Indeed, gold has once again become a highly appreciated asset class, particularly over the past few months. Its price has even reached a record level of more than US$4,000 per ounce. Here is the progression of its price over the past 50 years (on a logarithmic scale):
I have never been an expert on gold, and I must admit that I have never really understood why many investors consider it an asset class.
But would an investor have been right to hold gold over the past 50 years? The answer is “yes, but.” Someone who bought gold in 1975 would have paid about US$140 per ounce, and their compounded annual return would have been 7%. If I say “yes, but,” it is because I am always hesitant to make such calculations when the price of an asset has risen so much in recent months. If I had made the same calculation two years ago, gold’s compounded annual return would have been 6%.
Are these good returns? A return of 7% (or 6%) would have largely outpaced inflation. According to Bloomberg, the average inflation rate was 3.7% from 1975 to today, with significantly higher rates during the 1970s and early 1980s. In this sense, gold has more than fulfilled its role as a hedge against inflation.
But would an investor have done better by investing in the stock market over the same period?
Someone who invested in the S&P 500 Index (in U.S. dollars) in 1975 would have obtained a compounded annual return of 12.5%, including dividends (the same caveat as above applies — the index has appreciated significantly in recent months).
As Marks writes, “How do you put a value on an asset that will never throw off cash?” Indeed, the intrinsic value of a financial asset — whether an apartment building, a company, or a bond — depends on the cash flows that asset will generate over its economic life. The only way to value gold (or a painting or collectible) is to try to determine what someone else will be willing to pay for it in the future.
Marks adds: “If assets produce cash flow, that gives them value, and it's reasonable to believe that eventually their prices will move in the direction of that value. They aren't required to do so in any particular time frame, but that expectation provides the most solid basis there is for investing. Everything else is mere conjecture by comparison, and that goes for gold.”
We are in a period of great uncertainty. In such conditions, I believe many investors turn to gold. In addition, the sharp appreciation of the yellow metal in recent months acts as a self-reinforcing lever.
Here is what Marks wrote about this in 2010: “Since gold acts as a barometer of expectations regarding inflation and concern about economies and currencies, its popularity has risen as sentiment regarding these things has declined.”
Is it the price of gold that is rising, or rather the U.S. dollar that is weak? “What looks like an increase in the price of gold becomes easier to view as a decrease in the amount of gold a dollar will buy. So perhaps we should think about the dollar's weakness rather than gold's strength.”
Marks concludes his memo as follows: “Yes, gold is probably more likely to continue serving as a store of value than to quit. And yes, maybe one should have a position. But is this the right price at which to start …?”
I hope this series of blog posts on Howard Marks’s memos has sparked your interest in them.
Philippe Le Blanc, CFA, MBA
Chief Investment Officer at COTE 100
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