Wednesday, May 4, 2011

Gold versus Stocks - which is better? Maybe not what you think!

The price of gold, from 2000 to 2011 went from $300 an ounce to $1500 an ounce!  This must mean it is a great investment, right?  Maybe not.

I was thinking some more about Gold today.   I think we are close to the bubble bursting.  People are going back to work, the economy is slowly recovering (I'll take that over the idiotic boom-boom years of the 1990's and 2000's!  We all know how that worked out!).  All of this is bad news for Gold, which as I noted in a previous posting, is bought for emotional reasons, as a "safe haven" in an era when people think currencies will be weak.

But other than a place to "park" money, Gold is not that great deal.  It doesn't earn income.  It doesn't do anything.  It just sits there, and you have to hope that "some greater fool" will buy it from you for a higher price later on - and that that higher price will be more than what you'd get from the stock market.

But is Gold outperforming the stock market?  You might think so, but it all depends on what time periods you are measuring.  Like anything else.

Over the last decade, as the chart above illustrates, the price has gone up, from roughly $300 an ounce to roughly $1500 an ounce, an increase of 400%.  Not bad.

Since 2001, the Dow Jones Industrial Average has fluctuated, going from 10,000 to 14,000 and to about 13,000 today.

During that same period, the Dow Jones Industrial Average has risen maybe 30% - not nearly as much as Gold, right?  But of course, it all depends on when you pick the time period.  And here, I arbitrarily picked a decade.

But suppose we look at 2009-2011?  Things are a little different.  In February 2009, the Dow was at 7000 at its nadir, and has since climbed to 13,000, an increase of 85% - which is pretty staggering for a three-year gain.  In February 2009, however, when the Dow was at its nadir, Gold was trading for about $800 an ounce and today is around $1500 an ounce - and increase of about 87.5%.

In the last three years, since the depth of the recession, Gold has increased in value only about as much as the stock market.  So it has been pretty much a wash.

But that's not all.  The price of Gold is the price of Gold.  If you buy it at market prices and sell it at market prices, you make as much as, or as little as, everyone else (or lose as much as everyone else).

But stocks are not a fungible commodity.  A share of Apple is not the same as a Share of GM.  Some win, some lose, some pay dividends, some do not.  So it is entirely possible that your portfolio of stocks could have done much better than gold, in the last three years.  In fact, much, much better.

And of course, this is not taking into account things like dividends, which Gold does not pay.  If you own dividend paying stocks, you may have cash out from them, above and beyond any increase in share price.

But this analysis illustrates more than anything, the fallacy of looking at price graphs as a means of indicating value.  A chart of the stock market looks GREAT, if it starts in 1930, and leaves out that whole messy 1929 business.  Similarly, Gold charts starting in 2000 or thereabouts look GREAT, until you look at some of the long term trends or take other historic time periods.

For example, look at this chart from the 1970's, showing the runup in Gold prices after President Nixon took us off the Gold standard:

Wow!  Look at how the value of gold shot up to three times its previous value!  Looks very similar to the first chart at the top of the page!  I wonder what happened to the price of Gold after that?

Whoops!  What shoots up, must come down. 

People who bough during the frenzy period of 1980, and paid $500 to $800 an ounce, well they lost their shirts.  And they never saw those prices again until 2005 at the earliest.  Those who bought at $200 to $500 an ounce ended up breaking even, pretty much.  The price remained relatively flat for the next two decades.  Taking into account inflation, this is not a very good return on your investment - not to mention the opportunity cost in all those gains you missed out on that even a simple bond or savings account would have paid.

Will Gold keep going?  To $4000 an ounce, as one "expert" says?  I don't think so.   That would be more than a doubling of the price today, and the price today is far and above the cost of production as it is.

Bubbles burst, that is all there is to it.  The housing market bubble burst in 2009 and in 1989.  The dot com bubble burst in 1995 and will burst again.  Stocks shoot up and then "correct".  And I think Gold will correct, perhaps in 2012, perhaps before.

This is not to say it will go down to zero (like GM stock), only that those who bought in at $1000 and above probably will be feeling some pain.   Just like the housing bubble, housing prices are depressed.  But no one is giving away houses just yet.

(and those stories on CNN about $25,000 Condos are just that - stories.  When the condo fee is $1500 a month because most of the units are empty,  and you can't get financing because 3/4 of the units are foreclosed, yea, a condo is $25,000.  That don't make it a freaking bargain, unless you can tough it out.  And no, you don't want to live on Route 1 in Ft. Lauderdale.  It is pretty ratty there).

For most of the recent history of Gold, however, it has been a crapola investment.  From the burst of the bubble in 1980 until about 2005 (that's 25 whole years!) it stayed relatively FLAT in value, which meant if you bought it in 1980, even after the bubble burst, you got no return on your investment for over a decade.  Some swell investment, eh?

This long-term chart of gold prices from 1975 to present, shows the bubble of 1980 and how FLAT Gold was until about 2005.

We went off the Gold Standard in 1971.  Until then, Gold was $35 an ounce, by law.  And if you wanted to covert your dollars into Gold (if you were a foreign government) you could do so.  France did, and nearly emptied our coffers.  So Nixon took us off the Gold standard.  And in retrospect it was probably the right thing to do.

Prices shot up, of course, from $35 to nearly $200 in 1975, then back down to nearly $100 in 1977.   You could have lost your shirt in Gold, back then, as well.

Once Gold was allowed to float from the $35 an ounce Government mandated price, the price shot up in  1975, then dropped down a bit in 1977 before bubbling in 1980.  Like all commodities, it can be volatile - and trading commodities is not for the faint of heart!

So we start to see a pattern here - a little bubble, a bigger bubble, and then a really, really huge bubble!  And when were those bubbles?  1975, 1980, 2011.  And what happened during those time periods?  The price of gas shot up, the economy sucked, people lost their jobs, and everyone thought "this has to be the end of the world!"

And the size of the bubbles reflects the relative stress  to the economy, too, with 1980 being far worse than 1975.

Today, we have another factor as well - hype.  The odious Glenn Beck and convicted felon "Gee" Gordon Liddy, are on the TeeVee hyping Gold to the faithful.  We also have websites and online conspiracy sites that feed this Gold frenzy.

And the people buying Gold?  Not the brightest bulbs in the chandelier.  I mean, we're talking about people who listen to the odious Glenn Beck and think he makes sense.

And I've met some of these "Gold Bugs", too.  And no, they are not very bright people.  And many of them are not very wealthy.  And when they get stung, well, it will be hard for them.

But on the other hand, it is hard to feel sorry for someone who thinks they can get something-for-nothing.