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Gold Guru: What the Talking Heads Don't UnderstandBy
Thursday, April 14, 2011
The price of gold has soared by nearly $1,200 in the last 10 years.
Today, it's around $1,450 an ounce. A decade ago, it was $260. That's a more-than-fivefold rise in the price of gold in a decade – which dwarfs the gains of the housing bubble of 2006.
So then... is gold finally in a bubble?
I checked in with former economics professor John Doody for his opinion...
John is uniquely qualified to answer – he understands economics as well as anyone, and he covers gold stocks in his newsletter called Gold Stock Analyst.
Here's John's take:
"It's amazing how the mainstream financial media continues to preach to investors that Gold is in a bubble. As if Gold must be doomed to failure by virtue of having been a great performer over the past decade.
"What the 'talking heads' can't seem to understand is that bubbles pop when prices lose all sense of reality, or when there's no one left to buy.
"Neither is the case with Gold, which is still far short of $2,300/oz, the inflation-adjusted previous high in January 1980."
John says gold is nothing like the last two bubbles we experienced... which were dot-coms and real estate.
"What powers Gold is not a fad investment such as the dotcoms," he says. "What does drive Gold is the basic human desire to protect the purchasing power of one's savings... The rise in Gold's price has coincided with the explosion of the total of US Government Debt and the Federal Reserve's balance sheet assets...
"It's not that gold has risen, but due to profligate economic policies the currencies have fallen. It's the same ounce, but what took just $260 to buy a decade ago now takes $1,450.
"The US Dollar's purchasing power has fallen over 80% in the amount of Gold it can buy. The decline is similar in the other currencies. Viewed properly in this manner, Gold is not in a bubble; the world's currencies are falling versus Gold due to their excess supply."
John is right. The numbers I follow don't show gold in a bubble, either...
Gold trading is remarkably sanguine. The surveys of investors show they're not wildly bullish. And you don't see wild speculation in the gold futures contracts or in gold ETFs.
Gold stocks are cheap as well...
In his newsletter, John has the best indicator I know of to value gold stocks versus gold. At the beginning of April, gold stocks were 7% undervalued relative to their "fair value," based on the price of gold.
Let me ask you this... If gold were in a bubble, do you think any part of the gold market would be undervalued? I don't think so...
People know about gold now. It's no secret like it was a decade ago. But the actions of traders and investors tell us gold is not universally loved, yet.
I believe John Doody is right... Gold is not in a bubble today.
Trade accordingly.
Good investing,
Steve
Further Reading:
"$1,000 an ounce is thought by some to be gold's ceiling," Doody told his subscribers 18 months ago. "We see it as now the FLOOR." Sure enough, the yellow metal is up 45%. Read more from the "gold guru" here.
To get inside Doody's brain, read his October 2010 essay about the indicator he uses to determine when to buy gold: The Best Gold Indicator Around Still Says "Buy Gold".
Market NotesA NEW CONTENDER FOR "WORLD'S WORST ETF" Today's column introduces another Wall Street vehicle to our "Hall of Shame."
About 95% of being a habitually successful investor comes down to focusing on what NOT to do... rather than focusing on what TO do. Like it or not, the market is rigged against the average investor... and many Wall Street vehicles are supreme examples of what NOT to do. (Get the story on two Wall Street Hall of Shamers here and here.)
Falling in the "what not to do" category is the popular volatility investment fund VXX. This "trading fund" was introduced in 2009 with the idea that folks could buy it to bet on increasing market volatility. But the way the fund is structured ensures it "bleeds" value as time goes by. Today's chart shows how bad this bleeding hurts a trading account over the course of a year...
The performance chart below displays the past year's movement in the popular measure of market volatility, "the VIX" (black line), versus the percentage loss in the VXX fund. You'll note that actual volatility readings have largely moved sideways over the past year... while the VXX fund has lost more than 60% of its value!
If you're thinking about buying this fund to bet on higher volatility, we say, "Just cut out the middleman, walk to the bathroom, and flush your money down the toilet."
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