Friday, May 9, 2008

As Good As Gold

Yours truly has been too busy to wander in this realm for a while. Truth be told, my company actually bans posting on blogs. To comply, I've honored that code of conduct by bolting the door to this domain during my work hours. Unfortunately, when I was home I watched FoxNews until I was spent. That's just how my life has been lately. One pleasant surprise about my new job is that I have an Indian co-worker ,whose talent ought to be utilized in the financial sector rather than in the engineering industry, and I've learned a thing or two from him about the financial market. Being away for a few weeks, I would like to contribute my newly acquired market insight on how to maneuver through the current market uncertainty.

Ready for the crap?

Gold, the ever desirable, has always been the symbol of value, love, and standard. If you happened to invest in gold as recent as two years ago, please pat yourself on the back for doubling your investment, on paper. Look at the gold price now:it is $870 per ounce as the market closed this afternoon. Too high to buy? Let's look closely and from a slightly different angle. The following is the gold price history over the past 10 years:

In May 2001, one ounce of gold cost you around $300. 300 bucks!! In May 2008, one ounce of gold cost you around $870, 870 bucks!!

Kicking yourself for not jumping into the golden pool 7 years ago?

Well, assuming that you are one of those euro carriers, have you also made a killing by investing in gold? In May 2001, one euro was worth about $0.87; today one euro is worth about $1.50. To make it easier for my loyal readers, I'm doing the math for you. Back in May 2001, one ounce of gold would cost you 344 euro, while in May 2008, one ounce of gold would cost you 580 euro. That's a 68% increase. Comparing to the 190% increase in dollars, it does raise an eyebrow on how much more valuable gold really is today.

Or can we say if the value of gold has been steady, the currency we use, either euro or dollar, have become so inflated that they are quite hopeless in terms of face value? You might think yours truly is an alarmist who sexes up the inflation number to scare you. Isn't 2-3% annual inflation what we've heard?

Think again.

Today US government is reporting inflation 8% lower than the way it was calculated back in 1980. Back in the early 1980’s inflation was raging at a clip of over 14%. The Feds had to raise interest rates dramatically to prevent hyperinflation and to support the US dollar. This era was when 16-18% mortgage interest rates existed. Fed Chairman Paul Volcker was able to finally tame the inflation beast and interest rates fell dramatically, making it possible for the US economy to begin to grow. Late in the 1980’s, the US decided that one way to prevent run away inflation expectations from growing was to modify the way inflation is calculated; hedonic adjustments to inflation was born. The following graph shows the disparity between the two different inflation calculations:

We have seen oil go from a low of $20 per barrel in 2002 to $120 today, with very little increase in reported inflation despite the rather large component the cost of energy plays in the US. Understanding inflation is actually quite inflationary. By the US reporting inflation significantly below the actual inflation rate, it allows the Feds to cut interest rates far lower than where they should be. In a way it was designed to stimulate the market.

How much is gold's real value now? If we look at the oil price hike, it should give us some idea, roughly. As uncertain as the current market is, the wisdom of the old sounds pretty good to me. As good as gold, if I'm going to bet my money I'm going to put it on gold.


Mrs Robb's Classroom said...

Privileged to be the first one to comment! I guess?
How's going? Everything settled down so far? Life is Ok down here. And I am already expecting the summer vacation, losing counts how many times we have spent the money George gave us. Hahaha.
Nothing much on TV currently, other than watching Hill talking about the assassination of RFK and the empty suit of BHO.
I think our great grand uncle John is getting more and more comfortable with the Campaign, yet I am worried about the congress.
Boy will I sacrifice my husband so that we don't have to see Pelosi and Reid on TV EVA!
Enjoy the summer and hopefully Court TV will bbroadcast live the trial filed against Algore by John Coleman.

WalkingGeek said...

Hint of Summer is finally here in the northeast, have fun!

Love your new blog style; it's very easy to read.