle East - oil, inflation, gold. Retrieved from http://financespain.com/content/readMore2/complexInfobox/blog/infobox/posts/template/default/active_id/39 Incredible Charts. (2012). The Gold-Oil Ratio. Retrieved from http://www.incrediblecharts.com/economy/gold_oil_ratio.php Markowitz, H. (1991). Foundations of Portfolio Theory. Journal of Finance, 46, pp. 469-477. Shefrin, H. & Statman, M. (2000). Behavioral Portfolio Theory. Journal of Financial and Quantitative Analysis, 35(2), pp. 127-151. Stafford, J. (Interviewer) & Faber, M. (Interviewee). (2012). Investors Should Avoid Oil and Alternatives – An Interview With Dr. Marc Faber [Interview Transcript]. Retrieved from http://lewrockwell.com/faber/faber129.html The RIC Report. (2012). The opportunities and threats of 2012. Retrieved from http://wealthmanagement.ml.com/publish/mkt/pdfs/The_RIC_YEAR_AHEAD.pdf West, J. (2011). Top 3 Investment Threats and Opportunities for 2011. Retrieved from http://www.financialsense.com/contributors/james-west/top-3-investment-threats-and-opportunities-for-2011 Read More