Wednesday, November 3, 2010

Gold’s Amazing Decade

Over the past decade, the price of gold has risen from about US$270 to US$1358 per ounce. This is a staggering average compound gain of 17.5% per year. Human nature compels us to imagine this trend continuing, but such high prices should make us wary, not bullish.

If we cast our view back to before the most recent decade, gold actually lost value. For the 20 years ending 10 years ago, gold lost an average of 4% per year! This isn’t an after-inflation figure. If we take into account inflation, gold lost much more value than this.

The tough thing about valuing gold is that it has almost no inherent value. Stocks correspond to businesses that have profits, losses, and dividends. We can at least measure the price of stocks relative to the earnings of these businesses. In the case of gold, how do we measure value?

Of course, currencies have a similar problem. Why do we value dollars? The short answer is that governments act in a manner designed to stabilize the value of currencies.

Between the current high price of gold and a lack of confidence in the desire of world powers to maintain the value of gold, I’m not interested in it as an investment.

5 comments:

  1. Over the long sweep of history, gold has returned 0% - not a great investment.

    The only benefit I see to holding gold is it is a good hedge against inflation and it has a low correlation with other asset classes. So owning some gold likely won't make you rich, but it might help some people sleep better at night.

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  2. @Blitzer: I assume you a referring to the real return (after inflation) of gold over the long term being 0%. I guess if you factor in the cost of paying people to guard the gold and the losses when the guards fail to do their jobs perfectly, the return would be slightly negative.

    Owning some gold wouldn't help me sleep better at night, but to each his own.

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  3. The 10-year price history perfectly explains why investors are interested in gold now. It's gone up in price! It's hard to say how much crazier things can get but I think it is safe to say the trend won't go on indefinitely.

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  4. How much has the US dollar lost in value over the same time period? With governments around the world debasing their fiat currencies, I'm more than happy to hold 5-10% of gold in my portfolio...

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  5. @Anonymous: The figures I quoted were for gold measured in US dollars. This means that when gold lost 4% per year for 20 years, it actually lost more in real terms due to inflation. So whatever inflation was for those 20 years, gold lost considerably more than the US dollar lost.

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