"The 3 Big Lies you've been told about Gold."
Part I
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Big Lie #1: “Gold is still cheap.”
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No other investment known to man evokes such strong feelings and beliefs, as does Gold.
For thousands of years men have worshiped it. You can trace it's roots as money back to biblical times. Merely invoking it's name stirs powerful emotions and vivid images.
Wars have been fought over it. Throughout history men have set sail across vast oceans and crossed continents to seek their fortunes in it.
Perhaps that's the reason why gold will always be valued by those who hold, or seek it; at much deeper levels than merely it's monetary worth. It’s also the reason why any debate about gold stirs such deep emotion and intense passion.
Even in today's age of electronic markets, digital money and paper currency... gold that barbarous relic, still serves as the ultimate safe haven for modern investors.
-- For many gold is insurance. A policy against out of control government spending and central banks with their endless flood of fiat.
-- For some it is a hedge against uncertain times, against war, or terrorism and volatile market reactions to each.
-- For others it is just another commodity and a convenient vehicle for rampant speculation.
At one time, or another... gold has served well in all of those roles. But, not unlike any other commodity, any other currency, or any other form of insurance, or hedge... it is at times over-priced, at times under-priced and at times -- fairly priced.
And for gold investors -- that is always the eternal question:
Is Gold still a contrarian play…still undiscovered, still undervalued…or has it’s story already reached the masses and has it become a speculative vehicle of the momentum players and hedge funds?
Many gold bugs having endured a twenty year bear market since the last major bull run in gold are now finally feeling vindicated…however, vindication doesn't make the mortgage payment, or satisfy margin calls -- now does it?
While volatility and manic swings in investor sentiment have always been part and parcel of the gold market; moves such as the recent $172 collapse in the price of gold in just 22 trading days and a near 100 point implosion in only 6 trading days for the HUI gold stock index -- are not indicative of normal volatility.
When compared on a historic basis to the prior bull market cycles for both gold and commodities in general -- this move is getting somewhat long in the tooth.
The multi-year super cycles for commodities that are so often referenced, all coincided with World War and the massive global demand for raw materials from nations ramping up their war machines.
Historically, the multi-year super cycles for commodities have only been supported by one thing -- Global - World War... nothing else… not demand driven economic expansion and not speculation.
In fact, demand driven commodity cycles have always led to new supply, to over investment, to over capacity and quite often... to incremental substitution, to new and disruptive technologies and ultimately to boom & bust cyclical price collapses.
That aside, perhaps no other pillar to the valuation argument of gold stands on weaker ground that the premise that gold is cheap when re-priced for inflation – ie: the argument that when adjusted for inflation: “the price of gold peaked at $2100+ in 1980 dollar terms…so today, even at six, or seven hundred dollars per ounce… gold is still vastly undervalued.”
-- WRONG!
And I’ve been guilty myself in uttering this premise in the past. Some things are repeated so often, for so long, by so many people… that we all begin to accept it at face value.
Actually there are two major flaws to the argument that gold is cheap when re-priced for inflation:
1. You can’t adjust Gold for inflation because it does that on it own -- historically, the price of Gold in and of itself… is the barometer of inflation.
2. When “adjusting” the price of gold for inflation, gold bugs take an already flawed premise and then make the “adjustment” from the $800+ speculative mania peak of 1980 and then come up with an inflation adjusted price of over $2000 for gold today -- when priced in 1980 dollar terms.
Even putting the fundamental flaw of the entire “re-pricing argument” aside….just where should you begin to re-price it from?
From:
$40 in 1971 dollar terms?
$255 in 1999 dollar terms?
$800+ from the top of it's speculative mania peak in 1980?
Re-pricing gold from it’s historic speculative top -- really makes a lot of sense now doesn't it ?
Using that logic -- are we to believe that the NASDAQ is now dirt cheap and dramatically under-priced, because if we “re-priced” it for inflation from it’s 5100 close in 2000 – it should be re-priced at 5900+ in 2006?
C’mon people… think.
If this theory really held any water…. then why did the price of gold languish in a bear market for over twenty years?
Why didn’t the market view gold as being vastly undervalued in ”1980 dollar terms” back in 1988, in 1995, or in 2000?
