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I believe that we are on the cusp of a shift in the fundamentals of gold (NYSEARCA:GLD) and gold miners (GDX and GDXJ); I had previously correctly predicted a minor bull market in gold, now however I believe that the beginning of gold's next great bull run is underway. I had pointed out in another article that there was an uncomfortable trend regarding employment and participation; this trend is symptomatic of the larger problem at hand, and brings to mind a basic tenet of economics: diminishing returns.

You see, US debt has reached 73% of GDP, a figure that is set to rise further in order to overcome the diminishing returns on debt; Q1 and Q2 GDP growth were 1.1% and 1.7% (figures that may be revised down again at any time) respectively (compare this with the 2.8% growth for 2012). Let us average that for a first-half GDP of 1.4%, which puts it at (13.67 trillion*1.4%/2) a 95.6 billion dollar real GDP growth for the first half of 2013. Total public debt for the same 6-month period grew 305.6 billion dollars.

Hence, 3.21 dollars of debt created one dollar of real GDP for the first half. This figure was higher than last year's estimate of 2.425 in the same period. More debt is required to increase GDP by a smaller percentage. Even more QE will add to this figure, year after year, as diminishing returns sets in further. This trend is unsustainable, debt has simply grown too large to be repaid by a shrinking economy; a long-term cure is thus not extra debt. It is either a miraculous boon of undiscovered technology, or a default on the debt.

The Fed's recent inability to taper even a little is thus a wake-up call to retail investors, who now realize that the economy must be incredibly fragile even without knowing the above fundamental statistics. They must also realize that QE has done nothing to sustain a long-term recovery and that expecting even more QE to have a different effect is the definition of insanity. Even the momentum traders would soon have to realize that they would be horribly burned when prices inevitably correct, for even QE cannot support the entire stock market.

(click to enlarge)

Have a gander at this chart by Sovereign Man: He did not do an estimate for 2013 but I'll do my best to make the calculations. According to my calculations, even with the drastic decrease in gold prices from 2012 and assuming a generous 2% growth for this year while completely disregarding inflation, nominal GDP per capita's best estimate is only equal to 41 ounces of gold.

There are four ways of looking at this data.

  1. You could say that gold is a poor indicator of wealth because it faces wide swings, especially during periods of crisis; the question you would have to then ask is "are we still in crisis?" to which I would answer "Yes, we are."
  2. You could say that there is some real recovery, assuming the gold spot was not partially manipulated while also assuming that this generous scenario is in fact the reality.
  3. You could say that gold is becoming more scarce, but it would seem that gold production has kept up with population growth.
  4. Or You could say that at the very least, the average American has not gained/produced any real wealth compared to the rest of the world (or perhaps the richest in the world) since 1925.

Participation rates are worsening, GDP growth is slowing, the debt is growing faster than it had last year and in terms of gold the average American has not gained at all for almost a hundred years. The fundamentals are there. Now all that's left is for sentiment to change, and after the last FOMC I would guess that sentiment is as close to changing as it has ever been.

Disclosure: I am long GDX. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Source: Flash Point: Is The Time Right For The Next Great Gold Bull?