Wednesday, August 10, 2011

Thoughts on gold

In inflation-adjusted terms, gold prices in the past century have been higher than they are today for less than two months, from mid-January 1980 through early March 1980. The peak nominal price of gold ($850/oz.) occurred on January 21, 1980, and would correspond to about $2,450 in today's dollars, according to my calculations using the CPI. If history repeats itself, gold could gain another 35% or so briefly, after already rising over 700% in the past 10 years, before becoming one of the worst investments in the world for the next decade or two.

Gold is riding the crest of a perfect storm these days. Geopolitical turmoil is all around us, with even the staid streets of the U.K. beset by mindless violence. Several of Europe's most venerable countries are teetering on the brink of default. Almost every major central bank in the world is trying hard to get inflation to move higher. In inflation-adjusted and trade-weighted terms, the dollar is at an all-time low against a large basket of currencies. The Fed has just announced that it will keep short-term rates unusually low for at least the next two years, thus inviting rampant speculation and leveraging. Gold is the traditional safe haven for political and monetary risk, and there is plenty of both to go around.

Indeed, it's hard to imagine conditions being more favorable for gold. Except for one thing, which is that it is becoming quite expensive relative to other goods and services. It has only rarely been more expensive to buy gold. Some say it could go to $2500 or even $5000 per ounce, but no one really knows. As a value investor, I look at the potential upside (35%) versus the potential downside (-80%?) and I shy away. The risks are very disproportionately skewed to the downside. What could trigger a gold collapse, and could it happen soon? I doubt that any gold-killing development is going to surprise us soon, but when it does (and it inevitably will happen), it could be the news that inflation is making an obvious comeback. That would be enough to get central banks to reverse course by raising interest rates.


TradingStrategyLetter - Weekly Summary said...

Nicely written. You do a nice job. Increase in CME margin requirements would kill the rally. The gold equities are wrung out and could eaily double or triple from these levels. The are priced like value stocks.

Benjamin Cole said...

I thoroughly concur with Scott Grannis on gold, and I have been sure for every day of the last several years that gold has topped out. Maybe today I will be right.

BTW, I wonder if we have not become a world of sissies. I hear all the hysterics about geopolitical strife, but really the world is peaceful compared to most eras.

Standards of living are higher globally, and the kinds of barbaric invasions taken for granted only a lifetime ago--say perhaps, Japan's brutal occupation of China and SE Asia in the 1930s--have seemingly disappeared. Nazis do not roll across Europe, Stalin does not murder millions, Mao does not engage in mass killings.

The world is actually a better place, with more market and political freedoms and prosperity than ever.

Even the United States has become a much better place. There used to much heavier regulation, including fixed fares on airlines, and fixed trading commissions on stock trades. Even bank deposit rates were regulated--with a special Regulation Q for S&L passbook rates. Meanwhile, it was illegal to marry someone of a different race in many states.

The only thing we are doing wrong now is not listening to Milton Friedman. He advocated quantitative easing in precisely the type of situation the United States face today.

Attempting to choke the economy into recovery through tight money will not work--see Japan.

TradingStrategyLetter - Weekly Summary said...

Friedman was very much against the 'angels who try to organize society!' He was a free and open market guy. This has nothing to do with 'easing!' This is a hail Mary panic play. I doubt he would buy ANY of this nonsense.

McKibbinUSA said...

With interest rates locked in at near zero rates through 2013, and the dollar trending downwards in value, the argument for gold and silver becomes compelling -- perhaps the Fed is positioning the markets to ramp up gold and silver prices, who knows -- as I posted before, the fate of US Federal Reserve Notes may be sealed at this point -- a global reintroduction of gold and silver-backed currencies appears imminent from where I sit -- maybe that's the Fed's realization as well -- the US Treasury (rather than the Fed, which owns no gold or silver) is no doubt contemplating the reissuance of gold and silver certificates at this point (along with the rest of the world) -- those with high-quality dividend and rent-paying equities ("hard assets") should take comfort in knowing that their holding will no doubt mark-to-market easily and transparently against all gold and silver-backed currencies -- certified skills will also revalue easily into hard currencies -- those without hard assets and skills may be less fortunate...

Benjamin Cole said...


We are getting Japanned.