The entire thesis for re-pricing Gold from it’s mania peak of $800 in 1980 and then adjusting from that speculative top for inflation from 1980 to 2006, and then extrapolating that the fair value of gold is thus $2000+ is ‘bugs in Wonderland nonsense:
"If I had a world of my own, everything would be nonsense. Nothing would be what it is, because everything would be what it isn't. And contrary wise, what is, it wouldn't be. And what it wouldn't be, it would. You see?"
-- Alice from Lewis Carroll’s “Alice in Wonderland”
If you REALLY wanted to use a fair and honest re-pricing for inflation for gold… let’s use this formula:
-- Nixon closed the gold window on August 15th, 1971.
-- 5 years later (certainly enough time for gold to rise to “fair value”) the average closing price on the London PM Fix in US Dollars was -- $124.84 for the year 1976.
Now adjust that for the 116.79% inflation that occurred over the 23 years from 1976 to 1999 and what’s was the fair value of Gold in 1999 ?
$124.84 x 116.79% = $270.64
…about where Gold bottomed after it’s 20 year bear market correction from the last mania top of 1980 – a coincidence?
People -- Wake Up !
Gold has done exactly what it has always done… it has served as the proverbial Canary in the Coal Mine…and as the ultimate barometer of inflation by central bankers.
And as always… when Gold sounds those alarms -- speculators soon follow. Just as they did in 1980.
Gold just did it’s job people… it sounded the alarm on out of control government spending, deficits and rampant inflation…did you do yours?
If you did… you didn’t get caught in a one hundred dollar plus and a one hundred point+ correction in the price of gold and gold stocks.
Back in late 2000 and into early 2001 some of us became contrarians among contrarians and made the leap from black to yellow gold. Since that time the HUI index has outperformed the OSX index by a factor of over 5:1 as from December 2000 the HUI index ran from 35 to 400 at it’s peak and the OSX from 120 to 238…and index “11 bagger” for gold stocks versus a “double” for the Oil Service index.
Riding the right horse always delivers outsized returns – ie: the HUI vs. the OSX over the last 5/6 years, or of late – Palladium, or Silver vs. Gold. Presently, it may be agricultural commodities over industrial, or precious metals…especially if the U.S. is rolling over into a recession…or, it may be cash.
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"Gold did it’s job… did you do yours?"
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Gold has done it’s job -- it has sounded the alarm on excess government spending, deficits and fiat inflation…and global central banks & financial markets finally listened.
-- Central Bankers are now removing liquidity and raising interest rates globally -- not just in the U.S.A.
-- Global Financial Markets … not just those in the U.S.A. have reacted to alarms sounded by the rising price of gold and are correcting on gold’s warning.
Indeed, Gold that barbarous relic, has done its’ job…the question now remains whether gold investors have done theirs?
-- will they pay themselves for being right about gold and precious metals, or will they once again be “doomed by their own DNA” and turn into greedy speculators and ultimately give back most, if not all of their gains?
Potential rewards must always be weighed against risk.
Buying gold back in the dark days of December 2000 when it was hated and when we were ridiculed for doing so… carried low, to moderate risk and very high potential rewards.
Today gold and commodities dominate the daily news and the market headlines. By any measure gold is no longer an undiscovered story, nor is it cheap by any sober historic measure.
The Risk:Reward ratio has reversed because Gold is clearly no longer in the hands of contrarians, or the deep value players -- it is now clearly in the hands of speculators.
Even the venerable Jim Sinclair has warned of the “bull in a china shop” nature of the speculators now in gold and gold stocks… and warning about the use of margin.
Perhaps he should have also noted that during the run up through $700 Gold – that the use of “margin” in the gold & commodity stock sectors had reached levels equal to, if not exceeding those at the peak of the tech & internet wreck of 1999 & 2000….and was thus responsible for much, if not all of the recent run up in the price of gold.
And most importantly, given the fact that global central bankers are now tightening interest rates and removing liquidity…why didn’t Sinclair and the other gold pundits warn that this “new paradigm” shift would make the recent speculative run up in gold unsustainable?
But, he did not… instead he said -- “hold on tight” and gold saw over a one hundred and twenty dollar per ounce move and the HUI gold stock index saw over a one hundred point plus correction…which resulted in forced selling and massive liquidation among gold bulls.
So, who was right?
