Golds Purchasing Power GPP gains 5100% over the last 40 years

Golden Fortunes.
August 31, 2011

I want to share and address a question I got about calculating Golds ROI over the last 40 years.  About 10 days ago, I posted an article on the Golden Fortune's website called "When the Gold Man comes knocking..Watch out he wants your Gold".  In the article I mentioned that by holding gold for the last 40 years, you would have gained a 5100 % return.

Below is the original paragraph from the article:

When the "GOLD"  "MAN" comes knocking...Watch out he wants your Gold.
This is finally it, with gold moving to all time highs this week, the fundamentals for gold have only improved and it has only 1 direction to move and that is much higher.  It’s kind of ironic that Monday Aug 15 marks the 40 th anniversary of Nixon closing the gold window, thus taking away other central banks right to convert US dollars for gold, and now 40 years later we are making all time highs in Gold.  Back then, he closed the gold window at a price of $35/ounce and today it trades at all time highs of $1820.  That is a gain of $1785 or 5100% over 40 years, which works out to 127.5%/year.   Who says gold is a bad investment?  It’s probably the same guys who says speculators are pushing up the price of gold.

A couple of days ago a gentleman named Bob emailed me the following:

A $35 investment that appreciates to $1820 over 40 years delivers a 10.383% annual rate of return (not 127%).  This is only a bit more than 10% per year.

Proof:  Multiply $35 and the cumulative result by 1.10383  40 times. 

year 1:  35 x 1.10383 = 38.6340
year 2:  38.6340 x 1.10383 = 42.6454
year 3:  42.6454 x 1.10383 = 47.0732
               *
               *
year 40: 1648.8046 x 1.10383 = 1820.00

A 127% annual return more than doubles the principal each year.  A 127% return would mean multiplying by 2.27 each year.  Do the same multiplications using 2.27:

year 1:  35 x 2.27 =70.45
year 2:  70.45 x 2.27 = 180.35
year 3:  180.35 x 2.27 = 409.40
year 4:  409.40 x 2.27 = 929.33
year 5:  929.33 x 2.27 = 2109.59

You can see that the $35 investment has appreciated to $2109.59 in only 5 years at a rate of return of 127%.

Conclusion:  Gold appreciated about 10% per year over the last 40 years.  (actually 10.383% annually)

Later that evening, I responded with the following comments:

Hi Bob,  I had to think about this one for a few minute, to see if I miscalculated the returns.

I assume you are taking about the effects of compounding interest on returns ?
Yes, if the annual interest rate was 10.38% and the principal amount invested was $35, after 40 years of compounding the interest  of the returns on top of the principle, you would get $1820. Then your investment only earned you 10.38% compounded annually before taxes and inflation.

However gold is just a store of value and doesn’t provide a return, earn any interest or pay a dividend.  In fact it costs you money to store it in safekeeping, so it can have an expense attached to holding it.  Back in 71, if you had one ounce of gold and held on to it until today, you would still have that one ounce.  Compounding the returns on your principle really doesn’t apply to investing in physical gold.  The only way I can think of calculating ROI for physical gold is using a simple ROI calculation.

Original Buy price   $35
Sell Price              $1820 
Term                  40 years
Gain or Profit         $1785

So the ROI is 5100% if I just bought then and sold now.
So a simple annualized ROI would be 127.50% holding it for the 40 year term.

Investing in Paper gold is obviously not the same and the returns could significantly vary.
Timing gold purchases or sales, leasing, hedging etc will also affect returns, but I like to keep things simple.

If the average person bought it then for $35 and sold it today for $1820, then their gain would be $1785 and they will have made a simple ROI of 5100% just for holding the gold.  If some still holds that one once today, they actually did not make any return because you still have the one once.  So you earned nothing by holding it because gold is not considered an investable asset or money and did not provided you any return yet. All a person does by holding gold is maintain, decrease or increase purchasing power and nothing else until it is sold.  

In fact, in some instances your Gold Purchasing Power (GPP) may actually have returned you a significantly higher ROI depending on the item you buy with your gold.  You could easily convert the gold today for $1820 paper dollars and then go buy what you need, say product A.  But the price of the thing you are trading the gold for (product A) may have also increased or decreased in price and value over time, so you may be able to buy more or less units of Product A at today’s gold conversion rate vs. back then.  Calculating returns or ROI for gold can be subjected to many assumptions, conditions and factors under 100’s of scenarios, but Golds Purchasing Power GPP gained 5100% in paper dollar terms over the last 40 years.  I can't think of any other asset class that make suck a claim. 

I like to keep things simple, so for me using a simple quick calculation of ROI when it come to gold makes the most sense.

Cheers,

Bob now understands what I mean by a simple 127.5% yearly gain for Golds Purchasing Power, GPP.

 I see your point.  The total return was $1785 and 1785/40=44.625.  So it is like making $44.625 per year for 40 years.  (40 x 44.625=1785) and 44.625/35=1.275 or 127.5% of the original $35 investment (every year) without compounding

The key point is that there is not compounding.  I guess the confusion comes from the tendency to assume compounding is taking place when someone talks about getting X % per year on an investment.

Thank you,
Bob