Friday, December 4, 2009

The Gold Bubble

The ratio of the Dow Jones Industrial Average ...Image via Wikipedia
As gold prices rises to unprecedented levels, one does start to wonder about how it actually rates as an investment vehicle, and what are its long and short term trends. Just as Dec 5,2009's reversal shows, gold has very few reasons to keep going up.

US public weren't allowed to hold gold as result of Great Depression and the ban is only lifted in 1975, we have to start then. As the gold prices did fluctuate a bit, we will take the gold prices at the end of February 1975 as the starting point, which is... 187 per ounce

http://66.38.218.33/charts/historicalgold.html



Today, gold is 1160 per ounce (as of 2009-12-05). However, if you convert that back ti 1975 dollars, you get... about 286, so, about a 36% gain. All that for... 34 years. Not very good, is it?

http://www.dollartimes.com/calculators/inflation.htm

Let's do the stock market... using DJIA, though if you use S&P500 you should get almost the same results. Stock market is up 400% in the same 34 years.

DJIA Jan 1975 adjusted is 704, DJIA today is... 10388
(http://www.data360.org/dataset.aspx?Data_Set_Id=393)

If you think that's too far back, let's use short term: Since Jan 2009.

Jan 2009 to now, gold prices went up 26%

Jan 2009 to now, DJIA went down from 7500 to 6700, then now up over 10000. That's 33% or 50% increase depending on how you look at it.

So either way, stock market is outperforming the gold, both historically and short term.

So is gold a "stable" investment? Not since 1975. It is only in the past 9 years or so that gold enjoyed a steady rise, mainly from the double whammy of 9/11 and dot-com bust AND the subprime mortgage. Gold was all the way down to like 250 an ounce, UNADJUSTED at about 2000, then rose. Since its low in 2000 gold had risen 300% in real value. So mostly the prices have been FALLING. In the 34 years, It had been falling for 25, and rising for 9. That is not a 'stable' investment at all. In fact, I wouldn't even call it a GOOD investment, as DJIA has done better... much better.

Frankly, whoever said gold is a "stable" investment is fooling him- or herself. Gold is actually a "contrarian" investment. It has other uses, such as hedge against the value of the dollar, and also against inflation, but again, it need to move OPPOSITE of SOMETHING. By itself, it is an UNSTABLE investment... Its value since 1975, had fallen in real terms to 20%, and only recently went up to 125%. Those fluctuation in price are HUGE!

During a bull market, gold prices go down because money flows to stock market from other investments, such as gold. When people want to sell gold, gold prices go down. Nowhere is this more apparent than during the peak of dot-com boom, in 2000, when DJIA busted 14000, and gold prices fell to 200, unadjusted. Conversely, during a bear market, traders want to move money OUT of stuff that loses value, and thus, sell stocks and buy more stable stuff, such as gold, so gold prices rise, and rise, and rise, as it has been since 2001, up 300% since the low.

So the big question is... will go continue to go up? How far? And what about long-term?

The answer depends on what do you believe the stock market and other markets will do.

Investors are NOT stupid in the LONG-term, but they CAN be stupid in the short term. People keep piling money into gold is because they are not too sure about the future of the economy, so they want to put money into "gold", which supposedly will RISE in value if the economy tanks (drops like a rock, again). Then when the price of gold rose, "momentum" investors decided they see an uptrend, so they put MORE money, and thus, gold keep rising... until people decide that gold is too expensive.

Remember, gold is a CONTRARIAN investment... When things go bad, people buy gold. As things have been going great since March, one wonders... why is gold still going up? And how long can this go on?

Take a look at the gold chart at
http://www.tfc-charts.w2d.com/chart/GD/C9

RSI was 80 (overbought). MACD is about to intersect. And look at the volume... It was FALLING like a rock. And notice that the gold prices is NOT rising much either before it dropped. The growth level is getting smaller, even though it is rising. When combined with falling volume, this is known as a DIVERGENCE, and it is a SELL signal, because it is indicating that less and less people are buying, less pressure to drive up the prices.

What else do you need that proves this is a sign of trend reversal? Remember, this was written 2009-12-05, and it was actually composed in NOVEMBER 2009. I predicted back in November that gold will not hit 1200. It did, but it can't sustain it.

There is often a lag effect between cause and effect when it comes to commodities, including gold. Effect does not happen immediately after cause. It is, in my opinion, that the current gold rise is a "lag artifact", a temporary situation that will soon expire. However, you will need to form your own opinion with the available evidence.


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