This article explores whether investing in gold can still be profitable, looking into the history of the metal through the lens of it as an investment vehicle as well as a currency. I wrote this article for Kinesis Money.
Gold has been a valuable asset for thousands of years. Not only is it used as money, but it also helps preserve wealth and protect against the decline in the value of paper currencies. Until 1971, governments and central banks used gold to back their paper currencies.
Before 1971, people could exchange dollars for gold at a fixed rate of $35 per ounce. However, when the United States stopped allowing people to convert dollars into gold, the price of gold was determined by the market. As a result, the price of gold quickly rose.
Gold is a valuable asset for wealth preservation and protection against inflation. In 1971, the price of gold measured in U.S. dollars was $35, and it has since risen to the mid-$1600s. This means that the purchasing power of gold has increased considerably. For example, in 1971 the average price of a home was $25,000, which required 714 ounces of gold to purchase. Now, the average price of a home is $391,000, but it only takes 236 ounces of gold to buy one.
In this example, gold not only appreciated in value compared to the dollar, but it also increased in purchasing power. To determine whether or not gold is a good investment, it is useful to compare its purchasing power to the rate of inflation or the rate of devaluation of fiat currencies.
Between 1971 and now, gold has performed well in both regards. In relation to the M2 measure of the U.S. money supply, gold is currently undervalued. This analysis applies to all major fiat currencies, including the euro, pound, yen, and yuan.
The chart above shows the relationship between the M2 US$ money supply and the price of gold from 1990 to present. At the start of the current bull market in precious metals (2001), the ratio was at its highest point in the last 30 years, indicating that gold was undervalued relative to the money supply.
Since bottoming in 2011, the ratio has been steadily increasing, indicating that the money supply (and therefore inflation) is growing faster than the price of gold. It is my opinion that the current scenario presents a prime time to convert fiat currency into gold and silver for both wealth preservation and as an investment.
The easiest way to invest in gold is through the purchase of shares of gold ETFs, such as the SPDR Gold Shares ETF (GLD). However, while GLD enables you to index the price of gold, it is emphatically not recommended for use as a wealth preservation vehicle. It is also possible to invest in gold is through purchasing sovereign mint bullion products like U.S. gold eagles or silver eagles.
Another good way to invest in physical gold is through precious metals service like Kinesis Money. The advantage is that you can buy at the spot price of gold instead of paying the premium to spot charged by coin dealers. Reputable digital gold services allow you to redeem your investment in the form of the physical gold units fully backing the digital gold held in your account.
The stock market, residential real estate market and bond markets have been inflated into bubbles of historic proportions. The Fed and other central banks created a financial market Frankenstein that is now causing historically high price inflation. It is worth considering alternative investments during times of market bubbles and high price inflation. Some people may look to gold and silver just as an asset for preserving wealth. But currently the precious metals sector is undervalued to such and extreme that gold and silver are also highly prospective as total rate of return investments.