News / Commodities
An ounce of gold (chemical symbol Au, from its Latin name aurum) has jumped roughly 80% to date over the past 3 years. The Dow Jones Industrial Average grew 2% during the same period; the S&P500, shrank 3%. Other than the basic reasoning that gold is a tangible investment, what seems to be the driving forces behind the thinking that this precious metal is a safe haven asset in times of economic turmoil? Here are a couple of essential things that I think everybody should understand: - Gold is a unique commodity because it is one of only a handful of commodities that are being produced for accumulation. All other commodities are produced for consumption. Basically, all of the gold mined throughout history still exists today. Gold’s advantages as a tradable commodity are numerous. Its value cannot be debased by the mere creation out of thin air, as compared to the printing of paper money. Amidst perennial inflation, another important factor in gold’s favor is that it is not contingent upon anyone’s promise. This explains why it is called hard or sound money.
- Back during the gold standard, gold and dollars were interchangeable and essentially the same. In short, the dollar was as good as gold. But the US dollar is finding itself in a deep rut as it is being constantly inflated by newly created dollars that are used to fund the growing budget deficits (soon to come, $700 billion more in “bailout” money). This inflationary process reduces the dollar’s purchasing power. Consequently, more and more people are turning to gold as stable “money.”
- Gold then preserves purchasing power better, but there’s another way to describe this. Instead of viewing gold’s price to be rising, look at it as the purchasing power of the dollar falling.
The US Government will most probably get its hands on the $700 billion bailout package in an attempt to stave off a full-blown recession and a freefall in the markets. What then do we make of investing in gold given the ongoing dollar woes? Obviously, hoarding gold won’t solve the problem. Buying local stocks involved in the extraction of gold won’t cut it either. Instead, treat gold’s price action as an inversely proportional technical indicator of market sentiment towards the U.S. economy. In short, being able to grasp the dynamics in play between gold and the dollar (throw in crude oil, but that would be another story) will help us trade the stock markets better.
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