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Gold in bubble territory? - Views on News from Equitymaster
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  • Oct 21, 2009

    Gold in bubble territory?

    When the price of an asset class goes through the roof, it always helps to step back and put things in perspective. And if there's one asset that deserves this kind of scrutiny in recent times, it's the yellow metal gold. Indeed, gold has been on a sustained rise in the past few years and is creating new price records with constant regularity these days. But is the rally sustainable? Maybe not if a few experts are to be believed. According to Moneynews, fundamentals for gold do not seem to support the current lofty prices. Fortune, a popular magazine has reported that gold mines have invested US$ 40 bn into new projects since 2001, a sign that supply will rise. Also, fear of a collapse in the financial markets had led some hedge fund traders to bid up the price of gold to record levels. However, with some companies reporting strong earnings numbers, even this fear seems to have subsided.

    Some people have gone to the extent of questioning the long term track record of the yellow metal. And there could be some merit in their argument. People who would have invested in gold at its previous peak in 1980 would require it go to US$ 2,312 per ounce (approx Rs 32,000 per 10 gms) just to stay even with inflation. The answer to whether a similar fate awaits investors who would buy into the yellow metal at current levels cannot be given with a great degree of certainty. Hence, it is advisable to invest in gold in a staggered manner and not keep a large portion of one's savings in it. No doubt it's a good hedge against inflation but if the economy recovers, there could be better options around like stocks and other commodities.

    Dragon nation's big dilemma
    In the aftermath of the global financial crisis, China's export driven economy was in danger of coming down with a big thud. However, the government turned out to be farsighted enough. It quickly filled the void created by sharp drop in exports by unleashing a huge US$ 586 bn stimulus program. Now, few months down the line, it can look back at its decision with a great deal of pride. Not only did it manage to beat the slowdown but also restored investor confidence in the country's stock markets. The country's economy came out of the third quarter recording the best growth amongst all the three quarters for the year. As per Bloomberg, state directed support made up more than 80% of the growth.

    The stimulus binge ends sometime next year, putting before its policymakers perhaps one of the biggest challenge in recent times. While it may have the wherewithal to unleash another round of stimulus, the economy may not be in a position to absorb so much money. It could ultimately lead to inefficient lending and could potentially create asset bubbles in stocks and properties Hence, continuing with the stimulus may not be a smart thing to do. On the other hand, if it withdraws stimulus more than required, the economy risks heading towards the slowdown once again. All said and done, the country will have to develop new avenues of growth like its service industries and ensuring easier access to consumer products and credit so that areas like domestic consumption could be boosted. Also, China might have to get use to lower economic growth, say in the region of 6%-8% as opposed to the 10% growth that it had managed to achieve for most of last decade. However, that could be easier said than done as the government has been postponing difficult and painful reforms. Indeed, the road ahead does not appear to be smooth for the country expected to take on the mantle from the US in the 21st century.



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