March 25, 2005
What is gold really worth today? While the accurate answer simply is whatever someone will pay for it, there are historical measures which indicate that it is seriously undervalued. Could it stay that way? Only if the central bankers are correct in what they tell you about gold and also are correct that economic depression and monetary hyperinflation are things of the past. Even so, the gold market will require ongoing rigging, because there are a great many people around the world who quite simply don't believe the central bankers - and with good reason.
I'm going to go through a quick analysis of the value of gold, one of many ways in which a value can be derived, I might add. It almost certainly will require you to read through it a few times to get the drift, because it is not the point of this article to be an exhaustive treatise on gold or investing, after all. Rather, I wish only to construct an argument for gold being used as a defense against the economic war being waged against us.
By 1945, 63,570 tons of gold had been discovered and mined, worldwide. In 2003, 144,092 tons existed, a 127% increase. Very little gold actually is used industrially or otherwise (as in dental work), unlike so many other precious metals, so most of the gold ever discovered still exists and is sitting in someone's vault.
In 1945, 68% of all gold was in central bank vaults. In 2003, 12% of all gold was in Central Bank vaults.
The total outstanding value of gold outside bank vaults in 2003 was about 100 times the total outstanding value of gold outside bank vaults in 1945.
In 1945, the total money in circulation throughout the world was about $300 billion. In 2003, the total money in circulation throughout the world was about $30 trillion, a one-hundredfold increase, which itself suggests a proper price for gold in the area of $3,500 per ounce (100 x $35).
Expressed as a pro-rata portion of the total money in circulation in 1945, each ounce of gold then in existence accounted for $147.48. Expressed as a pro-rata portion of the total money in circulation in 2003, each and every ounce of gold then in existence accounted for $6,506.26.
Some would call the analysis done at this point and claim that gold is worth between $3,500 and $6,506 per ounce. I am not one of those, some of whom use alternate analyses to derive values of up to $20,000 per ounce.
By the way, some actually suggest that the correct analysis is to divide the total money supply by the number of ounces of gold in central bank vaults, since that represents the extent to which outstanding money is "backed" by gold. In that case, the per-ounce value of gold turns out to be an incredible $54,218.94. However, this neglects to calculate a similar figure for each country with money outstanding, then weight each result appropriately. Some countries, such as America, reportedly have almost no gold left in central bank vaults, though none will allow inspections.
America's Consumer Price Index (CPI) in 1945 was 18. The CPI in 2003 was 183, representing a 10X increase.
America's Gross Domestic Product (GDP) increased by 9X from 1945 to 2003, after adjustment for inflation (CPI).
The world's money supply, expressed in dollars, increased 100X from 1945 to 2003. America's broadest definition of money, M3, increased by about 36X during the same period.
Note that the money supply increased significantly faster than did either GDP or the CPI or, for that matter, America's population, which has doubled.
The Dow increased by 10X during the same period, too.
While American post-WWII productivity increased by about 3X on a per-capita basis, the money supply (M3) increased beyond productivity by a factor of ten, which squares with the CPI increase. When I was a child, those purple first-class postage stamps cost 3 cents, but today they are more than ten times that amount, an external validation of our statistical analysis. I recall today's $1 ice cream cones costing but a nickel a scoop.
In other words, our money has been robbed of 90% of its value in the last fifty years by excessive expansions of the money supply, with most of the loss taking place in just the last 30 years. Meanwhile, the per-capita supply of gold actually has declined by about 40%. What's the problem, you might ask - after all, gold went up from $35 to $330 in the same time period, approximately the amount of inflation. Here's the problem: at both points, the price of gold was being artificially constrained by the central bank, both directly and through its surrogate, the American government.
The real question is what happens to the price of gold if the bank loses control of it and, particularly, if the dollar swoons significantly, as seems to be occurring at the time of this writing.
Yes, this is the way financial analysis is done. Assemble all the relevant statistics, analyze them with statistical devices like regression analysis, adjusting for extraordinary events and external manipulation. Move them around on the table before you, trying the pieces in different positions, like a jigsaw puzzle. Eventually, a picture emerges. Only then is a rationale developed to fit the result that one thereby intuits.
What I have done herein is a very clumsy approximation of that procedure, if indeed it can be dignified with so organized a word as "procedure." Nevertheless, a picture has emerged and I am pretty confident of its parameters.
