The Financial Crisis Is NOT Over, BIG Inflation Is Coming, And GOLD Is Set To Double This Coming Fall Graham Summers June 2, 2009
Since its March 10 low of 666, the S&P 500 has rallied more than 20%. Pundits and media commentators alike have taken this to mean that the bear market is over and that stocks should once again be the primary asset class for investors.
The bullish bias has taken professional money managers as well.
Barron's "Big Money Poll" (a survey of 100 money managers nationwide) produced an overwhelmingly bullish skew: 60% of respondents were either bullish or extremely bullish about stocks for 2009. All told, 66% expect to put more money to work in equities within 12 months.
Lest you start believing these guys know what they're talking about, let's consider their collective track record for the financial crisis thus far:
* Late 2007/ Early 2008: Barron's interviews 12 Wall Street strategists. ALL of them think stocks will rise in 2008. The average forecast is a 10% gain.
* 2008 Actual Performance: S&P 500 falls 37%.
* Fall 2008: Barron's Big Money Poll reveals 70% of money managers believe stocks will be the best asset to own in 2009.
* 2009 thus far: stocks finally enter positive territory five months into the year, having hit a 12-year low in March.
One has to wonder whether these guys collectively have a short-term memory problem or if they simply cannot help being bulls. Regardless, thus far they've been nothing but wrong, if not horribly wrong in predicting the financial crisis AND the bear market.
However, as the S&P 500 rose from its March '09 lows and investor sentiment improved (the Volatility Exchange finally fell below 35 for the first time in 7+ months), investors began shifting money away from gold and into stocks. In a sense, they began to assume that both the financial crisis AND the bear market in stocks are over.
And they're not. In fact, one of the greatest bear markets in history is about to begin. And it centers on what may perhaps be one of the worst storehouses of value EVER. While some disasters unfold rapidly (Enron, subprime mortgages, etc.), this investment's decline has occurred in slow motion, losing an average of 3.6% a year. Indeed, you can hardly find a period in the last 89 years in which this investment actually MADE money.
That investment is the dollar.
The above chart shows the history of the dollar's purchasing power going back to the 1920s. All told the dollar has lost 94% of its purchasing power since we abandoned the gold standard. The most dramatic loss in purchasing power occurred directly after Roosevelt made it illegal to own gold. However, with few exceptions, the dollar has been spiraling downward ever since 1920.
After Nixon ended Bretton Woods (legislation that pegged the dollar to gold indirectly), the pace of purchasing power destruction accelerated with the dollar losing an average of 4.4% in purchasing power annually.
Gold and the Dollar have maintained an inverse relationship ever since this time. One zigs, the other zags. One rallies, the other falls. And starting in 2000, both entered long-term trends: the dollar falling while gold rallied (see the below chart).
Now, nothing ever goes straight up OR straight down. And starting in June 2008, the dollar erupted in its strongest rally in decades, jumping 22% in eight months. The story here was easy to understand, although most of the media ignored it. With the dollar continually in decline and interest rates well below the rate of inflation in the post-Tech Crash, foreign corporations and institutional investors borrowed heavily in dollars.
Doing this meant their debts were continually shrinking relative to their profits (sales were denominated in a currency that was rising relative to the currency in which their debts were denominated). This means their debts were easier to pay off.
However, when the dollar started a rally in July '08, this positioning began going horribly wrong. Anyone short the dollar got killed and had to cover their shorts (buy dollars) which in turn pushed the dollar higher. At one point there were an estimated $9 trillion in dollar shorts in the world. So the dollar rally was the mother of all short squeezes. And as you can see, it kicked gold in the teeth.
However, with the Feds running the printing presses and inflationary concerns hitting the market (oil and most industrial commodities have soared in the last three months), the dollar's rise may have come to an end. If the dollar breaks below 79 in a meaningful way, it's "look out below" time. Which should put gold above $1,000 in a sustainable way.
Now, a lot of commentators have noted that gold is already trading above its 1980 high ($850 an ounce). What they fail to note is that thanks to inflation, $1 in the '70s is worth a LOT MORE than a $1 today.
For gold to hit a new all time high adjusted for inflation, it would have to clear at least $2,193 per ounce. If you go by 1970 dollars (when gold started its last bull market) it'd have to hit $4,666 per ounce.
Bottomline: gold is nowhere near a peak adjusted for inflation. And if history is any guide, we should begin another MAJOR bull rally for gold sometime in the late summer/ early autumn of this year.
You should consider taking advantage of this to load up now. I wrote in my last essay that based on the historic trends in the last gold bull market (1970-80) I expected gold to begin its next leg up this fall. However, looking at the dollar vs. gold chart above, it may already be happening. Watch these two investments closely. We may be on the verge of a truly seismic shift between the gold and the dollar.
Good Investing!
Graham Summers
~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~
at http://www.gold-eagle.com/editorials_08/summers060209.html
