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Sizing an insurance position in gold [ClearOnMoney]
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Sizing an insurance position in gold

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Investment

Sizing an insurance position in gold

24 Aug 2010 by Jim Fickett.

One should think separately about gold as an investment, where historical price levels, volatility, and current sentiment are the main considerations, and gold as insurance, where the possibility of monetary breakdown is the main concern. For the latter case, 3 ounces will put you ahead of most of the rich world.

When people write about apocalyptic scenarios, very high dollar prices for gold are often thrown out. In my view, this is the wrong way to think about the issue. If we really get to some totalitarian-state-everyone-reduced-to-barter-dollars-worthless scenario, who cares what the dollar price of gold would be? What it comes down to, if you really think that gold is going to be of value in such a situation, is scarcity. You want to have more gold than your neighbors.

So how much gold is there in the world? According to the World Gold Council FAQ,

How much gold has been mined?

The best estimates available suggest that the total volume of gold ever mined up to the end of 2009 was approximately 165,000 tonnes, of which around 65% has been mined since 1950.

Probably no one has a very precise answer on how much gold there is in the world, but this is close enough. There are about 32,000 troy ounces to the ton, so 165,000 tons is 5.3 billion ounces.

According to the US Census Bureau, world population is currently about 6.8 billion. So if you have an ounce of gold, you have more than your share of the world's gold. OK, but … if you are thinking about ensuring some kind of comfort following Armageddon, probably you want to ensure more than just being richer than the poor of India. So we can go a bit further, taking into account the distribution of wealth.

According to James B. Davies, Susanna Sandström, Anthony Shorrocks and Edward N. Wolff, at the University of Western Ontario, who have been studying world wealth for many years, a fifth of the world's population accounts for most of household wealth (data as of 2000):

Region # countries % world pop. Wealth / adult % world wealth
North America 5 5.2 $193,147 26.8
Europe 48 12.0 $83,336 28.2
Rich Asia-Pacific 17 4.0 $135,572 15.3

Looking at these three regions in aggregate, 21.2% of the world's population, or about 1.4 billion people, have 70.3% of the world's wealth, averaging about $120,000 per person.

Imagine all the gold in the world distributed in a manner proportionate to this distribution of all household wealth, so that 70% of the world's gold, or about 3.7 billion ounces, was distributed among the wealthy regions, to 1.4 billion people. Then each one would have about 2.6 ounces. So from this perspective, you only need 3 ounces of gold to be pretty sure that you are better prepared than most of the rich world.

Going one step further, suppose you have a net worth of $500,000. That is, you've done a good job of saving, and your wealth is 4 times the average of the adults in the rich world. Then to continue the analysis and be 4 times better prepared than the average person in the rich world, you might want 10 or 11 ounces of gold.

This post is not meant to be overly serious. We are far from a complete breakdown of the dollar. And if, at some point, some such thing does seem to be a real near-term risk, I'm going to be more interested in a secluded spot with a spring and a bit of arable land, than in any financial options.

Nevertheless, when the government seems a bit crazy, gold is some comfort. The main point here is that when thinking about gold as insurance, it really does not take very much to be better prepared than most people.