In late 2011, the price of an ounce of gold reached more than $1,800. Since that time, gold has tumbled roughly 37%, resting in the $1,100 to $1,200 per-ounce range for much of this year.
Gold enthusiasts, who love the shiny metal as much for political reasons–like their distrust of fiat money–as they do for its investment potential, have been searching for a story for why it will reach the lofty heights of 2011 once again. The latest narrative, as articulated by managers of commodity funds and other gold buyers in a recent Wall Street Journal article, is that the recent announcement that the economy contracted in the first quarter of this year makes it a great time to get into gold.
Gold Price in US Dollars data by YCharts
The logic is that slower growth in the U.S. Will halt the recent rise of the dollar. A strong dollar is bad for gold, which is priced in dollars. Furthermore, efforts in Japan and Europe to stimulate the economy with massive bond buying programs could, these fund managers argue, stoke inflation, which is often bullish for gold. According to The Journal:
The likelihood of higher interest rates in the U.S. Has been a concern for investors in gold, which doesn’t pay interest or dividends and costs money to hold. But gold buyers say those worries are receding as U.S. Economic growth continues to disappoint. This has led investors to shift their expectations away from rapidly tighter U.S. Monetary policy toward only modest rate increases. Gold should remain competitive with interest-bearing assets in this environment, and could rally if inflation pressures resurface, these traders say.
Once again, the gold bugs have it wrong. First off, investors should not read too much into the recent GDP reading. In 2014, annual GDP contracted by 2.9% in the first quarter, but then it rebounded to achieve the best year of growth since 2010. Meanwhile, other data, like Gross Domestic Income, suggest that the economy actually expanded by as much as a 1.4% on an annual basis in the first quarter. That’s not spectacular growth, but it also doesn’t suggest we’re experiencing a significant slowdown.
Second, QE in the United States hasn’t stoked inflation. That’s because central banks don’t actually increase the money supply when they buy government bonds from banks. It’s up to banks to do that through the lending process. QE nudges them in the direction of money creation, but it can’t make banks actually lend more money.
Third, for many reasons, gold is simply not a great place to park anything but a small portion of your investment portfolio. It pays no dividends or coupons like stocks and bonds. And, more than any other investment, gold is very difficult to value. It’s price rose significantly throughout the 2000s, along with other commodities like oil and copper. Many analysts believe that was tied to exceptional emerging markets growth in places like China. But growth in emerging markets has slowed recently, and the so-called “commodities supercycle” has ended.
By all means, keep a small portion of gold in your portfolio to diversify and to hedge against the worst. But one quarter of contracting GDP is no reason to think gold is heading for the stratosphere.
