Saturday, April 10, 2010

How much is property worth in gold?

I MET a friend for lunch this week. I’d won a treat from him. Back in September 2009, we each put down the level at which we thought the Dow Jones Industrial Index, the Straits Times Index and gold prices would close the year.

We weren’t that far off with our estimates, given that there weren’t any surprises in the final three months of the year. I was just slightly luckier.

Over lunch, my friend reviewed the market predictions he made in early 2008. Back then, he said that he had short positions in the UK housing market and sterling.

Sterling has depreciated significantly vis-a-vis the Singapore dollar in the two years since. But my friend said that he is surprised that the UK property market has not fallen as much as he expected.

I suggested that perhaps because of cheaper sterling, a lot more foreigners are finding London properties “cheap” and see them as a good place to park spare cash. Indeed, within my circle of friends – we who are not especially rich – one has bought a London apartment and another is considering doing so.

Our lunch conversation then turned to gold. My friend’s theory is that there is almost a fixed gold supply. “Annual gold production increases are very small – and sometimes they fall. And this is what makes gold such a perfect yardstick to measure the value of another asset against.”

After lunch, my friend did some calculations and came back with this: It takes 245 ounces of gold to buy the average London house today. Back at gold’s last peak in 1980, it took just 50 ounces of gold to buy the average London house. Gold was expensive or houses were cheap then.

“This suggests that gold will be a better investment over the next five years than London property,” my friend said.

Well, the conversation set me thinking about the relative value of UK and London properties vis-a-vis Singapore properties, and their prices in terms of gold ounces.

So I downloaded some numbers and did some crunching. And here’s what I found. UK’s Nationwide Building Society has a database of representative UK house prices from the last quarter of 1952 to the first quarter of this year. During that period, a typical house in the UK went from £1,891 (S$4,016) to £162,887. That’s compounded annual growth of 8 per cent a year in sterling terms. But the price appreciation came in spurts. One of the steepest climbs was the 12 years between 1995 and end-2007. During that period, price appreciation was 11.3 per cent a year.

So how does the price trajectory of a UK house compare with a private residential property in Singapore? In Chart 1, I set the prices of UK properties and Singapore properties to a common base in Q1 1975. Here, you can see that in local currency terms, a typical UK house has appreciated at a faster rate than Singapore private residential properties. The annual compounded rate is 8.2 per cent for UK and 7.8 per cent for Singapore.

However, as mentioned, sterling has weakened against the Singapore dollar. Hence, in Sing-dollar terms, Singapore properties have been a better investment in the past 30 years. Between Q4 1980 until Q1 2010, Singapore properties appreciated 5.8 per cent a year, while in Sing-dollar terms, a typical UK house managed only 3.8 per cent a year. (Bloomberg’s exchange rate data between Singapore and sterling pound only goes as far back as 1980.)

Chart 3 shows the absolute price of a typical house in the UK and the median price of a 100 sq m condominium in Singapore in US dollars. Here, you can see that private housing prices in Singapore are significantly higher than in the UK, although I don’t know how big a typical house in UK is.

How about a London flat? How do Singapore condo prices compare with those of London flats? From Chart 4, you see that a 100 sq m condo in Singapore is still more expensive than a representative London flat. A typical London flat, according to Nationwide, was valued at US$321,000 at end-March this year. In Singapore, the median price of a 100 sq m condo is US$754,000. Again, the question is how big is a typical London flat.

And finally, the interesting bit. How many ounces of gold does it take to buy a condo in Singapore, a flat in London and a house in UK?

At current prices, it will cost 222 ounces to buy a typical UK house, 289 ounces to buy a representative London flat and 680 ounces to buy a 100 sq m Singapore condo.

Of course, these numbers have to be viewed in relation to their respective historical range.

From Chart 5, you can see that at its peak, between Q2 1996 and Q2 1997, Singapore condos cost more than 2,000 ounces of gold. The cheapest a Singapore condo has been, in gold terms, was in Q4 1980 at 166 ounces – the earliest available data point for this series.

From that perspective, the 680 ounces of gold required to buy a condo now may not be too excessive.

As for a UK house, the range – going as far back as 1970 – is between 84 ounces of gold in 1980 and 682 ounces in Q2 2004. For a London flat, from 1990 until now, the range is between 184 ounces in Q1 1996 and 919 ounces in Q4 2001.

So the 222 ounces required to buy a typical UK house, and the 289 ounces required to buy a London flat now – can, from this point of view, be considered cheap now, and arguably offering more value than Singapore properties.

But of course, the gold price is subject to investor sentiment and increasingly to the buying and selling of hedge funds, exchange-traded funds, central banks and so on. The gold price also fluctuates in response to the overall level of confidence in the monetary system and the economy. For example, the equity bear market of 1966 to 1982 coincided with a bull market in gold and gold-related investments. Meanwhile, the equity bull market of 1982 to 2000 coincided with a bear market in gold and gold-related investments. And the equity bear market that began in 2000 has, to date, coincided with a bull market in gold and gold-related investments.

But between 2003 and 2007 and for the whole of last year, both gold and equity prices rose sharply. Between 1970 and now, the gold price has risen by 8.9 per cent a year, while the S&P 500 has gained 6.5 per cent a year.

Gold today, of course, is at its all-time high levels. The expectation is that it will continue to go further. The continued rise in the gold price will make real estate look even cheaper in relative terms. Conversely, a decline in gold will make property prices look expensive in gold terms.

Whatever happens, we can be certain of one thing. In the long term, both gold and real estate are without doubt a better store of value than fiat money.

Source: Business Times, 10 Apr 2010

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