The Price of Gold and the magnitude of the Move in the US Dollar

The Price of Gold in light of US Dollar

After a back and forth start to the week, Gold finishes the Friday trade to the downside. The G20 meeting just wrapped up in Seoul, Korea, the dollar is strengthening on the heels of international grumblings about US currency manipulation and the magnitude of the move in the price of gold that has happened over the last 14 weeks is staggering. It’s not surprising that the US dollar finally found a reason to rally and the price of gold finally found a reason to sell. It’s very surprising that it took so long to materialize.

While there have been people, myself included, arguing that the price of gold is in a bubble, a price bubble is only a bad thing once it finally bursts. Plenty of large fortunes have been made in bubble markets because the people knew when to get out. Though the move in the prices of gold and Silver have been outsized, are they as impressive when taken in light real USD terms?

Let’s do some math:

Worldwide annual gold production is somewhere in the neighborhood of 50 million troy ounces. Let’s assume, for the sake of argument that all the gold available was produced in the last 20 years. This is not true, but is makes our assumptions a bit easier and prior to 20 years ago, the annual production of gold was likely not the same as it is today. So assume the worldwide availability of gold is 1 billion troy ounces. Now at $1370/ounce, that seems like a lot: $1,370,000,000,000 or $1.37 trillion dollars. While more than $1 trillion is a lot of dollars, it’s really less than what the Fed did to try and stimulate the economy at the end of 2008 and early 2009. That total was $1.7 trillion.

However we’re looking for relative values to inform the magnitude of this move. We want to know if a 20% rise in the price of gold, from $1150/ounce in August 2010 to roughly $1370/ounce in November 2010 is a big move. The 20% increase in the price of gold represents a gain of approximately $230 billion.

Over the same time frame, the US Dollar, as measured by the DXY Dollar index, has declined in value by approximately 8.5%. While measuring the total number of dollars in existence in the world is a difficult request, reasonable estimates put the number at $12-$20 trillion. For the sake of our argument, let’s call it $15 trillion. An 8.5% decline in an asset with the notional value of $15 trillion dollars represents almost $1.3 trillion of lost dollars. That some of those dollars were turned into gold is not surprising, although perhaps the insistent tone of some market commentators, myself included would lead you to believe otherwise. The size of the magnification effect is interesting and could be important going forward.

If all the wealth that was destroyed in the USD selloff went into gold, it would certainly represent a much larger proportional of that $1.3 trillion lost dollars. There are certainly other assets out there that have appeal for investors. Markets are never as one-dimensional as analysts make them out to be. The price of gold has rallied pretty far since midsummer, but there have still been sellers who want to sell gold at these prices. For all the buyers who have been pushing the price of gold higher and higher, there have been sellers, through fewer, on the other side to make the transaction happen. It’s important to remember that nothing in a marketplace happens in a vacuum. You should always try to make the decision that is right for you. Sell gold and sell silver when it is the right time for your needs, and not because the market commentators are trying to convince you the the price will keep rising for years to come.

Christian Koch is the VP of Market Research and Product Development for Buy N Sell Gold. Check out the Buy N Sell Gold Blog and Buy N Sell Gold.