Gold: Christmas Past And Present
December 21, 2011 by John Myers
Gold prices have been undergoing a minor correction the past couple of months. I believe it is a healthy correction with higher prices for gold to come in the new year. However, I appreciate that very few people can take advantage of rising gold prices. Bullion has gotten too expensive and doesn’t have the upside it had a few short years ago.
One thing is certain: When it comes to gold and this Christmas, it is far different from Christmas 1979. During the closing days of that year, the gold bubble was about to burst. Over the next 20 years, gold lost 80 percent of its real value (accounting for inflation).
Of course, nobody thought gold was set to correct during the days leading up to Christmas in 1979.
I was lucky to get a firsthand look at the frenzy that was going on. I was a senior at the University of Calgary, and I was visiting my parents in Spokane, Wash., where my dad was publishing his newsletter.
The hub for it all was on the fourth floor of the Peyton Building, one floor above my dad’s office. The Spokane Stock Exchange consisted of one large room that had a blackboard on which an elderly man busily scribbled prices as brokers and a handful of private investors shouted out their bids.
The frenzy went on throughout the week before Christmas and became so intense that it was reported nationally on the CBS Evening News on Christmas Eve. That alone should have been a sure sign that gold and silver prices were close to a blowout. Yet I doubt one in 20 gold speculators — including my father, who was one of the three original gold bugs — saw it coming. (However, my dad, C.V. Myers, got his subscribers out of gold over the next year at an average price of $650 per ounce.)
I know that some of you are concerned that gold may have hit its high. Bullion prices are down nearly $300 per ounce from the all-time highs it set earlier this year. Yet the fundamentals indicate to me an even weaker U.S. dollar and higher prices for precious metals.
Consider today’s price of bullion of roughly $1,700 per ounce. That is twice the price of bullion right before the bubble burst. However, if you factor in the depreciation of the dollar over the past 32 years, you will discover that is not actually the case. For gold to eclipse its 1980 high, it would have to trade above $2,500 per ounce.
Another measure to determine gold’s relative value can be made by comparing gold to the Dow Jones Industrial Average. Gold is overvalued when it takes only one ounce to buy the DJIA. For instance, when the stock market bottomed out during the Great Depression, one ounce of gold at $35 per ounce bought a single share in DJIA. That relationship happened again in 1980 when an ounce of gold was $850 and the DJIA was under 800. By 1999, it took 40 ounces of gold to buy a single share in the Dow. And while today it takes seven ounces to buy a share of the Dow, bullion is seven times cheaper relative to the stock market than it was in the days that followed Christmas 1979.
The most powerful argument that the gold bull lives is the relative amount of bullion in the world compared to the number of U.S. dollars. The gold price boom three decades ago resulted in steadily increasing global production from 1200 tonnes annually to a peak of above 2600 tonnes in 1999. Production has declined slightly from this level to a large extent because the richest veins in the world, notably in South Africa, have been depleted. Since 1999, the world’s above-ground supply of gold has increased by about 2 percent per year. Thus, there is only 22 percent more gold in the world than there was 10 years ago.
Consider the huge quantities of U.S. dollars. As the graph below shows, since Christmas 1979, a standard measure of the amount of dollars — M2 — has increased eightfold.
M2 has risen from $1.5 trillion in December 1979 to $9.7 trillion in December 2011. As you can see, the increase has been most pronounced since 2001, doubling in just 10 years. This was Washington’s reaction to 9/11 as well as the massive wave of fiat money created following the Crash of 2008.
The Fed Is Gold’s Best Friend
Gold investors can also count on the Federal Reserve. In 1979, under the new leadership of Chairman Paul Volcker, the Fed mandate was to protect the integrity of the U.S. dollar. Times certainly have changed. Under Fed Chairman Ben Bernanke, the Fed demonstrated repeatedly that it is more of a political tool than a central bank — at the ready to finance foreign wars and bail out big banks, major investment houses and even a couple of automobile manufacturers.
The Fed has been cutting interest rates in the midst of the worst dollar bear market ever. This would have seemed incomprehensible to Volcker and the Administration of President Jimmy Carter. In fact, Volcker helped kill the 1970s commodity bull by piling on higher and higher interest rates.
But today, America is inundated with debt. The United States has a debt load of nearly $50 trillion, or eight times more than our gross domestic product. And get this: More than 80 percent of this debt has been created since 1980.
Household sector debt, a large component of which is mortgage debt, now totals about $13 trillion. That comes to more than $42,000 per American.
Bullion Needs A Stock Split
The economy is looking sick and likely to get even weaker. That is good news if you already own gold. But gold has a very serious problem. It has become too expensive for all but the wealthy to invest in.
I started buying gold more than 40 years ago, and I have been writing about it for more than 30 years. I have yet to find a better leading indicator for America and the dollar.
A week ago, I contacted an old friend who is a reputable coin dealer. The spot price on gold that day was $1,660 per ounce. To buy an American Eagle cost the spot price plus $70, or $1,730. If you were to sell that American Eagle back to that same dealer, you will receive the spot price, so you are paying a considerable commission.
With gold at around $1,700, it lacks the leverage it packed just three short years ago when it was under $800 per ounce.
I no longer recommend gold. I suggest investors hold the gold that they own, because I do think it will go somewhat higher.
As a practical alternative, I think silver is a good choice. Silver does not offer the protection gold does if the economy falls into a deflationary collapse, but I don’t believe that is going to happen.
If I am correct about how bad things will become, water, guns and ammo will be of much more use than gold, silver or platinum.
Yours in good times and bad,
Editor, Myers Energy and Gold Report