The Price of Gold and the US Dollar
The Price of Gold in light of US Dollar
In the wake of the G20 meeting ending in Seoul, Korea, the US Dollar (USD) has been strengthening on the heels of international complaint about US foreign exchange policy. The magnitude of the downside move in the value of the USD is staggering. It is unsurprising the USD found some reasons to rally while the price of gold finally broke from it\’s one-way rally and sold off. What is more surprising is that it took so long to happen.
I\’ve occasionally sounded the trumpet about the price of gold and the price of silver being in a bubble. It\’s not always the case that a bubble is a bad thing. Price bubbles can really lift the value of commodities and could help stimulate the domestic economy. Arguably the Fed is trying to encourage limited bubble behavior with their current monetary stimulus program. However the gold and silver price bubble may not be as impressive when considered in real USD terms.
Let\’s do some math:
Worldwide annual gold production is somewhere in the neighborhood of 50 million troy ounces. Let\’s assume, for the sake of argument that all the gold available was produced in the last 20 years. This is not true, but is makes our assumptions a bit easier and prior to 20 years ago, the annual production of gold was likely not the same as it is today. So assume the worldwide availability of gold is 1 billion troy ounces. Now at $1370/ounce, that seems like a lot: $1,370,000,000,000 or $1.37 trillion dollars. While more than $1 trillion is a lot of dollars, it\’s really less than what the Fed did to try and stimulate the economy at the end of 2008 and early 2009. That total was $1.7 trillion.
However we\’re looking for relative values to inform the magnitude of this move. We want to know if a 20% rise in the price of gold, from $1150/ounce in August 2010 to roughly $1370/ounce in November 2010 is a big move. The 20% increase in the price of gold represents a gain of approximately $230 billion.
Over the same time frame, the US Dollar, as measured by the DXY Dollar index, has declined in value by approximately 8.5%. While measuring the total number of dollars in existence in the world is a difficult request, reasonable estimates put the number at $12-$20 trillion. For the sake of our argument, let\’s call it $15 trillion. An 8.5% decline in an asset with the notional value of $15 trillion dollars represents almost $1.3 trillion of lost dollars. That some of those dollars were turned into gold is not surprising, although perhaps the insistent tone of some market commentators, myself included would lead you to believe otherwise. The size of the magnification effect is interesting and could be important going forward.
Gold has not been the only asset that people were buying as they watched $1.3 trillion of wealth disappear. There are certainly other assets that have strong appeal for investors. Silver has seen a smaller dollar per ounce rise than gold, but a much larger percentage increase. Even with the seemingly endless rally in the price of gold, there have been people willing to sell their gold, or get outright short at these prices. For all the buyers that have been in the market, there have been slightly fewer sellers, but sellers nonetheless. It\’s important to remember that markets don\’t operate in a vacuum. Always try to make the decision that is best for your needs and don\’t let yourself be swayed because the talking heads on TV are trying to breathlessly tell you about how the rally in gold will never end. All rallies end. Better to sell now, and miss another $20/ounce to the upside than wait and sell as the market is screaming back to earth.
Christian Koch is the VP of Market Research and Product Development for Buy N Sell Gold. Check out the Buy N Sell Gold Blog and Buy N Sell Gold.
No related posts.
Related posts brought to you by Yet Another Related Posts Plugin.