Thursday, June 18, 2009
In the Seeking Alpha discussion earlier today (see previous post), I mentioned that I thought gold was trading at a significant premium. I guessed that the mean-reverting value of gold today was about $500, but in updating this chart I realized now that $450 sounds better (and that is the average real price on this chart). Regardless, I think the chart makes it obvious that when you adjust for inflation, which gold seeks to offset, you are paying a pretty high price relative to the historical average.
When money is easy, it finds its way into the gold market and gold prices rise. Gold is an advance indicator of official inflation. Jude Wanniski argued that gold was a real-time indicator of the true inflation rate. Either way, rising gold prices are the market's way of saying that there is an imbalance between the supply of and the demand for money, and that imbalance is undermining the value of the currency. The market is aware of the inflation problem, and so you need to pay a premium to hedge that problem with gold. Gold is expensive today, and it doesn't pay interest. So even if you know for sure that inflation is going up, it is not obvious that gold is a good investment. For gold to rise the inflation problem has to be worse than what the market already thinks it is.
Posted by Scott Grannis at 11:35 AM