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Equities, housing, commodities and bonds viewed through
the prism of what money once was...
WHAT WOULD the world look like if, as a handful of
economists, investors and politicians hope, gold really was money again?
In a word, cheap...ish. Cheaper, at least, than much of it
was a decade ago.
Long used (together with silver) as a means of
exchange and unit of account, gold had already lost those functions by the
time it ceased backing the world's currency system in 1971. But gold retains
the third function of money – as a store of value – now beating,
now lagging the unbacked fiat money (i.e. created at will) which replaced it.
Since then, gold's value has also varied more widely
against other, competing stores of wealth as well as cash, amplifying the
swings in its relative worth against equities, real estate, commodities and
government bonds.
Perhaps you've seen the above chart before, for instance.
Simply dividing the Dow Jones Industrial Average by the Dollar-price of gold
per ounce, the Dow/Gold Ratio might sound an arbitrary yard stick. But it
tracks the relative worth of US equities against an increasingly popular, if
still minority store of wealth, gold bullion. Dividends are excluded, leaving
just the market-price – rather than income or earnings potential
– of business assets in the world's largest economy, measured by a lump
of dumb metal.
Why? Because unlike corporate equity, gold doesn't do
much. It can't even rust, much less grow (or shrink) its
return-on-capital-employed. And from the recent low (7.2 ounces per Dow unit,
hit in Feb.2009), US stocks have gained 20% vs. gold. (Priced in nominal
dollars, they've risen 73% in the last two years.) The historic low stands
beneath two ounces of gold, the all-time high above forty. Today, the
Dow/Gold Ratio sits just shy of nine – a little beneath its 12-decade
average of ten.
Note those two lows (or rather, peaks for gold ), hit in
the mid-1930s and early '80s. Because they show up elsewhere, as well.
The average US home – a term so broad,
it's quite possibly worthless beyond the very broadest historical sweep
– has averaged 202 ounces of gold over the last 120 years, at least on
the data we've constructed from a collection of sources to cover more than a
century's worth of different housing, styles, sizes, locations and amenities.
Let's put the methodological doubts to one side, though.
Currently priced around 112 ounces, US housing hasn't been this cheap in
three decades, dropping over 75% from the 2001 high (478 ounces; the 1971
peak was 485 ounces). Returning to the very lowest prices on BullionVault's
series would see residential property lose another third. It hit 77 ounces in
1980, just above the 1934 low of 71 ounces. Whatever the national US housing
stock gained in utility or comfort over that time, in short, unrusting gold
priced it just as lowly amid first a deflationary and then an inflationary
depression.
Commodities are a separate matter. Because they
have never been cheaper in terms of gold, slumping by more than 70% since
2001, even as the much-touted "commodity super-cycle" took energy,
base metal and now food prices to record highs in terms of the Dollar.
Buying commodities in the hope of growing your capital
means you're "selling
human ingenuity" reckons SocGen strategist Dylan Grice, and
(over the last 300-odd years) he's got a point. Because raw materials are
"generally cheaper to produce over time [as] human innovation has
lowered the cost of production." Yet ironically, Grice's point is best
made in gold, that least ingenious, least human of all pricing yard sticks.
Indeed, the difference between gold-priced commodities and gold-priced stocks
or housing is that raw materials failed to surge and recover their previous
highs after the 1970s' bear market. For the last six decades and more, gold
has grown consistently more valuable in terms of the world economy's
natural-resource inputs.
Our chart takes the Reuters-Jefferies CRB index – a
weighted basket of the 19 most heavily traded raw materials, including
aluminum, crude oil, live cattle, orange juice, and gold itself – and
divides it by the Dollar-price of gold. As with housing and stocks, gold's
most dramatic gains and highest valuations came during economic turmoil,
outpacing the price of industrially useful natural resources even amid the
severe cost-inflation of the 1970s as well as during the last four years of
global financial crisis. Further back, once again, the Great Depression also
saw gold's relative worth rise sharply against raw materials, as commodity
prices sank but gold was revalued higher by governments, who – then
tied to its physical limits as money – were desperate to devalue
currency and so reduce debt burdens in a bid to reflate the economy.
Last in our little survey of gold's relative worth,
therefore, come government bonds. There's a problem here, because governments
are constantly paying old and raising new debt, issuing bonds with a vast
range of maturity dates which (unless they default) all revert in the end to
par value, redeeming $100 (or £100, €100 and so forth) for every
$100 originally lent by investors.
A broad price basket is hard to construct, in other words,
with the various indices – such as those offered by S&P and Dow
Jones – also including annual yields to give "total returns",
and only running back a few years at best.
One solution is to weigh gold's total value
against the sum total of debt outstanding – the par value of government
bonds in issue. Data from the International
Monetary Fund, running from 1980, at least enables us to cover the
world's "advanced" economies. And here, based on what we may as
well call the "market capitalization" of gold – and in
contrast to stocks, housing and industrially useful resources –
government debt looks very highly priced, albeit on a mere three-decade
horizon.
All the gold above-ground – swelling to some 165,000
tonnes or more today, and including central-bank reserves and that mass of
jewelry used to store wealth in Asia, as well as the coins and gold bars more
typically favored by Western investors – has been swamped, in terms of
relative value, by advanced-economy government debt. Back in 1980, their
nominal cash values were pretty much identical. Yet the doubling of gold's
Dollar-price from that year's (then) record high, plus the two-thirds
increase in above-ground gold stockpiles over the last 30 years, has still
left the metal worth less than one quarter of what it was at the start of the
'80s in terms of rich-world government debt.
That debt, now 18 times larger in Dollar terms at $36
trillion, has swollen from 25% of those rich-world economies' GDP to more
than 87% of their annual output. There's very much more of it around in 2011
than in 1980. On a relative basis – and given that the par value of
debt outstanding cannot fall without default or "restructuring"
– gold's steady appreciation against equities, US housing and raw
materials has barely begun to play out against government bonds.
Adrian
Ash
Head of Research
Bullionvault.com
You can also Receive
your first gram of Gold free by opening an account with Bullion Vault : Click
here.
City correspondent
for The Daily Reckoning in London, Adrian Ash is head of research at BullionVault.com –
giving you direct access to investment gold, vaulted in Zurich, on $3 spreads
and 0.8% dealing fees.
Please Note: This
article is to inform your thinking, not lead it. Only you can decide the best
place for your money, and any decision you make will put your money at risk.
Information or data included here may have already been overtaken by events
– and must be verified elsewhere – should you choose to act on
it.
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