Time to Burst the Gold Bubble Argument

 |  Includes: DGL, GLD, IAU
by: Brian Wills

Is the gold market in a bubble? Many Wall Street pundits say so. It seems that every time the price of gold moves higher, the bubble enthusiasts emerge. Even George Soros has called gold the "ultimate bubble" - at the same time that his funds were increasing their gold positions considerably. Hmmm?

Gold has had a 5 fold increase in the last ten years. You can't eat it; it lasts forever and I don't think I know any intellectuals that own any. So it must be a bubble ---right?

Let's step back and look at the big picture.

Yes, gold has been in a strong bull trend for the last ten years. Take a look at the multi-year gold futures chart below (click to enlarge):

Click to enlarge

Over the long term, you see that the gold price advances have been orderly. Moves higher have been followed by healthy corrections and periods of consolidation. No parabolic bubble moves here.

Compare this to the price moves of the Nikkei of the '80s, the Nasdaq in the '90s ,gold in the '70s and the real estate market from 1996-2006. Real bubbles show parabolic moves that defy reason. Do you remember the price earnings ratios on the tech stocks in the "90s? Oh that's right, many of them had no earnings. So-- that's why their prices rose exponentially? What was the name of that book that came out around 1999? Dow 36,000?

The question to be addressed is: "Is there a sound rationale for owning gold right now?"

  • The developed world's major countries are basically insolvent when future liabilities are considered. Central banks are flooding the markets with liquidity and real interest rates are negative. Now, monetary debasement is the strategy du jour for improving economic growth. What happens to the value of paper [fiat] money in a situation like this?
  • Most of the world [China,Eurozone,UK,South Korea,India,Brazil etc] is experiencing inflation increases beyond their targets and expectations. The US is printing money [monetizing the debt] to buy its Treasury Securities with the goals of increasing inflation and lifting stock prices. Has this sort of strategy ever NOT brought about dramatic inflation spirals?
  • The demand for physical gold world wide is on the increase while the available new mine supply is expected to be static in the foreseeable future. Asian demand [China,India,Southeast Asia etc] is exploding and is expected to stay strong for years to come. The Chinese government is actually taking a number of steps to encourage its citizens to purchase gold. Why would they want their citizens to load up on gold? What do they know?
  • Gold represents less than 1% of financial assets worldwide even though a number of the world's major banks are now recommending from 5%-10% exposure for their clients. This means the average investor and money manager is significantly underexposed to gold or has yet to establish a position. The "lemmings/bubble makers" who ran up the Nasdaq, Nikkei, etc. have not yet arrived in the gold market .
  • Gold is now reasserting itself as a monetary asset and a store of value. A number of world leaders [not gold bugs] are now calling for gold to become part of a new world monetary system that will replace the dollar. Banks and exchanges are starting to accept gold as collateral. Central Banks are now net buyers of gold as they see the need to increase their reserves of this very important asset.
  • Instability is on the rise worldwide. The Middle East is a powder keg. Gold coin and bar sales there surged higher in recent months. There have been food riots in a number of countries. In the UK,France,Greece etc. people are taking to the streets. This is obviously a time when one needs to take steps to hedge against financial risks.

Is there a sound rationale for owning gold? It appears more like an absolute imperative.

Will there be severe corrections in this bull market? Yes.

Will the price volatility be gut wrenching at times? Of course.

However, over time, the fundamentals will assert themselves and drive the price higher. This bull market in gold will continue.

The gold market may one day achieve bubble status. But we are not there yet.

Disclosure: I am long GLD.

Additional disclosure: I traded gold for over 20 years on the floor of the COMEX.Former Chairman of the COMEX Board of GovernorsI am long physical gold