Michael Santoli

Gold Surges in Popularity, but Is It Stuck Without an Ever-Easing Fed?

Michael Santoli

Major online retailer eBay (EBAY) has recently launched a popular venue where individuals can buy gold bullion and coins. This is noteworthy in at least two -- somewhat contrasting -- ways.

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As a matter of consumer experience and business strategy, the creation of the APMEX Bullion Center on eBay marks real progress. Few markets are as fragmented or confusing to navigate as the one for physical precious metals, dominated by small dealers and shrouded in opaque pricing. The seal of eBay's approval placed on APMEX, an established seller of bullion and coins, makes this an attractive destination for metals buyers, as does the firm's transparent, real-time pricing and the extension of eBay's buyer-protection policies.

Yet the very fact that this is a large enough market to tempt eBay — a company worth $66 billion and boasting $12 billion in annual revenue — offers yet another occasion to ask whether the decade-plus bull market in gold prices is nearing an end phase, in which broad popularity comes just as the key drivers of pricier gold may have peaked.

Conflicting Signals

Ebay's own consumer research sends conflicting signals. On the one hand it says more than half of Americans surveyed deem gold and silver to be sound investments. Yet these same consumers have no firm sense of gold's current value. On average, they figure an ounce of gold is worth less than $1,000; a third guess that the price is less than $500. The spot gold price, which hit a record above $1,900 last year, is currently around $1,700, up from a 2001 low of $250.

So the public has a vague sense that precious metals are worth owning, perhaps encouraged by the ubiquitous gold-touting ads on cable news, without knowing how to get it or what it would cost them.  The early response to the eBay APMEX effort has been positive, by the company's telling. In the first six weeks, three-quarters of buyers had never bought metals through eBay before, and nearly 90% of them were new to APMEX.

The broader investment case for gold, though, must address whether a market that has seen prices rising for more than a decade, and is now pulling in a broader assortment of less-informed investors, can continue much higher at a time when the metal is relatively expensive compared to an array of other assets.

No New Highs

While gold, in dollar terms, has doubled since the financial crisis sent world central banks creating some $8 trillion in new paper currency, it has been unable to notch a new high since soon after the Federal Reserve's QE2 bond-purchasing program ended in the summer of 2011. Its lethargic price action lately has implied little market expectation of more assertive Fed easing, after this week's policy meeting or any time soon.

Gold's role as an independent hard asset — a beneficiary of the aggression among central banks to promote easy paper money — has been duly proven in recent years. Is it now time for gold bulls to  simply take comfort in its role as a store of value in calmer times rather than continually predicting vastly higher prices to come?

Discussing the merits of gold and the outlook for its price performance is always hazardous. Like debating religion or the designated-hitter rule, the issue invites circular arguments between true believers and absolutist doubters.

The camp dismissively tagged as "gold bugs" start and finish with the assertion that gold is money, the only true money. It's money because it has been money for thousands of years. It must be money because when lots of it is collected in one place, armed guards are needed to stand outside the room. Gold is money because it's portable, unperishable and pretty.

Gold Owning: Archaic Tribalism?

On the opposite side are those who scorn the gold-owning impulse as archaic tribalism, an expensive superstition or an arm of the collectible-curios industry. Warren Buffett is famously blunt in deriding gold for its lack of value creation or long-term return potential, pointing out how odd it would seem to alien visitors that humans laboriously draw the metal from the ground in South Africa, melt it into bars, put it on ships and then bury it back underground at the Federal Reserve Bank of New York.

Between these poles of unpersuadables resides a pool of investors who regard gold as one among several useful asset classes, one that can act as ballast in a portfolio in times of crisis or inflation, that sometimes gets too popular and expensive and other moments is neglected and attractively cheap.

At the moment, relative to history, gold's price appears in the upper end of its historical range, according to several measures. In real terms, accounting for price inflation (or, if you prefer, erosion in the dollar's purchasing power), at gold's recent nominal high near $1,900 an ounce it had just about matched its early 1980 peak, which came as rising inflation and interest rates seemed unstoppable but in fact were climaxing.

Scott Grannis, former chief economist for Western Asset Management who now blogs as Calafia Beach Pundit, points out that gold now is more than 200% above its 100-year average inflation-adjusted price level. Gold, he notes, also trades at a big premium to non-energy industrial commodities, which it tends to track broadly over time. Ned Davis Research maintains a chart of gold compared to the median U.S. home price, which also makes the metal look pricey versus the typical dwelling.

Taking Off to the Upside

Indeed, the charts of gold against industrial commodities and median home price tell the story of its monetary worth reasonably well, with the metal taking off to the upside in 2008 as the financial crisis created a rush for enduring havens for wealth rather than "usable" goods.

With gold already reflecting plenty of safe-haven, money-of-last-resort, store-of-wealth value, gold bulls who argue for much higher prices need to rely on the idea that the crisis-spawned money printing will escalate and produce more inflation and financial instability than is already anticipated. This is a plausible position. But it will become a tougher case to make in the near term as Western and Asian economies continue their gradual recovery and the Fed moves incrementally rather than launching zealous new asset-buying plans.

No doubt, Chinese and Indian buyers will continue to seek gold as those economies become wealthier, and world central banks have (belatedly) become net buyers again after helping to mark gold's bottom as an asset class in the early 2000s.

Yet with gold more mainstream an investment than it's been in years, thanks to vehicles such as the SPDR Gold Trust (GLD) exchange-traded fund, its "discovery" and "crisis insurance" phases are arguably ending. Which again makes it more something to own -- if at all -- because it will hold on to most of its value, rather than because it will keep surging in price.

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