Clearly, the current price of gold represents about the lowest it ever has been, when adjusted for the various factors we have considered. Therefore, it represents an eminently safe vehicle for getting through the coming economic meltdown. The wild card is its up side, which could be significant. It seems safe to say that gold will see some serious swings, but that they will be upwards and almost certainly never again below the current value.
In Roman times, an ounce of gold could buy you a good suit of clothes, it is said. The same was true in 1929. Today, a good man's suit will cost between $1,000 and $2,000. By the "suit theory" alone, gold has a long way to go.
If gold were to take over the job of money in today's economy, all other things being equal, its value most assuredly would go to somewhere between $6,000 and $10,000 per ounce. However, there are other vehicles of value that would also pick up the slack, such as silver and platinum and backhoes and seed corn and...well, you get the idea. But gold needn't step into the breach; the dollar need merely abdicate its position as the world's reserve currency, as now seems inevitable. Gold will be revalued to the levels that it would assume if it and the other precious metals were the only medium of exchange, even though some form of fiat money inevitably will be thrown into the breach.
I spent a lot of time in my earlier life analyzing stock and bond price movements, then financial statements from both a corporate treasury standpoint and that of a bookkeeper and an auditor. I learned that, like everything else, accounting and finance is an art. I cannot articulate precisely how I calculate the ultimate value for gold that I have, but I feel pretty good about its validity. The danger of exact formulae is in the likelihood of error creeping in. Broad-brush analysis, such as this, keeps the entire forest firmly in view at all times. Yes, I could throw some calculations down here and derive the very numbers I am about to give you, but in honesty that would be contrived. Contrived, that is, as in precisely how financial analysts always have plied their trade.
I believe that gold will spike to as much as 3 or 4 thousand dollars per ounce in terms of today's dollar, no later than 2010 and probably much sooner, then settle in at around $1500, in terms of the dollar's 2005 purchasing power. I see $1000 as the likely bottom of gold's ultimate range, which itself provides a profit potential in excess of 100% over today's price.
A "sanity check" of my valuation can be made by updating the price of gold from some past point in time to today, using something that reflects the general decline in the purchasing power of the dollar. The problem is in getting accurate figures. Roosevelt pegged gold at $35 in the 1930s and kept it there through the end of the war. Many believed that to be a fair price at the time. If so, then simply multiplying $35 by the 36X increase in the M3 money supply yields $1,260 per ounce. Pretty close.
Another "sanity check" can be derived from the price of gold in the mid 1970s, which ranged around $150 per ounce, probably a pretty good free-market-driven price from just prior to the massive inflation of modern times. The Dow-Jones Average bottomed out in 1974 at about 575 and likewise probably was a pretty good derivation of free market forces. Today's Dow is hopelessly bloated by the monetary inflation of the past several years, so cannot be used directly. Fundamentals dictate, via traditional price-earnings ratios, a proper level today for the Dow of about 4,500. This can quickly be calculated simply by dividing the historical "square-up" corporate stock price-earnings ratio of 12 by today's average price-earnings ratio of about 28, then applying the resultant fraction to today's Dow.
Fundamentals, remember, are what square up stocks with other forms of investments. Applying our adjusted increase in the Dow of 683 percent to the 1973 gold price of $150 yields $1,025, a conservative figure in that the earlier period's bottom for the Dow is used in the calculation. Using other Dow figures from the 1970s produce today's gold value as ranging up to around $2,000 per ounce.
Since gold will, as pointed out above, likely spike well above $1,200, if one chose to bail out at, say, $3,000, then real estate likely will be the safest transition investment at that point, particularly if real estate values continue with the very recent deflation which now seems to be taking hold. If the stock market has crashed, as in 1932, then buying a bundle of penny Blue Chips could prove to be very advantageous in the long run. Staying in gold, of course, is the sure bet, just as always.
Is gold safe? You bet. In fact, it looks to be one of the best investments around just now, with silver's fundamentals even better. But the central bankers don't want you to know that.
This becomes even more urgent if one takes the view, as do I, that we have seen America's "last hurrah," with other nations, particularly China, assuming the ascendancy in world financial affairs as we move into the future. Stripped of its value, the dollar likely never will recover. An emergency "escape pod" from the trap that the American economic system is becoming is a necessity today. Gold can serve as that escape pod.
(Excerpted from "Defensive Racism" (ISBN 0-9761259-0-0, ProPer Press, 2004) a book by Edgar J. Steele, who, in a former life, earned a BA in Finance, an MBA in Accounting and worked for a time as a Financial Analyst for a major firm.)
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