Congrats to the gold bears and stock bulls! After being slaughtered for the majority of the last decade and more, they finally won a victory. Golf clap for you gentlemen. Now you can have your day in the sun once again. U.S. stocks are at all-time highs and gold sucks again! You won’t have to listen to your clients bitch and moan about how you ignored, avoided or were underweight the bull market of our time. Time to crow!
I awoke last Monday to a link from a subscriber. It was an editorial titled, “The Day that Gold Died.” The author cited the usual, clueless and baseless arguments both to why folks buy gold and why gold sucks as an investment. It is nothing more than a flimsy rant. He also cited a“marvelous takedown” by Barry Ritholtz, a formerly humble and generally impartial commentator who is now enjoying mainstream notoriety.
The worst and most natural, instinctive error these chaps and all gold haters make is to immediately refer to gold is an end of the world investment. This would be the most bizarre and ridiculous argument for gold. If the world ends, then how do you collect on it? If society breaks down for a period of time, then what good will gold do for you, ahead of a farm?
Do central banks buy gold because they think the end of the world is coming? If gold is an “end of the world” investment, then why the hell do western central banks own the vast majority of their reserves in gold? And why are emerging central banks buying gold?
It’s because gold is money and has been the only form of money to last for thousands of years. Not too long ago it was legally part of the monetary system. Since that change in 1971, the S&P 500 has advanced from 88 to 1541 while gold has moved from $35/oz to $1,395/oz (as I pen this). Even with the latest slide in Gold, it has still crushed the S&P 500 by rising 40-fold compared to just 17.5 fold for the S&P 500.
Gold’s tremendous increase in value (since its removal from the monetary system) over a long period of time shows its value as a speculation but more importantly, a currency. Though it fluctuates greatly during each cycle, over the very long-term it is the strongest reserve asset. This is why central banks buy it, hold it and accumulate it. It’s a no-brainer. Jim Grant put it best when he said gold is a hedge against monetary disorder.
Now let me get back to this supposed “marvelous takedown” from Ritholtz.
First he cites that the U.S. dollar is at a three-year high and that gold rallied when the buck fell from 2001-2007. First, let me note what few analysts know. When it comes to important market moves, gold usually leads the U.S. dollar. Does Ritholtz know that the dollar bottomed in late 1978 while gold soon advanced 400% until its top in early 1980? Does he know that each of gold’s recent major bottoms (2000, 2005, 2008) occurred before the dollar topped? The U.S. dollar is at the same level it was in late 2004 when gold was trading below $500/oz. So should gold be at that level? Surely, a strong dollar is a negative for gold. However, history shows us that gold is far more than an anti-dollar bet.
Secondly, as usual we hear this utter nonsense that gold is a “trade”. It’s a greater fool trade as Ritholtz says. According to Ritholtz, gold trades differently than equities (citing history) because it has no fundamentals (i.e. no earnings, cash flow, etc.). What detractors of gold should say is, because it produces nothing and is hard to value, it is never an investment and always a speculation.
Getting back to his point, can we check the charts of the last 10-15 years? Which one is a trade and which is in a bull market? There is a difference between a trade and a secular trend (i.e. a bull market). The bull market is in gold while equities with their 15-year zigzag, clearly should have been traded back and forth.
Ritholtz totally bungles this argument. He cites history but fails to mention that gold and equities trade inversely over long cycles. Equities were in a secular bear from 1966 to 1982 while gold stocks were in a bull from 1960 to 1980 and gold in a bull from 1969 to 1980. Then precious metals experienced a vicious bear market in the 1980s and 1990s while equities performed fantastically. Since 2000 stocks have been in a bear market and precious metals in a bull.
There is a reason for this long-term cyclicality. Stocks begin a bear market at times of major economic excess. Naturally, the economy corrects the excesses while at the same time, government increases its spending and the Fed cuts rates to soften the impact of long-term recessionary forces. Furthermore, real interest rates are typically negative to ensure more money comes out of cash and fixed income. Stocks struggle through these periods and hard assets (especially precious metals) perform well. Ultimately, the private sector is able to work through the problems and high commodity prices induce greater supply, which quells future inflation and results in an extended bear market.
