What Gold's Breakout Means for Stocks

In my previous posts, I regarded the move in gold as unsustainable in the short-term, attributing it to normal safe haven/hedging activities. Well, I am currently rethinking my position on why gold is moving up and there may be more to this move than I previously thought.

Today, the spot price of gold has moved above the psychological $1000 level and I have been prompted to review the past performance of gold relative to equity markets.

Below you see the performance of gold relative to the S&P 500 index for the past ten years. This includes the beginning and end of the last bear market during 1999-2002, and the bull market we had until 2007.

As you can see, during bear markets gold moves INVERSELY with equities, while in bull markets gold has moved WITH equities. What is important here is the direction of the moves and not the magnitude.

We could also see that gold started moving inversely with stocks as we moved into a bear market towards the end of 2007. However, this inverse relationship has reversed just last April 2009. And the recent outperformance of gold and resilience of equities may be an indication of a portending bull market in both, but more importantly the latter.

What's the logic behind this joint move in gold and equities as we enter bull markets? Take note that the last recovery from a recession was induced by money printing and what do we have right now... more money printing but on a global scale! While I admit that the US consumer will still encounter more headwinds, the global stimulus will buy enough time for the consumer to recover.

Also read my previous article on why we must not discount emerging markets and the fact that S&P 500 earnings are more global now.

So while gold's move may possibly see some choppiness, I believe it is a legitimate move... and so is the move in stocks.

Comments

[sdavid0419:]

You seem to have hit on the printing of money as the reason for gold's current move yet you compared it to everything except the dollar. I'm thinking after years of sweeping our problems under the rug so to speak with deficit spending and IOU's in trust funds and unfunded liabilities we are now experiencing the perfect storm. We have no choice but to inflate our way out of our inability to pay as we go. I'm guessing stocks intrinsic value will determine if they inflate along with gold or suffer the same fate as the dollar.

Sep 08 06:10 AM

[Roger Knights:]

The USD is down sharply today, hence the jump in gold and Dow futures (up $100 last I looked!).

Sep 08 06:10 AM

[one eye:]

Being heavily inflation oriented, It means almost everything I own will be going up today. SDS will go down, but I was prepared for a move to $40 anyway.

Don't forget Oil/copper which are up more than Gold on a Percentage basis.

Sep 08 07:23 AM

[Terence Chan:]

sdavid0419,
definitely the all the money printing will continue to pressure the us dollar and keep it week... this should also boost US export in other countries where the consumer is doing better.. like emerging markets. this further adds fuel to the bull case for stocks since 45% of S&P 500 earnings is affected by foreign rather than domestic demand

Sep 08 08:07 AM

[Peter Cooper:]

Stocks are already up 50%, the switch towards gold and bonds indicates an imminent correction.

Sep 08 08:16 AM

[Old Trader:]

I think it was Bloomberg that had an article yesterday, saying commercial demand for gold (for the making of jewelry, primarily) was down by 20-25%, but the demand for investment purposes is up by 46%.

Sep 08 08:39 AM

[NUCLEAR1929:]

since when few percent is called a breakout

Sep 08 09:34 AM

[Mad Hedge F...:]