Yes, absolutely the United States can inflate. Sheesh, if we ran five percent inflation for five years, the value of the national debt outstanding would be reduced in value by a little more than 25 percent, while our economy expanded.

Oh shocking, you mean the rates of inflation we had when Reagan was president? Oh, horrors!

BTW, check out the CPI. From July of 2008 to June of 2011, the CPI-U rose from 219.964 to 225.722, or a 2.62 percent increase in three years.

And this July is likely deflation, due to oil prices. Please bloggers, this August 20 (?) when July CPI figs come out, compane them to July 2008. I suspect we will be at about 2.5 percent inflation for the entire three year period (annual about 0.8 percent).

We are getting Japanned and hard!

Why all the hysteria about minute rates of inflation in the right-wing? It speaks to a type of dementia. The Chicken Inflation Littles are running the right-wing roost.

Ironically (and sadly) it was Milton Friedman who advocated aggressive and sustained use of QE in situations like we face today. He flat out told Japan to inflate. As did Bernanke!

There are times when inflation is good, and now is one of those times.

All the whimpering and pettifogging about debasing the currency comes from people with an unhealthy attachment to the symbols of money (gold or cash), as opposed to an appreciation of true wealth-building.

TradingStrategyLetter - Weekly Summary said...

'If we ran inflation at five percent' ... that's the rub! Inflation runs you - you don't run it! Sustained inflation has never worked anywhere. Once the inflation genie is out of the bottle bubbles will be bursting like New Years Eve. It wipes out the (what is left) of the middle class, fixed incomers, and pensioners. Just how much cat food do you expect Grandma to eat? This is all about supporting a bloated and inefficient bureaucracy ultimately. All this financial masterminding is the beginning of the end! Financial markets are all below the great (expensive) Ponzi QE II stimulative intervention. This is basis shell game stuff - nothing more!

Benjamin Cole said...


We ran moderate rates of inflation all through the 1980s and 1990s, and they were maybe our best decades ever in the USA, and for much of the world.

In contrast, Japan has had no inflation for 20 years and is a dead letter, suffering declining population, and becoming easily eclipsed on all fronts by the Koreans and Chinese.

Property and equity values are down 80 percent, and property is still falling. The flag is of the setting sun.

But the yen is strong.

Listen, the old bromides and shibboleths, from the left or right, are just the chants of those who put blindfolds on an recite what they want to hear.

Deficits do not work. Tight money does not work. Going to zero bound does not work.

Toss aside ideology, and let's go with what works--monetary stimulus.

Public Library said...
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Public Library said...


This article was perfectly tailored for you.

Net government savings are at an all time low and the monetary base is at an all time high yet the economy is in the crapper.

Amazingly (like Krugman on deficit spending) you think doing more of the same will make the bridge to nowhere hit solid ground.

It is called insanity: see definition of repeating behavior and expecting different results.

Benjamin Cole said...


Tell it to the Japanese. They have been doing the same thing for 20 years.

Jeff said...

Inflation is a hidden (not so hidden) tax. How about stable prices and a strong and stable dollar. Benji, why are you so opposed to this?

BTW, I saw China launched it's first aircraft carrier today. Can we please keep some aircraft carriers when you dismantle the rest of the military??

Benjamin Cole said...


One aircraft carrier? Oddly enough, the Russians never had even one. They are easily sunk by submarines.

You can have stable money. Move to Japan.

Benjamin Cole said...

CNN calls Bernanke a quitter---

Bernanke has thrown in towel on economy

By Paul R. La Monica @CNNMoney August 10, 2011: 1:43 PM ET

NEW YORK (CNNMoney) -- Is the Federal Reserve waving the white surrender flag? It sure looks that way.
The Fed made the unusual (and unprecedented) move on Tuesday to tell the market in plain English that it intends to keep rates near zero for the next two years!

That is disappointing on many levels. First and foremost, it is a crystal clear sign from Ben Bernanke and other Fed members that they think the economic recovery (if one could still call it that) will remain tepid for a long time.
That is probably one of the reasons that the post-Fed euphoria on Tuesday afternoon on Wall Street quickly gave way to despair again on Wednesday.
This is not good. The Great Recession may have technically ended in June 2009. But for many Americans, this current malaise is just an extension of the problems that first began to surface in 2007. Lost Decade anyone?
Yes, that's a Japan reference. And it's sadly apt. The Fed, by pledging to leave short-term rates "exceptionally low" for what will eventually amount to a four-and-a-half-year stretch, is essentially guaranteeing that long-term bond rates will remain persistently low -- just like in Japan.

