The Great Gold Debate

Gold stocks as a group have surged 51% over the past year. But will the growth continue?

Since President Nixon took the United States off the gold standard in August 1971, the price of gold has grown at a nominal annualized rate of roughly 7.9% per year. Not bad, but not great, either, when compared to the performance of blue-chip stocks like Procter & Gamble or Altria, which have returned 13.1% and 19.3%, respectively, over the same period.

Over the past two years, however, gold prices have handily outpaced the growth of the S&P 500. The streetTracksGold Shares (NYSE:GLD) ETF, for instance, which roughly tracks the price of gold, grew 62.8% from November 2004 to its high in May 2006. On the other hand, in the past two months, gold prices have reversed sharply, and the streetTracks ETF lost 20% of its value. Talk about volatility.

One of the drivers of gold's extraordinary growth over the past few years has been the weakness of the U.S. dollar. Yes, you heard me correctly -- the decline of the good ol' greenback.

By now you've most likely read that the United States has an expanding international trade deficit, which causes the value of the dollar to decline. So what does this have to do with gold? Quite a lot, actually. Throughout the world, gold is priced in U.S. dollars, so when the dollar weakens relative to, let's say the British pound, investors holding pounds can purchase more gold for less money. This process consequently drives the price of gold upward.

Of course, a weak dollar is one of many factors affecting the price of gold. Other factors that have historically influenced the price of gold include inflation and concerns about economic or geopolitical catastrophe.

Eureka !
Judging from the majority of "outperform" opinions, investors participating in the Motley Fool CAPS beta service are largely bullish on both the future of gold prices, as well as gold mining and distribution companies.

Fools' gold debate
CAPS investors have offered numerous bull opinions supporting these stocks. CAPS investor lookingbeyond99, for instance, thinks Goldcorp will continue to grow:

If you believe gold is going higher as I do this is a good pick to move with it. Solid fundamentals and good management. This pick should perform well for the immediate and longer term.

Or consider the counterpoint of an investor we'll call OracleofOmaha:

[Gold] gets dug out of the ground in Africa, or someplace. Then we melt it down, dig another hole, bury it again and pay people to stand around guarding it. It has no utility. Anyone watching from Mars would be scratching their head.

OK, so Warren Buffett isn't a member of our CAPS database . that we know of . yet. But he did actually say that at a conference at Harvard in 1998, and there are plenty of others taking up his bearish case against gold.

If you submit your thoughts on gold stocks, or any other stock for that matter, you'll join thousands of other active participants and have access to the CAPS database, which tracks the picks of Wall Street houses such as Caris & Co. and Merrill Lynch.

What side are you on?
Do you think gold prices will recover from their recent dip? Or will they further regress to the historical average?

Short-term swings in the price of gold, or in any security for that matter, are extremely hard to predict, but both are crucial questions for gold investors to consider. Weigh in with your opinion by following this link to Motley Fool CAPS (free registration required).

Fool editor Todd Wenning does not own shares of any company mentioned. Check out his CAPS page here. The Fool's disclosure policy is a gold standard.