The real gold price - Inflation adjusted gold
In my last PrudentSquirrel newsletter, I outlined to my subscribers in detail why gold is just not anywhere near a 'stage 2' bull market.
The fact of the matter is, at about $560, gold is dirt cheap. The reason is that it has to be adjusted for inflation. There is very little being written about the price of gold adjusted for inflation.
Hamilton is one of the few who have mentioned the concept, for several years now. He has recently highlighted the issue of inflation adjusted gold prices again. He is right on the money.
The fact of the matter is that gold's price needs to be adjusted back to at least 1983, and recast into 1983 dollars, before you can get a real idea of just how low the present price is, and where we really are in the gold bull market.
A proper view on the real price of gold then tells you where we are in respect to the present gold bull market. The fact is, that, in 1983 dollars, gold has not even approached the real value that it was in 1983, when the gold market had settled down after Volker had raised interest rates amidst a true inflationary dollar crisis, in the early 1980's.
Now, we read analysts quoting gold prices, in present US dollars. A great example is the Kitco gold price chart. Take a look.
To view chart, click on link:
prudentsquirrel.com
This chart is a non inflation corrected chart of the gold price in USD.
However, this chart does not reflect a real price of gold back in years in a manner that is reality. The chart is misleading because the metric (USD) has deflated in value.
If the metric has changed, then a chart that is not adjusted is an invalid set of data. Period.
People believe that the price of gold automatically adjusts for USD inflation. That is a false truth. I have written in the past that gold has an elastic effect in recapturing its value in economic crises. In both inflationary times and deflationary times, gold recaptures its real value (real value is the value compared to real goods or like kind things, and is not in dollars!). But it does so in an elastic way, wallowing in low levels until a snap effect occurs and it jumps in price or in value VSVS real goods. I'm not going to go into the detail of how this happens. I have already discussed this mechanism several times.
Now to get back to the point of this article, I am going to recast the real price of gold, adjusted for inflation in USD.
First let us approach the problem of a proper metric. The USD today is not what it was in 1983. I'll use three examples of this to prove what I think the adjustment to the USD really is. But before I go there, I want to point out another important issue.
When you are reading charts, if the metrics are off, and the USD price is WAY off, then all your investing decisions are off base. The market may or may not do what you expect, but it certainly is not doing things that you understand, if the charts you are using are not adjusted for inflation. This is rarely ever addressed by gold writers. But they make all kinds of prognostications about the chart behavior, all the while not dealing with the issue of inflation adjustments to the gold price in USD.
Now this issue is not as bad over a period of a year, the chart price of gold in USD, as it is over a period of decades, where the inflation compounds. But it is a very real issue, in either case, if you are trying to decide if gold has reached a price point that you are looking for. An example of this would be Richard Russel's 50% retracement rule. He looks for markets to cross a 50% retracement in his calculations of where a market is headed to determine a true inflexion point. (among other things he looks at which is a lot, and pretty good too!)
In the case of looking for a 50% retracement in a stock or a market, that would usually be over a period of years. In that case those price points will have to be adjusted for inflation, or else the conclusions are not what you think they are, ie if you think the retracement point is reached at say 50, but there has been 2% compounded inflation for two years, then you really are not at 50, but inflation adjusted are really at more like 47.
See?
In real terms that price is not what you thought it was. Now, I am not a Dow theory expert, but am merely pointing out that, that number you thought you had hit is not what you think it is!
In my opinion, if charting and so on is not adjusted for inflation, since most prices are in USD, then your conclusions are invalid, and any timing you do is off, and you get all the other ramifications of having bad real data!
Let us continue with the discussion of a real inflation adjusted gold price in 1983 US dollars.
First, let us decide on how to adjust the metric, or decide on an inflation factor. What I am going to do is recast that Kitco chart back into 1983 dollars. My friend who has Sharelynx.com could do this process a lot better than my basic approach here. I am merely going to give you the idea of how to proceed, to illustrate the point of how the gold price needs to be recast in inflation adjusted dollars to make any meaningful conclusions about the gold market today. I think that you are going to be surprised by the results, my subscribers loved this part of the last newsletter.
Let us decide on an inflation adjustment factor. Now, since 1983, after gold had settled down, it settled around 450$. Back then a good US pick up truck cost about $6000. Since then, that same basic truck is now$20,000 at least, or more like 25,000. OF course the new trucks are more luxurious, but the basic vehicle is the same more or less. Using $25,000, that is a 400% increase in cost in USD. This would give us an inflation correction factor of 4 since 1983.
