Thursday, April 11, 2013

Gold: The Fallen Courtesan of the Financial Markets

I have written several posts over the last few years about the investment merits of gold.

Although I believe I understand the gold bugs' position, I still believe that gold comes up short as a long-term asset class for most investors.

Gold has no practical uses, for one - its value lies solely in the eye of the beholder.  You can't take your gold bar to the grocery store, or to buy real estate, unless the seller is willing to accept it as payment.  Gold offers investors no dividends, so other than the psychic pleasure that one might derive from caressing a gold bar there is little appeal.

Stocks of viable companies, on the other hand, at least give investors the hope of increasing their wealth as companies grow.  I don't know what the world will look like in 10 years, but odds are pretty high that the world's economies will continue to grow, as they have done for the past few centuries.

Periodically, however, gold prices spike higher, which then leads to another round of discussion about the investment merits of gold.

This was the situation in February 2012, when I attended a debate on the investment merits of gold at the Boston Security Analysts society.

Here's an excerpt from what I wrote:

Yesterday the Boston Security Analysts Society held a luncheon presentation on investing in gold.
The title of the talk was "Bull vs. Bear - Gold".  Eric Biegelesisen from Windhaven Investment Management presented the bull case for gold investing, while Edward Chancellor from institutional investment manager GMO presented the bear case.

It was a very informative session, with both Eric and Ed presenting very coherent and thoughtful remarks on their particular point of view.  What I thought I would share today are some of the highlights of the hour-long presentation...

 Ed - who is the author of several books, and writes a regular column for the Financial Times - had a line that I thought was great:

"Gold is the courtesan of the financial markets - it is all things to all people. Concerned about central banks and the fallibility of paper currencies? Gold is the answer. Worried about holding value? Gold to the rescue.  Inflation? Gold again. Think the stock market is vulnerable?  Gold can help.  But can it honestly be all of this to all people?"

Finally, Ed cited a study by Goldman Sachs that studied the price of gold going back to 1265 using the U.K. pound sterling.  In this work, on a inflation-adjusted basis, gold has been at this level only twice in the last 800 years.  Buying gold today - at the wrong price, in Ed's opinion - means you might have to wait several hundred years to achieve a satisfactory return.

The audience was largely unmoved by Ed's remarks. The tone of the questions ranged from skeptical to almost hostile, mostly directed at Ed.  The group yesterday takes their gold views seriously, and don't want to be told that they are being swept up in an unsustainable bubble.

But I must confess that I was more convinced by Ed's comments than Eric's.  Gold might be an interesting trade, but the widespread enthusiasm for the metal makes me nervous.

I was also struck by Ed's aside that most people today are buying gold through the Gold ETF.  If one is truly concerned about government interference in the private markets, suggested Ed, what makes one think that the convertability of a gold ETF into the bullion would be allowed by governments if there truly was a moment of crisis?

So it was with interest that I saw this article in this morning's New York Times.  Here's an excerpt:

Gold, pride of Croesus and store of wealth since time immemorial, has turned out to be a very bad investment of late. A mere two years after its price raced to a nominal high, gold is sinking — fast. Its price has fallen 17 percent since late 2011. Wednesday was another bad day for gold: the price of bullion dropped $28 to $1,558 an ounce. 

It is a remarkable turnabout for an investment that many have long regarded as one of the safest of all. The decline has been so swift that some Wall Street analysts are declaring the end of a golden age of gold. The stakes are high: the last time the metal went through a patch like this, in the 1980s, its price took 30 years to recover. 

For now, at least, the gold bugs have been silenced.