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NEW YORK -- International Speculator newsletter combines piquant political and economic commentary with savvy stock picking. Volume XXIV, No.4 was a particular highlight for hard core gold bugs, offering them Paul van Eeden’s unusual perspective.
Readers will recall that long before it was fashionable to do so, van Eeden was writing extensively on the inverse relationship between the US dollar and gold, and called the changes we are now experiencing early and accurately.
Even more unusually, van Eeden has no truck with conspiracy theories (a form of witchcraft, he says). In a Mineweb commentary nearly three years ago, he wrote: “The major decline in the gold price did not occur because of central bank sales or producer hedging, as many people believe. Instead, a proper analysis of the gold market, and an understanding of foreign exchange markets with the role played by derivatives, sheds light on the real factors that determine the gold price.”
More than $100 an ounce later, van Eeden told subscribers recently that it wasn’t too late to get positioned. He expects gold to “at least” double in coming years and possibly triple within five years.
What is gold really worth?
“Two factors always influence the relative value of gold in any currency. The first is the increase in the amount of currency (inflation of dollars) and the second is the increase in the amount of gold (inflation of gold),” he writes. When dollar supply rises, the value of the currency diminishes and vice versa. Likewise for gold.
Van Eeden breaks this relationship down into a formula reflecting that changes in the dollar gold price, over time, will be proportionate to dollar inflation and inversely proportional to gold inflation.
He sets the relationship’s clock ticking from the Gold Standard and details the system breakdowns caused by World War I and the Great Depression. The Depression represented a particular break where government’s only solution to force Americans to stop saving was to make private gold illegal. That allowed President Roosevelt to print dollars in any amount he deemed necessary, with the intention of spending the economy out of its collapse.
Roosevelt changed the gold price from $20.67 to $35 per ounce in 1934, thereby achieving a two fifths devaluation of the dollar. Consequently, van Eeden says we know that the change represented a mispricing – gold was overvalued. We know this because gold flooded into the US from abroad since it was an absolute bargain. Where previously you could only get $20.67 an ounce, you could now trade gold to the US Treasury for 69% more; literally overnight.
America’s gold reserves boomed as the world cashed in gold for dollars; growing from 8,998 tonnes in 1935 to 19,543 tonnes by 1940. Some of the latter tonnages also no doubt reflect gold shipped away from Europe as the Nazi invasions progressed.
However, from 1952 onwards, the value proposition changed. Foreigners suspected that the dollar inflation had made gold cheap so they reversed the trade. By 1972, the US Treasury had lost over 12,000 tonnes of gold to foreigners exchanging dollars for gold.
Van Eeden notes that: “In 1972 the United States had less gold than in 1935, but it had approximately ten times more dollars outstanding as measured by the change in M1.” That growing imbalance had prompted people to go to the gold window and give up their depreciating dollars so that they could take home appreciating metal.
Examining consumer price data, van Eeden finds that gold flows to and from America are correlated with changes in the Consumer Price Index. When the Gold Window was closed in August 1971, gold was straining against the $35 cap that authorities had tried desperately to maintain. CPI data applied by van Eeden suggests its “real” price at that point was closer to $104 per ounce.
Once freed from American control, the gold price began to find a “market” level. It rose vigorously, aided by wanton dollar inflation through the 1970s that saw M3 double between 1971 and 1978. “By 1978 the gold price should have been $199 an ounce and, in fact, its average price for that year was $193 an ounce”, van Eeden writes, confirming that his model is working.
Thereafter, there was a period of deviation from the model which is attributed to the OPEC engineered oil crisis and other geopolitical events. The price settled down to “fit” the model reasonably well. From 1988 onward, new factors came into play.
Hedging began to find customers whilst gold production expanded faster than broad money supply. That lasted until 1994 when strong dollar inflation reappeared to generate a theoretical gold price of $659 per ounce. The real price plunged below $300 an ounce.
Van Eeden says this is easily explained by several international crises that resulted in capital flight to the US. “Between 1992 and 1994 the Brazilian real lost essentially all its vale. The capital flight from Brazil created demand for dollars and some of it found a home in the US. In response, the dollar appreciated by about 10% against a GDP weighted index of 35 currencies.”
Then factor in the Mexican peso crisis, the Asian meltdown, interminable recession in Japan, and Russia’s debt default as other major events and tendency for capital to seek out the US becomes obvious and significant for gold. The gold price waned because it was competing against the then more desirable dollar that appreciated 120% from 1990 to 2002 against a broad basket of currencies.
Look beyond the US
Van Eeden also notes what anyone in South Africa or Brazil could tell you – the greatest defence against their week currencies and mediocre governments was gold. “Gold has been in a bull market for more than 5 years… on average the gold price worldwide has increased 70% and no one knows it because most people are too fixated by the US dollar denominated gold price.”
The International Speculator model suggests that gold was actually worth $700 an ounce in 2002 and van Eeden expects the gap to close as it has in the past – by gold rising in dollar terms.
“The inflation of the dollar, the debunking of the American economic miracle, the arrogance of American Foreign Policy and, perhaps most importantly, the detrimental impact that the War on Terrorism is bound to have on American Liberty – not to mention the misallocation of capital and increase in debt that go hand-in-hand with war – are all virtual guarantees that the dollar is going to lose some of its superhero status.”
Back in April, van Eeden was expecting the dollar to give up a further 50% which “would free the dollar denominated gold price to find its way back towards its true value of $699 an ounce (as of 2002).” That was a very good forecast given what has happened with the dollar and gold in the last few days.
From now on, International Speculator says there are only two options. Either gold is headed to $700 an ounce or the US money supply is going to shrink 50%. The latter is impossible which is why the newsletter is betting on a sharp increase in the gold price.
“Buying gold now is the lowest risk investment you can make. And the upside is an once-in-a-lifetime opportunity,” van Eeden concludes. |
