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We addressed
the above question last year and arrived at the answer: no, gold left bargain
territory long ago. We remain bullish on gold not because we think gold is
still cheap, but because we expect it to get a lot more expensive.
This isn't a
"greater fool" game that we are playing, in that our belief that
gold will become a lot more expensive over the years ahead isn't based on the
expectation that people will be silly enough to pay a much higher valuation
in the future for an asset that is already over-valued today. It is, instead,
a position based on the observation that the world's most important central
banks and governments remain committed to a course that ends in catastrophe
for their economies and currencies. To put it another way, gold may well be
expensive relative to the current economic backdrop, but it is cheap relative
to what the economic backdrop will be 5 years from now if the current policy
course is maintained. And at this stage there are no signs that the current
policy course will not be maintained.
Evidence that
gold is no longer in the bargain basement is provided by the following
long-term monthly chart of the gold/commodity ratio. Relative to commodities
in general, gold hit a 50-year high late last year. In fact, last December's
peak in the gold/commodity ratio could have been an all-time high. This tells
us that the gold market has fully discounted the bad policies of the past
several years. As an aside, it also tells us that the fabled gold market
manipulators are doing a lousy job and should be fired (gold's excellent
performance over any reasonable investment timeframe is no doubt why
promoters of gold-suppression theories tend to focus on timeframes that could
only be of interest to daytraders).
Evidence that
the gold market hasn't yet discounted the effects of continuing along the
current policy path is the general lack of understanding of the damage that
these policies cause. Almost everyone in power or in a position to influence
those in power believes that the economy can be helped by the artificial
lowering of interest rates, the creation of money out of nothing, and
increased government spending. And almost everyone believes that the
government is responsible for creating jobs and managing the international
trade balance. This means that almost everyone is oblivious to the fact that
whenever the government intervenes in the economy it causes distortions that
impede real economic progress. As long such beliefs are dominant, economic
weakness will lead to counterproductive policy responses, which will lead to
additional economic weakness, and so on.
The gold bull
market is being driven by the vicious cycle whereby bad policy begets
economic weakness, which provides the excuse for more bad policy. It won't
end until there is an economic and monetary catastrophe or there is
widespread understanding of the root of the problem, because one or the other
will have to happen before a major constructive political change will be
possible. Hopefully the latter will happen first, because living through the
former wouldn't be fun even for those who had taken all the right protective
measures.
How would we
be able to tell that widespread understanding of the root of the problem was
developing, and, therefore, that the gold bull market was in its final phase?
There would
be many indicators. Of greatest importance, the Fed would be demonstrating
the resolve to severely restrict growth in the money supply regardless of the
short-term consequences for equity prices and GDP growth. Also, politicians
that were genuine advocates of small government (along Ron Paul lines) would
be taken seriously by the mainstream media and would be frontrunners in
elections, whereas advocates of Keynesian economic policies (along Paul Krugman lines) would not be taken seriously.
Steve Saville
www.speculative-investor.com
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