For investors who follow the fundamentals, the recent plunge in the gold price is an excellent buying opportunity. And indeed, physical metals purchases have continued to be strong around the world. Of course, when opportunities like this arise, so do the people aiming to take advantage of inexperienced buyers.
If you believe that the price of gold has to rise again, you might be susceptible to the leveraged gold account swindle. This particularly aggressive sales tactic thrives off the belief that the price of gold will continue to go up. While there are very good reasons for making this argument, it doesn’t change the fact that gold can be volatile and so leveraged accounts are rarely a good idea.
Here’s how a leveraged account works:
A buyer will call a dealer to make a purchase of gold coins, say $10K worth. The salesperson learns that the buyer believes the price of gold will go up or else convinces the buyer that this is the case. The buyer is then offered a loan of $40K in order to purchase a total of $50K at the current low price. After all, why risk buying gold at higher prices in the future if the dealer can “help” you to buy it cheaply right now?
A payment plan is set-up, and as the buyer pays more into the leveraged account, more physical gold is supposedly added to the buyer’s “hoard” that is held in a secure location. The buyer does not receive the gold until the full loan and all associated fees and interest have been paid.
If the price of gold continues to rise, the buyer might very well be able to afford the fees and interest of the loan while also making a profit. However, if gold drops below the price to which the leveraged account is pinned, then the buyer has to make a “margin call.” Basically, the buyer has to hand over more money to make up for the now over-valued gold that is being held in the buyer’s name.
Not only will the buyer get dinged with a margin call if the gold price drops below the price at which the account began, but the fees and interest can border on criminal. First of all, there will likely be a commission paid on the full sale of $50K. If it’s “just 2%,” that actually equates to 10% of the initial $10K down payment!
And then there’s the interest on the outstanding loan. If the buyer is paying 8% on $40K, that totals $3,200 in the first year. So in the very first year of opening a leveraged account, this particular buyer has already lost 42% of the initial $10K and doesn’t even physically possess any gold!
Add onto this transaction fees, storage fees, delivery fees, leasing fees, administration fees… well, you get the point. It is very hard to get ahead with a leveraged gold account.
There’s one last problem with a leveraged account and that’s the fact that you aren’t actually gaining possession of any gold. It could take years to pay off the loan, and during that time you won’t get a single glimpse of “your gold,” let alone hold it in your hands. This defeats perhaps the most important reason for owning physical precious metals in the first place: having real money on hand in case of financial crises.
To be fair, buying physical gold through a leveraged account is not illegal, however, pushy salespeople will often play down the grave risks and play up the potential rewards of this investment strategy.
For the rest of us, owning gold is about reducing risk. The best way to do that is to buy what we can afford a little at a time and store it safely away for the future.
