Is it time to buy gold?
The price of gold has been a source of angst in recent years. After getting up to US$1,900/oz in 2011, it has more recently fallen to around US$1,200/oz. This decline, combined with a resurgence of volatility in financial markets, has prompted discussion on whether gold now presents as an attractive investment.
A lot of the discussion is from technical analysts commenting on things like support and resistance levels, and what the charts might be telling us about future prices. In a way that’s understandable, since gold generates no income and is therefore intractable to fundamental valuation analysis. If the fundamental analysts have nothing helpful to say, then there is more room for the chartists.
Some commentators do frame their opinion in terms of a cause and effect rationale such as supply and demand, but to me these arguments are uniformly unconvincing. With few industrial uses and almost all the gold ever mined now sitting in vaults, how on earth do you work out a demand curve?
At the end of the day, it seems to me that if an asset doesn’t have an intrinsic value that can be sensibly estimated, then the market can’t be expected to gently push the price towards that value over time. Instead, the price can be whatever it wants to be, for as long as it wants to be.
As value investors who like to buy when asset prices are below intrinsic value, this presents a conundrum for us, but there is an easy answer: move along and look at something else.
By all means buy gold as an alternative way to store wealth, or for romantic reasons, or because you just like its shiny, heavy expensiveness. Just be wary of thinking you’re doing it as an investment.
Tim joined Montgomery in July 2012 and is a senior member of the investment team. Prior to this, Tim was an Executive Director in the corporate advisory division of Gresham Partners, where he worked for 17 years. Tim focuses on quant investing and market-neutral strategies.
This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.
John Emmi
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The money printing by central banks that has gone on over the past 7yrs or so is enormous. This has shown up in asset prices, but inflation is also generally higher than reported.
This printing is a huge experiment. And while the world seems to ignore any inflation consequences at the moment, let’s see what’s happens down the track.
Gold has been a store of wealth for thousands of years. Sure it’s price has been tossed around by the futures and derivatives markets, but the physical market has been quite strong.
Roger Montgomery
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Warren Buffett’s take on gold in his 2011 shareholder letter was insightful. He referred to Gold as an “unproductive asset” that “will never produce anything, but are purchased in the buyer’s hope that someone else will pay more for them in the future.”
He expanded by noting that owners of assets like gold are inspired by “the belief that others will desire it even more avidly in the future.”
By definition, this is of course speculation.
Buffett noted two major insurmountable shortcomings. He said it wasn’t of much use and it doesn’t produce anything.
It’s value rises and falls based purely on what someone else is willing to pay for it, not based on its ability to generate income for its owner.
Here’s an excerpt from the letter:
“Today the world’s gold stock is about 170,000 metric tons. If all of this gold were melded together, it would form a cube of about 68 feet per side. (Picture it fitting comfortably within a baseball infield.) At $1,127 per ounce, its value would be about $9.6 trillion. Call this cube pile A.
Let’s now create a pile B costing an equal amount. For that, we could buy all U.S. cropland (400 million acres with output of about $200 billion annually), plus 16 ExxonMobil’s (the world’s most profitable company, one earning more than $40 billion annually). After these purchases, we would have about $1 trillion left over for walking-around money (no sense feeling strapped after this buying binge). Can you imagine an investor with $9.6 trillion selecting pile A over pile B?
“you can fondle it, but it won’t respond”
There will be inevitable periods where gold’s price heads for the stars. This will of course embolden those who speculate on gold’s price to deem themselves right. But no sooner will they be awarding themselves ‘seer’ status, the price will plummet again.
A.Somner
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Gold is an element that evokes so much interest and hype. Gold is simply a commodity and it’s price will rise and fall with all other commodities. The whole commodity sector is very cyclical in nature and must be looked at from a long term historical perspective. Thier have been commodity peaks in 1812, 1863, 1919, 1942 and 1980. The element to these peaks that needs to be observed is that at the end of a commodity cycle you get a phase transition where the price will double in a short period of time. Such as gold in november 1979 ($400) to Jan 1980 ($800 +). We have not seen this blow off in commodities and are clearly not going to see it any time soon. The whole commodity sector is in a bear market and is approaching the marginal cost of production, just look at iron ore. Would you buy iron ore right now? Money is now flowing into bonds, stocks and real estate with commodities the odd man out. Dont believe all the hype surrounding gold. It has never been a hedge against inflation. Gold declined for 19yrs from 1980 to 1999. There were periods of inflation then and money was still fiat. The time to buy gold will be when we have the reverse of a blow off phase, capitulation. We have not seen that yet. We need gold miners to start going broke to help with supply. We will also need to see the capital flows into bonds reverse. Money needs to be flowing into the sector. It simply is not yet. So is now a good time to buy gold ? Not yet!
LUCAS
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Look, I know you are going to hate gold because you’re pro fiat etc.
But really – sincerely, look at what backs up the paper promises of the FIAT systems.
It is only with an UNBACKED paper currency that the gigantic losses and credit booms can come true, and these unaffordable and wasteful programs are distributed unobtrusively through the economy, to the barely literate population. 80% of people have never checked their credit score.
The economy is a sum of its transactions. Credit expansion based on a fractional reserve system is complicated. Effectively, you know that the pump can be primed to expand aggregate demand. IT’s what every Keynesian monetary policy thinker wants to do.
The default setting is growth for every policymaker, because the alternative is destabilizing. Only in non resource based commodity systems can credit growth be exponential. It brings forward aggregate demand. It means that people can overconsume. Where do you think the money goes on “write downs”?
You may hate gold, but there’s just as much reason to back gold, which sits in vaults, and has notes issued on it, as there is to hate the artificial fiat note.
At least with Gold you have something tangible. You can blame Friedman for this, making the USD the crutch that everyone leaned upon turning off GOLD as the extinguisher of debt.
Debt is the road to neo-serfdom.You cannot just issue more gold, but you can always issue more debt.
Of course our economies are now choking on debt –
http://www.theage.com.au/comment/if-we-are-so-wealthy-why-are-we-in-so-much-debt-20141005-10qg24.html
I know why we are in so much debt, because people are able to create unlimited credit as long as money still has volatility and transactions still go on in the economy.
The problem is credit expansion in a non fiat based currency paradigm. And BitCoin isn’t a solution, because bitcoin can be extinguished.
Michael Shapiro
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From my point of view charts are always useful especially for the short term trading. With gold, even more so in the absence of fundamentals as you mentioned. However, a more useful analysis of gold comes from analyzing the reasons why investors buy gold and why they sell. Since gold generates no cash flow, apart from few savvy investors who know how to sell covered call options on futures, then it stands to reason that holding gold incurs no opportunity cost when interest rates are low or near zero. Looking at where we are in the cycle, if interest rates indeed start going up and keep going up for a number of years, then the reasons to hold gold will become less and less. The chart might suggest a temporary rise, but fundamentally if we are at the end of a multi year easing cycle, then gold has further to fall.