Jeff said...

And Benji, we are doing what Japan has been doing. Massive government spending trying to "create" prosperity and growth through spending. Their debt to GDP is over 200% or something.

Maybe, just maybe, it is central government borrowing and spending to "stimulate" that is killing actual production and growth!

BTW, our debt to GDP is higher than Vietnam, Kenya, Mexico, and Cuba for goodness sakes!

Jeff said...

The Soviets did have many aircraft carriers. Do have access to a computer with internet??

Public Library said...

Jeff has it right Benji. More monetary and fiscal intervention of any size is going Japanese. We need less of both and more normalization + let the chips fall where they may.

This gets us out faster than the current slow mo train wreck. I am glad 3 Fed officials dissented to the change in language.

Benjamin Cole said...
This comment has been removed by the author.
Benjamin Cole said...


I enjoy your viewpoints, btw.

Yes, the Russians had some ships that could carry helicopters, or a limited number of vertical take-off jets. They never went in for aircraft carriers. Believe me, I have a thick book at home on "Russian Military Might" or soemthing to that effect, from the era.

From Wiki:

"The list of aircraft carriers of the Soviet Union and Russia includes all aircraft carriers built by, proposed for, or in service with the naval forces of the Soviet Union or Russia. Though listed as aircraft carriers, none of these ships (with the possible exception of the Ulyanovsk) were or are true aircraft carriers. They are ASW helicopter equipped ships or aircraft carrying cruisers."

They had about five such ships, and one was for the Baltic Sea. They have zero now.

That said, the Soviet Union was a formidable opponent. They had 3 million men in uniform, a blue-water navy, supersonic aircraft fleets, satellites, a KGB, and were building hundreds of tanks (they loved tanks) and dozens of ships and subs every year. In some regards, their technology was superior to ours, but usually not. They did invent a "supercavitating" torpedo that can travel very rapidly under water, and that we have not developed to this day.

It was the Soviet Union that forced us to spend so heavily, and create a permanently mobilized military, with deleterious effects on our economy. We had no choice.

It is worth remembering that all that military might bought the Soviet Union almost no power or wealth, quite the opposite. They were even stupid enough to invade and occupy Afghanistan.

Today we are fighting, if that is the word, a few hundred terrorists, who have no air force, no navy, no satellites, no army, no KGB etc. But our war spending is higher than in the Cold War.

Go figure--federal spending, you can never stop it. Take private-sector dollars, and turn it into coprolite.

TradingStrategyLetter - Weekly Summary said...

I wish I had an aircraft carrier full of gold!

Cabodog said...


Since gold is essentially a "fear-based" investment, I'd like to ask if you've ever seen a study or comment regarding the increase in fear as a result of the speed-of-information.

Speed-of-information is my term for the rapid dissemination of news (or rumors) via the internet. Twenty years ago, we didn't have this stuff (at least, most of us didn't). We'd watch the evening news and hear that the stock market fell a bit.

We didn't have overnight markets, the ability to trade for $10 over our computer (or now, via an app on our phone). We had the night to think about things. We didn't have blogs, emails or other methods of information (or disinformation) dissemination.

So, my point is, I'm wondering how much volatility that's in the market is a result of the speed-of-information and the resulting anxiety about economies, etc..

Interesting to compare the rise of gold in 1978/79/80 and now, given technology and social media.

Hans said...

I agree with you, Public Library...

Ben-jamin for your eyes only:

Hans said...

Oh, BTW, we will see 2500 to 3000 Au for sure and thanks to Bank Bernank, comods have at least another 24 months of sustained life...

TradingStrategyLetter - Weekly Summary said...

CME hikes margin requirements for gold 22%. Look for pullback.

Unknown said...

This is absolutely nonsense. in the 80s, there were very little capital in Asia to move into gold. Now China and India are the biggest buyers of Gold. if we seel our gold, they will buy them. The appetitie for gold in these countries are unsatiable due to their tradition.