You might be interested to get into gold trading, sell some of the gold jewelries you own or just wondering if the current gold price is too high. Here is a short article that could help you make up your mind on whether gold is properly priced or not…
Typically to tell if the price of commodity (like copper, aluminum, oil or corn) will go up or down, you look at the total available inventory and compare it to the demand. For instance you would come up with a measure such as “there is 4.6 months’ worth of copper demand available in inventory around the world” and compare that to historical level. If the current value you find is low compare to historical prices you would assume prices will go up, and inversely. This is what commodity analyst at Goldman Sachs or JP Morgan do on daily basis to come up with commodity price forecasts.
For gold this does not seem to work at all: most of the gold in the world is actually held in inventory (i.e. Fort Knox, Federal Reserve) and the size of this inventory is much higher than demand which would tend to indicate that the price should be super low, but it's clearly not the case. The analysis I’m describing above does not seem to make sense. somehow, gold seems to be treated more like an investment product rather than a commodity; some people say gold is an asset class in itself. This is very much aligned with the popularity of gold ETF over the last few years. But now, if you want to look at gold prices from an investor stand point you would try to understand how much returns it generates, at least that’s probably what a guy like Warren Buffet would do. But gold does not generate nor produce any returns in itself (like a company would do) so Buffet's wisdom can’t really be applied here.
We are pretty much left to use some form of technical analysis. So what I suggest to compare the ratio of the price of gold to some other commodity prices and investments. If the price of gold is consistently high relative to those you could argue that the current level is too high or inversely, that it is low. So let’s check out some key ratios (Not here that I use monthly average gold price (GOLD) rather than the daily gold price series (FRED_GOLDAMGBD228NLBM) to remove the unwanted daily price volatility):
Gold prices compare to oil prices (GP GOLD / POILWTI): The current value is around 18 while the historical average is around 15
Gold prices compare to stock market level (GP GOLD / FRED_SP500): Current value and historical value around 1.1
Gold prices compare to metal index (GP GOLD / PMETA): Current value at 8.2 with an average around 6
Gold prices compare to silver prices (CMP GOLD / SILVER): Current and historical value pretty close
Or you can compare all of those together:
As far as it goes: Gold seems expensive for two of our four indicator and neutral to the others
Over the last 25 years: Gold seems cheap compare to three of our indicators and expensive to the other one
Over the last 10 years: Gold is expensive in three cases and cheap in one
The OpenDataDepot engine allows you to run more ratios and analysis (check historical distribution for instance or correlation analysis) but we already have a lot information. On an historical basis, when compare to other investments we observe that current gold prices appears to be on the high side. But note that with the significant market volatility we have seen over the last years this could change very quickly, make sure to come back an re-run the analysis to see where things stand.
I’ll talk more about gold price in future postings!