This is the fourth in a series of what some may consider as “gold bashing” articles. I am not short gold in any shape or form. I have no axe to grind against gold bugs. I am simply presenting the other side of the argument in response to what I deem to be dishonest, gold-pimping commercials (e.g., “If gold prices went up to $5,000 this pile of gold would be worth $300,000”) that we are subjected to all day long on TV. I may be wrong, but I am honest.
Inflation is a possible but not a guaranteed outcome of what is taking place in the economy today. Deflation or a muddle-through economy with very low nominal growth are possible and probable outcomes. We are seeing signs that point away from inflation: the money supply declined at a 12% annualized rate over the past four weeks, according to David Rosenberg of Gluskin Sheff.
Though gold bugs argue that gold will perform well in either an inflationary or deflationary scenario, history doesn’t support that conclusion. Gold has done well in inflationary environments but not during deflation or low nominal economic growth. In the 1970s, when inflation in the US was raging, gold performed better than any other asset class (though remember, at the time gold had no competition in the inflation trade, no TIPS, or ETFs that long other commodities, short US Treasuries etc..). However, one had to know exactly when to get on and off the gold bus. If gold was bought after considerable appreciation, that investment/speculation resulted in losses. Gold has more than doubled in price since 2005, but has it already priced in future inflation? I have no idea; you cannot value it.
Vitaliy N. Katsenelson, CFA, is a portfolio manager/director of research at Investment Management Associates in Denver, Colo. He is the author of "Active Value Investing: Making Money in Range-Bound Markets" (Wiley 2007). To receive Vitaliy's future articles by email, click here.