Buffet, or Sinclair?
…only time will tell.
Was it a bubble, or merely only the first 1/3rd of the ultimate run thru $1638, or $2000+ ?
How one defines a “bubble” is a game of semantics….… whether, or not the price of gold & commodities had reached “bubble” levels was irrelevant… whether they were being controlled and moved by massive speculation however was not, because all speculations end the same -- always have, always will…
The HUI gold stock index has already risen “10 fold” from its HUI 35 low in December, 2000; which begs the question of just how much more upside reward, relative risk -- still exits?
History has already shown how every single parabolic speculative run in commodities or the general market has always ended:
…badly.
The ultimate corrections always come without warning and when they come, they come hard and come fast –--defying the technicians, defying the fundamentalists and defying the speculators.
1980 Déjà vu all over again?
-- When Warren Buffett says commodities have become a speculative bubble… gold bugs should listen.
-- When the price of gold implodes by $172 in just 22 trading days -- gold bugs should listen.
-- When the HUI Gold Stock Index collapses 100 points in just 6 trading days and masses of gold bugs get liquidated by margin clerks -- gold bugs should listen.
But they won’t listen… because they never have and they never will…because they are slaves to their own human nature.
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"Doomed by your own DNA?”
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90% of speculators in gold, or gold stocks have the same mindset as the masses lining the craps table in Las Vegas, or Atlantic City. And the reason they have the same mindset, is because they have no choice --they were born that way… literally wired from birth.
They can’t help themselves. In fact, 90% of human beings are not wired correctly to be either “traders”, or “gamblers.”
80% of all professional fund managers -- under-perform the market year in and year out.
The Casino & Gaming Industry know this…they’ve built entire cities based upon that reality and have placed multi-billion dollar bets that it will never change…
CNBC just aired an interesting piece a couple of week ago titled – “Doomed by your DNA” – a scientific study that reaffirmed this reality. I think it was done by well known science writer David Ewing Duncan and Psychiatrist Charles Goodstein… try googling it.
A couple of large investment banks and hedge funds actually use testing rooted in these fundamentals to weed thru the masses of otherwise well-qualified MBA’s in search for that 5-10% of candidates who were born -- “wired right.”
Charles Mackay in his Extraordinary Popular Delusions and Madness of Crowds, had it all figured out, way back in 1841 but, yet this same discussion rages on today… be it the boom & bust of the NASDQ bubble, or the recent doubling & tripling of commodity prices…
The Herd will always chase the popular delusion du jour -- because they want to finally be vindicated, they want to prove to the world that they know something that everyone else doesn’t, they want to break away from the shackles of their dreary everyday lives and damnit, they want to be proven right and they want to become rich… rich beyond their wildest dreams and as there is never any shortage of people standing out in front of that parade… all too willing to tell them & sell them anything and everything that they want to hear…they believe… they believe that:
…that this time -- it’s different.
…that this time -- all three cherries are going to come up.
…that this time -- they’re going to take their jackpot and just walk away, instead of giving all back to the house once again.
… that this time…it will be different -- even when in their heart of hearts… they know it won’t be.
Human nature…it never changes, because it can’t… because it’s “doomed by it’s own DNA.”
Charles Mackay was right in 1841 and Warren Buffett was right in 2006.
Gold just did it’s job… did you do yours…or will you be doomed by your own DNA?
-- SliderOnTheBlack
PS: Can gold and commodities continue on to new highs?
-- of course…but will that rally be built upon the fundamentals of a negative correlation to the US Dollar, to rising U.S. deficits, to out of control inflation… or merely to rampant speculation?
Of note: when the recent violence between Israel and Hezbollah broke out -- the US Dollar became the flight to safety haven and ran to two-week highs.
Bob Hoye of Institutional Advisors used a recent quote from the famed Chess Master Savielly Grigorievitch Tartakower …and I will use Tartakower’s quote to make my final point:
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"The mistakes are all waiting to be made."
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--> "Play the Players -- not the cards"
Profits are always made in both directions…and the most profitable trades are always made upon discrepancies between price and risk…or, by finding an opportunity lying forgotten in the shadows…as the spotlight of the market shines brightly elsewhere…
PPS:
"Trillions Trump Billions"
...and
"US Recessions Trump all Speculations" |
