By Arunima Sodhani
You could take all the gold thats ever been mined, and it would fill a cube 67 feet in each direction. For what thats worth at current gold prices, you could buy all not some all of the farmland in the United States. Plus, you could buy 10 Exxon Mobils, plus have $1 trillion of walking-around money. Or you could have a big cube of metal. Which would you take? Which is going to produce more value? This is what investment mogul Warren Buffet had to say about gold as an investment avenue in 2010.
It is said that that commodity trades work on the greater fool theory. People buy at high prices only in hopes of being able to sell at even higher prices to someone who is willing to pay enough. Thats the catch. The commodity is worth only what someone else is willing to pay for it. This is how a bubble is created. The initial demand-price hike ignites the fire until a point comes when the value of the commodity crashes. The tulip mania, the dotcom bubble, the 2008 real estate bubble burst are all testimony to this theory and they point towards an impending gold crash.
The markets have been bullish on gold for over a decade now with a 550% rise in price in the past 12 years. In times of crises and currency devaluations, worried investors flock towards gold, viewing it as a safe haven, a hedge against inflation. Even central banks have an insatiable thirst for storing in their vaults the yellow metal. But that is all gold does- it sits in a vault. Any commodity which doesnt have the capacity of generating returns while the investor owns it, has value only at the time when it is sold. This is one of the major drawbacks of gold- the incapacity of earning dividends, earning interest and providing a steady income, as opposed to equity or mutual fund investments. Gold is profitable as a short term investment, but its not a very clever long term bet.
The phenomenal increase in gold price since the 2008 financial crisis is indicative of the fact that gold is overvalued, and is only providing a consolation when investor confidence in equity and debt market instruments is low. When gold prices go up, the gain is nominal rather than an increase in purchasing power, due to a proportionate devaluation in currency. In times of stable economic growth gold loses its lustre as investment in equity starts giving greater returns.
Over the past year, in India gold has given returns of 6% whereas BSE has risen 9.2% and investments in mid cap stocks have given returns of 8.3%, even though economic growth has only been modest, to say the least. It is a myth that gold is the safest investment, because at the end of the day it is any other commodity riding the wave of optimistic investor sentiment. But when the markets reach a saturation point, the bubble will burst, like any other investment bubble, inducing gold prices to spiral downwards leading to losses of unimaginable magnitudes.