This entire argument between stock bulls and gold bugs ultimately comes down to one thing. Has the secular tide shifted? Was this the major top in gold on par with 1980?
Let’s compare some performance numbers. In the previous bull market, gold gained about 25-fold. In this one, its gained nearly 7.5-fold. In the final 12 months of the previous bull market, gold gained 282%. The 12 months before the 2011 peak, gold gained about 55%. The last three years of each? It’s 577% (1977-1980) and 156% (2008-2011).
Gold corrected about 45% after its peak at the end of 1974. In the 13 months leading up to that peak, gold gained 116% versus 59% for this bull market. In the 24 months leading up to that top gold gained about 200% versus about 100% for this bull market.
In terms of the numbers, the most recent top in gold comes nowhere close to the bubble peak of 1980 nor is it close to the peak in 1974 which was followed by a 45% downturn. Calling gold a bubble just proves you don’t know what you’re talking about.
Furthermore, we’ve noted that the Barron’s Gold Mining Index, which was in a bull market from 1960 to 1980, experienced two substantial downturns of 61% (1968-1969) and 68% (1972-1974) before rising about seven-fold from 1976 to 1980. The HUI Gold Bugs Index declined about 71% in 2008 and as of yesterday was down about 60% since its 2011 peak.
History argues that equities will remain in a secular bear market. The three previous secular bear markets lasted 20, 13 and 16 years. The shortest commodity bull market, the last one, is 13 years long. It is highly unlikely that the commodity bull market ended in 2011 at 12 years old. The shortest bull market is not likely to be followed by an even shorter one. Furthermore, it’s highly unlikely the bear market in equities ended at nine years when the others range from 13 to 20 years. Moreover, valuations at the 2009 bottom did not come close to where they were in 1921, 1942, 1946 or 1982.
Also, consider the gold vs. the S&P 500 ratio. It peaked in 1942 at 4.3 and in 1980 at 5.8. In 2011 it peaked at 1.7. Judging from history that was nowhere close to bubble territory.
Meanwhile, the macro backdrop remains extremely supportive of precious metals. Real interest rates are negative and will remain so for years as governments try to “QE” their way through the coming sovereign debt crisis. Do stock bulls honestly think governments will be able to continue to print money to buy their own bonds and stocks will go up 10% a year, there will be no inflation and commodities will decline? (Barry, isn’t this the recency effect you speak of?) This reminds me of the folk who denied the housing bubble or thought we weren’t in a recession in spring 2008. What happens when governments and central banks lose control of the bond markets and interest rates start rising? I’ll tell you what, they’ll print more and more to try to reverse it and rates will still go up.
This is why Kyle Bass and John Paulson aren’t selling. They made loads of money betting against something that was inevitable and patiently waited. In the meantime, reporters and bloggers can poke fun at them saying the “trade” hasn’t worked or has gone wrong. These folks were never invested in precious metals to begin with and they either can’t see the world beyond a few days or fail to understand the bulletproof case for precious metals.
It’s true that many gold bugs deserve the recent ridicule. When you constantly promote wild conspiracy theories or blame manipulation for your large losses, you lose respect and credibility and you taint gold as an investment. It just makes us look worse.
The stock bulls and gold haters have won the battle but not the war. Sorry guys but your victory lap is premature. Next time you may want to do some real research before writing about gold unless you just want to do a hit piece or take a victory lap. Precious metals are likely to strongly outperform stocks in the next three to four years. Both are nearing cyclical turning points. Once gold goes parabolic, that is the signal to abandon ship and get back into stocks.
A sharp rally in the precious metals complex is days or hours away but look for a base building process to follow. Right now the complex is a strong buy. We’ve kept at least 40% cash over the past several months and have scaled in, albeit early. Now is the time to put money to work more aggressively than normal.