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Michael Kosares: What gold owners can learn from the stock bull market of the '90s

Section: Daily Dispatches

Gold Price Relativity

What Gold Owners Can Learn from
the Stock Bull Market of the 1990s

By Michael Kosares
Centennial Precious Metals, Denver
Wednesday, October 17, 2007

For contemporary market analysis, history begins in the year 1971, when the dollar was detached from gold and the era of free-floating gold and exchange rates began.

First we had a gold bull market, which began in 1971 and lasted until roughly 1982-85. Then we had a stock bull market that began in between 1982-85 and topped in roughly 2000. The current bull market in gold began in 2000 and, if it were to follow form, could be expected to top around 2015-2017.

There is a lesson to be learned by contemporary gold investors from the history of the stock market for -- particularly those reluctant to purchase gold at the current prices because it seems "too high." Those holding back may be guilty of short-term thinking. Let me tell you why.

Most analysts say the stock bull market began between the years 1982 and 1985. The Dow Jones Industrial average was trading in the 800 range in 1982. In January 2000 it peaked during intraday trading at 11,750. Many analysts see the 2000 top as the end of the bull market. (See more on this below). During the 18 or so years of the bull market, the Dow Jones Industrial Average rose nearly 15 times.

If you were to apply the same arithmetic progression to gold from the inception of its bull market in late 2001 (when it traded at roughly $270), a top comparable to the Dow's would put its price in the neighborhood of $4,050 ($270 x 15 = $4050.)

When viewed from this perspective, gold at $750 looks very reasonably priced.

Some things to consider:

1. Given the perspective of 100 years from now, analysts might very well find currency inflation the common source for the rise in both the Dow and gold. If currency inflation could take the Dow from 800 to 11,750, why couldn't it take gold from $270 to $4,050?

2. Markets tend to move in strong, primary trends of 15 years or more. From this perspective, the current stock market rally looks more like a short-term bear-market reversal, outside the primary trend, than a new uptrend. Gold, on the other hand, looks to be less than midway in its primary 15-18-year uptrend. Needless to say, there appears to be plenty of time remaining in the bull market to incubate some unexpected results, including price levels most now would consider a reach.

3. Bull-market thinking is different than bear-market thinking. In keeping with our comparison to the stock market, buying gold today would equate to buying stocks with the Dow at roughly 2200. Once you realize that gold is rising for good reasons that aren't likely to disappear any time soon, the nominal price becomes a secondary issue. The primary issue is and has been the debasement of the currency and its effects on the financial and monetary systems. For the ordinary investor or saver, the real question is: How are you going to go about insuring your wealth against currency debasement?

4. As pointed out in "Disturbing Trends 2007 -- The Dollar Under Siege," when gold recently achieved the $650 milestone and the Dow 13,400, both had risen about 1,800 percent since the dollar went off gold in 1971. What this tells us is that both may be influenced by the same prime mover (monetary inflation), though they take turns in the batter's box. Gold does well when the dollar is under siege and the real rate of return goes negative. Stocks and bonds do well when the real rate of return goes positive. Now gold is in the batter's box and could remain there for as much as another decade.

5. The stock market is just one example that makes the point about inflation-driven markets statistically. The same point can be made, for example, by charting the price of gold in marks during the Weimar hyperinflation. When it started, gold sold for roughly 87 marks per ounce. By its end gold sold for roughly 63,000,000,000,000 marks per ounce -- give or take a few billion. So as you can see, the price of gold in nominal terms is strictly a matter of relativity. Similar analysis can be applied to any number of currency crises. Wikipedia lists more than 30 such events, running from the most recent in Zimbabwe to the most interesting on the island of Yap. (See Footnote 1.)

History's lesson is that there is no predictable top to the price of gold during a fiat-money binge or crisis. Theoretically, the top extends to infinity, or as long as the inflation lasts, or until the arrival of the inevitable bust. Even then, gold will serve more than adequately for the more cautious savers among us.


Footnote 1: Monetarily speaking, everything progressed smoothly on the island of Yap, where large stones weighing hundreds of pounds were transported around to serve as money. That is, until something unforeseen happened to the value of the money. For centuries the stones served in exchange because there wasn't much of this type of rock on Yap itself. The depreciation of the stone money began when an enterprising Western businessman realized that he could produce stone money cheaply and in quantity on a neighboring island and transport it to Yap, where it could be used to procure goods in demand elsewhere. In other words, this oceanic cousin of John Law printed Yap stone money to buy his wares at what might be called a favorable discount. By this process, the Yap stone money was debased until it became worthless. Little did the people of Yap know that they were deprived of their wealth, and that their money was destroyed, by the process of monetary inflation.


Michael Kosares is president and founder of Centennial Precious Metals in Denver.

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