“Let me just get this straight. You’re going to wait until the price goes up high enough, and then you’re going to buy!”
Mike knows me well. We’ve been mates since we were knee-high to a grasshopper. He knows the quivering lip and sickly look on my face if I feel I’m overpaying.
So the strategy I explained to him on Friday night not only goes against common sense, but against my character.
And the trade I was explaining ditches the ‘buy low sell high’ mantra and replaces it with ‘buy high, buy higher and buy higher still’. Mike was perplexed.
But if you’ve been following my gold strategy, you’ll have an idea we’re I’m going with this. You’ll know that we’re nearing a critical stage in the plan. If you haven’t got in yet, I don’t think it’s too late. I reckon there’s mileage in this gold play…
Time to place the next bet
In mid June, gold was trading at $1,230 and I outlined my strategy of how to play gold’s long-term bull market.
And if you missed it, don’t worry. If, like me, you believe we’re still in the throws of a long-term bull market in gold, you can buy at today’s price and follow the same strategy.
But if you’re already in and you’ve been waiting patiently for the next stage, then it looks like we’re pretty close now. After a relatively quiet summer, gold has finally broken through the key $1,300 level and has been testing $1,320.
The strategy is to open a new position each time gold moves up $100. So it’s time to get ready to open your next position when she hits $1,330.
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Why wait until it’s more expensive?
As Mike points out, it seems ridiculous to wait for something to get dear and then buy. Would you do that with anything else? But there’s method in this madness. And the point is, the original position has now gained equity (or profit, call it what you like).
If you’re playing this with a spread-bet, you can now use the equity from the opening trade to finance your next trade.
If you opened with a £10 a point bet, at $1,230, you’ll be sitting on a £1,000 paper profit if and when the price reaches $1,330 (that’s £10 multiplied by the 100 point increase in the gold price).
For ease, I’ve simplified the figures, but bear in mind you’ll have to absorb costs of rolling the bet over, putting in place a guaranteed stop loss and the implied interest rate (on your leveraged position). These costs tend to be pretty small, but it’s worth checking them out with the spread-betting firm first.
Now when the price hits $1,330 you’ll place the next up-bet at £10 per point.
And if this trade does well, then we’ll continue to build, the next stage being $1,430. It’s a pyramid and with spread betting, it’s based on leverage. If this sounds dangerous, it’s because it can be. Be under no illusion, you can lose more than your whole stake.
But done carefully, you can build a large position without ever having to top up your spread betting account. Of course, we need the bull to keep on running…
A pyramid has to be constructed perfectly
We’re ten years into the great gold bull market. And right now everything is shaping up nicely to keep this bull steaming ahead…
But as Mike pointed out, if gold is cheap and it’s in a bull market “why don’t you just load up now?… why keep waiting as it gets dearer and dearer?”
It’s a good question.
The problem is that you can’t short cut the construction of a pyramid.
First we have to build the base layer. And that takes time. It’s been three months since I outlined the strategy and only now are we getting ready to start construction on the second layer. But it’s vital to have that base layer of equity.
Why?… Because no market moves up (or down) in a straight line. That’s why we need some equity to keep us in the black when the inevitable pullbacks come.
Shortcutting the strategy and going straight into a big position will leave your pyramid unstable. What happens when the price slides fifty dollars? Do you have enough equity in the position so that you don’t get closed out?
It won’t help you that gold continues it’s upward march if you’ve been ‘shaken out’ of your position.
I prefer to take the tortoise approach. I’ll use leverage to get out-sized returns and not undue risk.
• This article was first published in the free investment email The Right side. Sign up to The Right Side here.
PS This is definitely not a strategy for widows and orphans. What I’m talking about here is high risk, high reward. You can win big time, but you risk your stake, so please don’t put down more than you can afford to lose.
Spread betting is not suitable for everyone – ensure you fully understand the risks involved and never risk more than you can afford to lose. Spread betting carries a high level of risk to your capital. Prices can move rapidly against you and resulting losses may be more than your original stake or deposit. Margin amounts vary between spread betting companies and the type of markets spread bet. Commissions, fees and other charges can reduce returns from investments. Tax treatment depends on individual circumstances and may be subject to change in the future. Your capital is at risk when you invest in shares – you can lose some or all of your money, so never risk more than you can afford to lose. Always seek personal advice if you are unsure about the suitability of any investment. The FSA does not regulate certain activities. This includes the buying and selling of commodities such as gold. Please note that there will be no follow up to recommendations in The Right Side.
Managing Editor: Theo Casey. The Right Side is issued by MoneyWeek Ltd. MoneyWeek Ltd is authorised and regulated by the Financial Services Authority. FSA No 509798.
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