-- Posted 5 January, 2011 | | Discuss This Article - Comments:

The truly staggering valuation of $50 billion that Goldman Sachs has placed on Facebook, the Internet social networking website is significantly higher than the estimated $30 billion value of silver held in the vaults of the world.

Does this mean that Facebook is hugely overvalued in a tech stock bubble reminiscent of the 2000 crash? Or that silver is massively undervalued as a commodity that still trades for less than its all-time high 30 years ago? Or both?

Relative values

Valuation extremes are always worth comparing to gain a sense of perspective, for all value is actually relative value. Investors place great value on certain things at certain times and then something happens to change their opinion and money swings from one asset class to another.

The value of Facebook is in its success story, so ridiculously overhyped by a movie about the website. Those 500 million eye-balls are not open wallets and the tantalizing opportunity lies in this conversion. But as my father said many years ago, you should never pay for something that you can get for free, and Facebook’s legions of users are classic freeloaders.

Facebook is not without value, but maybe $1 billion, a tiny fraction of the Goldman price tag. Silver, on the other hand, may be undervalued by a similar factor.

It certainly used to be worth a lot more in the past. The long run gold-to-silver ratio is 12 compared with 46 today, so that gives you an upside multiple of almost four. Silver also rises alongside gold, so if gold goes up then silver moves higher too.

Supply shortage

But surely the main reason for thinking silver prices will go up enormously is precisely the $30 billion valuation put on all the silver in the entire world. That compares to $2 trillion worth of gold in bank vaults. There simply is not that much silver in stock to meet an acceleration in investment demand.

Presumably demand also has something to do with the Facebook valuation. And if that level of investment demand can be found for one website with a very questionable business model, then what happens when money from a crashing bond market comes hunting for a home in precious metals?

Yes the Facebook valuation is obviously absurd but so too is the current silver price (also see this article).