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VIDEOMV Mailbag: Keep Riding the Gold Bull?
Long-term trends support ever more inflation.
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To me, the massive inverse H&S formation is readily apparent in gold - and a breakout from there measures to $1300 or so, similar in size to the moves made after the August 2007 breakout. We probably won't be done until the Dow/Gold ratio ends up around 1 - deflation, rather than inflation, being the key factor.
Nevertheless, there are enough traders that fear inflation, that fear alone might drive the value up. It's all very interesting, but in any case, things are looking up for gold.
Thanks for continuing to post your valuable thoughts.
Regards,
Minyan Greg L.
Dear Minyan Greg L.
I agree with what you see in the short-term charts (for whatever that's worth), but if you believe deflation (and by your definition, that means a dollar-based deflation) is the key investment theme going forward, then I wouldn't be a buyer of gold here. On the contrary, however, I don't believe deflation is the overriding investment theme going forward, and that's why I continue to be a gold bull.
Let me propose a question to you: Think back to the early 1980's, when the herd and magazine covers were obssessed with “inflation." What, in fact, was the dominant investment theme then (or, on what theme should one have based their investing)?
Contrary to what you might think, the dominant theme was disinflation. You wanted to be a seller of gold, oil, etc. and a buyer of US equities and bonds. This is because even though inflation fears would periodically spike throughout the 1980's, the actual trend (which is what one always wants to base investing on) was one towards more and more disinflation. Back then, not only had the Volcker Fed broken the psychology of inflation by taking interest rates up to double digits, but you also conveniently had a big increase in the supply of oil, thanks to increased Saudi production (but that’s a discussion for another time).
Fast forward to today. What's the dominant trend, and what trend is the Fed trying to promote? Let’s look at some charts to find out:
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Click to enlarge
I'd submit that the dominant trend since 2000 has been one of gradually accelerating inflation with periodic countertrend “deflationary scares." This is just as in the 1980's, when the dominant trend was one of gradully increasing disinflation with periodic countertrend “inflationary scares” - even though you probably didn’t read about a long-term trend of disinflation back in the '80's. What you read about in the papers then, was the countertrend fear (i.e. - inflation), just as what you read about in the papers today is deflation.
The fact is that it’s very difficult (if not impossible, as far as I'm concerned) to have a true dollar-based deflation. First, it’s not the 1930's anymore, when the US was a creditor nation. Today, the US is the biggest debtor on the planet. That leaves only 2 options in the current environment: default or debase. Both lead to more inflation at the end of the day - think about it.
For example, despite all the tax receipts in April last month, it was the first time since 1983 when the US government ran a deficit in the month of April. Without debasement of the dollar and the resulting inflation that goes with that debasement, the US government would eventually be forced to default on its debt in a very short period of time because it wouldn't be able to make its debt payments. This leads to default and a currency collapse, and then to inflation - just as Iceland recently learned.
Of course, a default will never happen in the US because US debt is conveniently denominated in dollars, which the Fed can print up at will, with the press of a button on a keyboard. This is what they're doing as we speak, by monetizing not only Treasuries -- as was announced back in March, when "money printing" was presented under the fancy title “quantitative easing" -- but also by monetizing agency debt and agency MBS. Printing up billions of dollars in electronic cash with the press of a button and trading that freshly printed cash for securities is monetization, pure and simple. And as we know, inflation is a monetary phenomenon at the end of the day.
Thus, I'd submit that the true reason to buy and be bullish on gold is that long-term trends support more and more inflation going forward. The US, in fact, has no choice but to inflate - which the Fed is actively engaged in as we speak. You will get your Dow/Gold ratio of “1” I believe, but it will take a long period of time to get there. The inflation will be a process. And it will also likely occur with the Dow at something more like 10,000 - which means gold will eventually be the same price in dollars. That’s not an exact prediction of where gold is going because such things are unknowable. But I think it’s much more likely than the Dow at 1300 and gold at the same price in an environment of gradually rising inflation - which lifts all assets, in terms of their dollar price, to some degree. It just lifts some -- like gold -- even more.
-Lance
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