Investing in Precious Metals

Looking at precious and not so precious metals is an important step in diversifying your holdings.

Commodity prices are driving higher and higher as more funds add raw materials to their portfolios. Based on the outlook for raw materials and the need for diversification of portfolios after equities and bonds returns decreased, the investment in metals and other raw materials is part of a strategy. Should you attempt the same thing or is it too late?

Unlike equities and bonds, higher interest rates negatively affect the returns from commodity futures. Equities and bonds give income payments through dividend payments or coupons which are better than returns on cash. Commodity futures contracts, on the other hand, provide a negative yield because they provide no income payments.

The influx of money has pushed prices higher than they usually would be, creating a speculative bubble that could burst at any time. This price volatility and risk is especially hard on smaller future contracts which trigger large price falls when funds are withdrawn. Higher prices for basic commodities like gold and silver correspond to higher interest rates which increase the cost of holding commodities.

Base metal prices have risen. The price of copper on the London Metal Exchange was $1,550 per metric ton at the beginning of 2003. In 2004, it rose to $2,350 per metric ton and the beginning of 2005, saw the price at $3,400 per metric ton. Aluminum rose from $1,600 per metric ton in 2004 to $2,000 per metric ton in 2005.

Short term speculative gains for the main metals (especially copper, lead, tin, and nickel) are good because the exchange stocks have declined. The declined stock price suggest that future spikes are imminent which is why short term investments as opposed to long term look good.

This is not a worldwide condition. For example, aluminum stocks are low in the US and north Europe, but supply has outgrown the demand in Asia thanks to Chinese expansion and development. In Asia, exchange stocks of aluminum are going up and physical premiums have gone down. Copper inventories, on the other hand, are not at risk of supply disruption. This means that the price has risen which has decreased the demand in Europe, US, and China.

What does this mean? Some think that a short term investment in a precious metal will be profitable, a medium term investment may or may not be, and long term probably won

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