Be cautious, gold is a classic bubble | india | Hindustan Times
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Be cautious, gold is a classic bubble

india Updated: Aug 14, 2011 22:15 IST
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Have you ever come across an old photo of yourself—if you are old enough, from the seventies—and felt aghast at the way you were dressed? Did we actually wear high-waisted, flared trousers, sometimes with safari suits? Didn’t we realise how stupid we looked? Apparently, we didn’t. It was the fashion. My hunch is that once the current fashion for investing in gold wears off, we’re going to feel the same about it as we do about flared trousers. Did we actually buy gold at $1800 an ounce?

Did we really not realise how stupid that was? Apparently, no. A day will come when you will wonder how you ever believed that this was a justifiable price for gold, but that day isn’t here yet. It’s the same with every bubble.

It’s supposedly okay to buy more and more gold at higher prices because, didn’t you know, gold is to be bought as a shelter against bad times. Never mind that this logic has nothing to do with the way financial markets are organised today. The original idea of gold as a shelter asset was that gold would be useful when people’s belief in the issuers of financial assets weakened. It wasn’t meant to be a hedge against volatile stock markets. The idea was (and I do mean ‘was’) that gold was a portable store of wealth.

If you were on a platform in Lahore railway station in July 1947, trying to get on to a refugee train to Amritsar, then it would have been useful to have your wealth in the form of gold hidden on your person. However, as a reaction to the stock markets being volatile, it fails to make sense in any fundamental way. Gold is today a financial product, where the derivative trading volume is a multiple of the underlying physical. The flows in and out of this paper gold determine the price and are themselves driven by the story of the day. This is a classic bubble. You can ride the momentum if you know what you are doing, but please don’t think that you are salting away wealth for a rainy day by buying at these prices.