Look at the price of oil. In 1983, it was $29. This means that a present price of $60 would call for an inflation adjustment factor of 2. However, the price of oil has been suppressed quite a bit, as has the gold price, and that will lead to another piece, probably in one of my next newsletters. The situation with oil and gold is similar with respect to an inflation adjusted price, ie, oil is quite cheap now too!
Let us look at the price of housing. Housing is at least 4 times as expensive as 1983. Part of that is overpricing due to the housing bubble. (a more correct term for the housing bubble is a housing/finance bubble). In many places, housing is ten times more than 1983.
Conservatively speaking, I am going to select an inflation adjustment factor of 4 since 1983. The fact of the matter is it is really more like 6 to 9. But I will use 4 for this piece.
Now, if I take a gold price of 450$ in 1983, and correct that into 2006 devalued dollars, that comes to $450 times 4 = $1800 US. That is what the real inflation adjusted price of gold should be RIGHT NOW. The fact that it is merely $560 indicates that the so called gold bull right now is way overrated! The fact is, the real inflation adjusted price of gold is now 25% of what it was in 1983!
If I was to correct the Kitco gold price chart back into 1983 dollars, the real price of gold would be the present price divided by 4! 560/4 = 144. The real price of gold today, in 1983 dollars is $144! Surely we are not anywhere near a real price in 1983 dollars of $560, but rather way way lower in real terms.
Now then let us look at an adjusted Kitco chart. This one uses a factor of about 9, not 4 But it gives you the idea of what is happening. You can select your own adjustment factor. But you DO need to do this to figure where the gold bull market really is…
Here is a very basic recast of the Kitco gold price since 1983 with a corrected thin black line that I drew in by hand. It is only a basic estimate, but is given to give you the idea of what I am talking about.
To view chart, click on link:
prudentsquirrel.com
The thin black line is a very basic inflation adjusted level of what the gold price really is today, adjusted back to 1983 dollars. The usual inflation adjusted gold price charts do not really reflect the price correctly, as they only use the government inflation statistics that are very underreported. Here, I am making a very rough chart with the thin black line based on my analysis given in the above paragraphs…I may ask my friend who owns sharelynx.com to do justice to the chart, yes I am a mathematician, but I don't focus on charts..
Now, I don't want you to infer here that there is no gold bull. The fact of the matter is that we are merely in stage one of this gold bull, and have a LONG way to go up from here, and we shall see this happen too.
Clearly, from the above recast chart (the thin black line) gold is nowhere near a stage 2 bull, but still very very much in stage 1. I think the price level reflects that too, at $560. Stage 2, that everyone says exists now, is not really at hand. It is a very preliminary gold bull market now. We have not even scratched the surface of it.
Now that thin black line can be elevated a little from what you see there, I took that one down by a factor of 9 and very roughly too.
But it would still look very close to the same chart if you drew it to a corrected factor of 4.
The point is: gold is not high now, it is LOW. It is really at a price of 144$ now, adjusted for inflation since 1983, or put another way, gold is $144 in 1983 US dollars. That, my friends, is cheap!
It really goes to show you how far the gold price is suppressed from expressing inflation since 1983, and how far it really has to go when it eventually does recapture its true value in USD's! Just to get EVEN since 1983, gold should be $1800 right now.
Therefore, if your motivation to buy gold is to protect yourself from inflation, you have a fantastic chance to buy it now, super cheap. Don't be thinking that the present price of $560 is expensive. It is not.
Now, please don't go speculating on this viewpoint, because this argument really just supports a long term buy and hold view. But one thing you can clearly get out of this piece is, if you use price points to make market decisions, you are going to have to recast your price data to reflect inflation adjusted prices in the manner that I just did. Otherwise your price points are not what you think they are, and you are not doing what you really think you are doing…..
I talk about these topics in 44 weekly issues a year in the PrudentSquirrel Newsletter.
If you liked this piece, stop by and have a look at the site, and subscribe. The present price is $88 a year, but in a few weeks is going to probably be $144. The reason for the price increase is it is just too low now, considering all the issues and work that go into it.
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Christopher Laird
Editor-in Chief
The PrudentSquirrel Newsletter
www.PrudentSquirrel.com
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