The price of gold is a bubble, and there's part of me that doesn't understand how this is even a debate. I think the following chart goes a long way toward backing up that story.
Source: Kitco, inflationdata.com, and Yahoo! Finance.
In the chart above, we have the indexed performance of four things: the Dow Jones (INDEX: ^DJI) and the Nasdaq during the dot-com bubble, oil prices running up to 2008, and gold from 2001 to today. To put some numbers to it, the average annual closing price of the Nasdaq as of March 2000 had grown 22.5% per year over the previous decade. As of today, gold prices have returned roughly 21% per year over the past decade.
I don't think we'd have much trouble labeling the three things we're looking back on in retrospect "bubbles." They rose sharply over a prolonged period of time, ran up to lofty prices that made little logical sense, and then crashed.
Why is it so hard, then, to recognize that gold is a bubble?
Sizing it up
An interesting point jumped out at me in an article that my fellow Fool Adam Crawford posted last week. He noted that Barrick Gold's (NYSE: ABX) chairman and founder, Peter Munk, argued against the "gold bubble" theory by highlighting the fact that other commodities have risen by similar amounts. Here's what Munk said in Barrick's annual report:
"[T]he ascent of gold since 2001 has been steady, measured, and rational. What's more, when compared to other commodities such as copper and oil, gold prices have not appreciated disproportionately."
I found this a particularly interesting argument because I had done some work last year stacking up gold prices against certain commodities and what Munk said sounded, well, wrong. Obviously, it was high time to break out my spreadsheets and update my numbers.
Here are the same charts I presented previously, updated with more recent data.
Source: Kitco, National Cotton Council of America, U.S. Department of Agriculture, University of Wisconsin-Madison, U.S. Department of the Interior, metalprices.com.
With the exception of my new, fancy-pants formatting, the charts above look very similar to the way they looked like the last time I ran them. In other words, far from being reasonably priced as compared to other commodities, in the case of many commodities, the gold price ratio is at its highest level ever. Or at least back to the 1970s, which is where my dataset starts.
Now I don't want to be unfair to Mr. Munk. He highlighted two commodities in particular in his statement -- oil and copper -- and I haven't shown either one. Here's how they look.
Source: Kitco, inflationdata.com, U.S. Geological Survey, Southern Copper annual report, metalprices.com.
These charts look much more favorable for Munk's point, and even more so back in 2010 when he penned his letter for the annual report. However, we need to be careful when looking at any one commodity. After all, concluding that gold was underpriced in 2008 simply because the gold/oil price ratio looked favorable to gold would have been troublesome, since the ratio was low because oil was bubblicious.
Similarly, I think we're better served by looking at a broad range of commodities in comparison to gold, rather than cherry-picking just a couple that serve the purpose of proving a point. On that note, not shown here, the gold/iron ore ratio is currently low, but its price ratios to wheat, aluminum, nickel, and cattle are all at very high, if not historic, levels.
The problem with being a gold bear
Bubbles don't have appointment books. They don't schedule when they're going to start, hit highs, or start rapidly deflating. The fuel of a bubble is irrational optimism and speculation, and those are ingredients that can burn hotter than thermite and melt even the savviest bears in its path.
So I'm sorry to those who would encourage me to "put my money where my mouth is," but I have a firm rule of not stepping in front of charging freight trains.
What I am doing though is steering well clear. Miss Cleo hasn't told me when the price of gold will become reacquainted with reality, but when it does it won't be good news for gold miners like Barrick and Yamana Gold (NYSE: AUY). It will be even less cheery for nonmining gold investments like Sprott Physical Gold Trust (NYSE: PHYS).
So in my portfolio I'm sticking to reasonably priced stocks of companies that aren't selling an overpriced nonindustrial metal. This includes companies such as Johnson & Johnson (NYSE: JNJ) and Waste Management (NYSE: WM), which provide essential products and services that are in demand year after year after year.
Looking for more stocks that have nothing to do with yellow metal? Click here to grab a free copy of The Motley Fool's special report "13 High-Yielding Stocks to Buy Today."