tyjj. The hedge fund industry is emergingfrom the ashes of 2008, and will inevitably grab a larger share of theinvesting public’s assets. Low interest rates and hero status made itway too easy for inexperienced, untested, and sometimes unscrupulousmanagers to raise new funds that charged management fees as high as 3%with a 50% performance bonus. Behind every “liar loan” was a bondmanager happy to soak it up through securitized Fannie Mae (FNM),Freddie Mac (FRE), or bank debt, shorting Treasuries against them, andthen leveraging the 40 basis point spread by 50 times to generate ahighly marketable 20% gross return. Never minds the risks. It was easymoney, as long as there were lots of liars, which mortgage brokersherded in by droves, and as long as spreads narrowed, which they didfor most of the 21st century. By the beginning of 2008, assets undermanagement soared to $2 trillion. The melt down that followed wiped outlarge numbers of funds, and raised gates for the survivors, makinginvestors wonder if they would ever get their money back. Total assetsplunged to $1 trillion in the blink of an eye through a combination ofredemptions and market losses. The new era that is emerging will bepopulated with humbled and chastened managers offering more disclosure,lower fees, no gates, and thanks to Madoff, oodles of third partyoversight. Their portfolios will have less leverage, be invested inmore liquid securities, and bring in lower returns. But the newgeneration will also offer investors battle tested strategies thatsurvived the 100 year flood. Bridgewater, with $37 billion in assets,is now the largest hedge fund, followed by JP Morgan with $36 billion,Paulson & Co. at $27 billion, DE Shaw showing $26 billion, andSoros still at a hefty $24 billion. Long track records and a Guccicachet will assure that these will prosper. Fees settling down to the1%/20% range. For the rest of us this means more capital bunching up inthe most successful trades, as we have already seen this year infinancials, China, oil, and copper. It is also going to be much harderto get new funds off the ground.

Sep 08 10:11 AM

[I need more...:]

In this absurd market, anything can happen, but I tend to agree.
On gold, I would like to see it break $1033 for a true breakout- if so, it could bolt much higher quicker.
But the powers that be seem to be able to keep it surpressed, but at some point they may lose their grasp. They have a lot of plates spinning to attend to.


On Sep 08 08:16 AM Peter Cooper wrote:

> Stocks are already up 50%, the switch towards gold and bonds indicates
> an imminent correction.

Sep 08 11:41 AM

[Zmartmoney:]

I've come to the point where I think that the markets have already planned on inflation and have built it into the equities values you see right now. If so, that means they'll continue to rise and trail gold, but stagnate and flatten when inflation becomes an evening news item. At that point gold will continue and the market will stay flat for some time (years). There you have it!...throwing in the towel. I try to stay rational but my money is losing value every day the market goes up without me. If I throw in now, does the market tank??? I'm checking flights to Vegas as a backup.

Sep 08 11:50 AM

[Hephasteus:]

Mad hedge fund. The hedge fund industry is simply a destructive tool. Their only purpose in life is to create speculative bubbles and get their leverage yanked out of them causing a recession or depression. They've served their purpose of taking money from people and then giving it back to other people and will not be returning for some time as they are not a necessity in this part of the "business cycle".

Sep 08 12:21 PM

[whidbey:]

Your arguments are persuasive to me, but there is the problem of the stimulus that is allegedly the driver.
We know this rally cannot last without permanent damage, so whatever the correlation and direction of movement we must be aware that all is for naught ultimately. The recovery is just a phase in a longer bear market and gold is a symptom of what? A better investment than equities?

Sep 08 02:42 PM

[Rokjok777:]

Thank you for starting this post with a statement that you were wrong in your previous analysis.
Very refreshing.

Sep 08 04:41 PM

[Albertarocks:]

In all due respect, your thesis that during bear markets gold moves inversely to stocks (meaning gold goes up), and during bull markets gold moves in tandem with stocks (meaning gold goes up) in essense is saying that gold always goes up.

In reality, gold has outperformed the S&P since June 2007 until the March lows in the stock markets. In March, when the stock markets "bottomed" and went on this sucker's rally, the S&P has outperformed gold, until very recently. That seems to me as nothing more than a hiccup in gold's upward trend.

I've been keeping a daily chart of this particular relationship and as of last week, gold has simply resumed it's longer term uptrend. The message is pretty clear that if gold is about to resume that uptrend, stocks are either going to fall from here or at least rise less than gold is going to rise.

The connection between gold and stocks is very loose. In fact, that relationship is really only a by-product of other factors, mainly the value of currencies and the USD in particular. So to answer your question "What does gold's breakout mean for stocks?". Not to be smug, but in my opinion the answer is... nothing!

Sep 08 05:51 PM

[billyboy54:]

"the global stimulus will buy enough time for the consumer to recover."

you were wrong on gold's move too.......

Sep 08 09:38 PM