What is money? Is Gold money? Is Bitcoin money? What makes one currency more valuable than the next? According to Aswath Damodaran, acclaimed guru of financial valuations there are four categories that investments typically fall into. Understanding what these are will help understand the concept of money and the value that is attached to things like gold and Bitcoin.
The four investment categories are:
Cash generating assets
These are investments that generate future cash flows. These include stocks, bonds, real estate and stock options.
These are investments whose value is derived from its use as a raw material to meet a specific need, whether its food, energy, shelter etc. These could be oil, gold or soybeans.
This is a medium of exchange. Currency has purchasing power in accordance to the unit of account. The U.S dollar, the Euro, the Australian Dollar, the British Pound, the South African Rand, etc. are all currencies used in different countries.
Collectables have no cash value. They aren’t commodities whose value lie in their value as raw materials nor can they be used as a medium of exchange. Collectibles can have an aesthetic value. A Van Gogh cannot generate cash, or be used as a raw material or a medium of currency. Collectibles are also made valuable by the fact that the supply of collectibles is limited. There is only one Mona Lisa and 750 Captain Cook 250th Commemorative gold coins struck at the Royal Australian Mint.
With that said, what then is gold? Gold does not generate cash, unlike shares and bonds. Because of this gold cannot be valued the same way as shares and bonds. Gold does not behave like other cash flow generating assets.
As a precious metal, gold can be classified as a commodity. It also has uses in the tech industry, however the demand for raw gold to be used in Industrial applications is quite low. According to the World Gold Council, on 17.5 % of the global demand for gold comes from industrial users. Just looking at the balance between the production of gold and its consumption compared to that of a metal like Copper for instance, one can say there is less use of gold than there is for other metals like Copper. This should ideally make Copper more valuable than Gold but it isn’t.
So if gold is neither an asset or a commodity, then it must be a collectible, right? Partly. Some gold has some aesthetic value like Jewellery for instance. It can be argued that gold is only valuable because of its scarcity. However, for investors, the allure of investing in gold is not driven by what it looks like rather the monetary aspect attached to it. More importantly on its retention of purchasing power. Gold was once a medium of exchange however, it has been replaced by various currencies. According to Damodaran, gold has a longstanding function of storing more value than fiat currencies that are adversely affected by economic crises. For that reason, gold is considered to be more valuable than fiat currencies.
Gold is a special kind of currency that is accepted virtually anywhere in the world. It is the one currency that isn’t affected by the strength or the weakness of a specific currency. An ounce of gold is worth $1,300 in the U.S, in the U.K, Australia, Africa and everywhere else in the world. This means that if a currency loses its value, gold retains its own value regardless of what happens to the U.S. Dollar or the Euro for instance. Gold is more than just a commodity, it is a kind of currency that retains its value through the good and the good times.