2012: Expect Gold To Take Off As We Approach Phase 3 Of The Bull Market

Includes: ABX, AUY, GG, GLD, KGC, NEM, NGD
by: Robert Hallberg

Gold has been in a decade long bull market with steadily rising prices. The price of gold has already gone up by more than 6 times, and a lot of investors seem to be asking how much further it still has to rise or if it already has reached a top. The recent drop in the price of gold has gotten a lot of investors worried.

Nearly all bull and bear markets have three distinct phases, and if you learn to recognize them you will significantly increase your chances of getting in while the market still has room to go up, and getting out before the bull market is over and people start to sell en masse.

The chart shows the three phases of the current bull market in gold along with a prediction of where we currently are.

Gold Bull Market

Phase 1 – Denial. The first phase of the bull market works in stealth, and it begins as its last bull market ends. After a long-lasting bear market hardly anyone is even interested in the investment class, and almost no one is thinking of watching for a bottom. During this phase only the so called “smart money” participates.

Phase 2 – Climbing a Wall of Worry. The second phase of a bull market is when the general investing publish becomes aware of this new market that is continuing to move higher in price. This is usually the longest lasting phase of a bull market and it’s characterized by higher volatility. During this phase, the media starts to cover this new sector and you start seeing experts being interviewed on television. Still, uncertainty remains the theme of the day and most of the investment public finds it hard to take action. They see the prices rise, but in the back of their mind they can still remember the last painful bear market and many consider the asset class too risky.

Only after many years of out outperformance in the sector does the sentiment start to change and the market participants start to feel good about the investment they have made. After a long period of strong performance people starts to forget about the last bear market, and with a new optimistic attitude the mood becomes more positive and we enter the next phase of the bull market.

Phase 3 – Euphoria. Years after year of good returns have silenced the bears, and most of those who remained bearish in phase 2 have now changed their mind. The bulls dominate the media and make up compelling arguments why prices will continue to rise indefinitely. It has become conventional wisdom that this investment class always goes up and you begin to hear familiar phrases such as “stocks for the long run”, and “real estate will always go up”. The public starts to invest en masse in this asset, bidding up prices faster and faster, accelerating the returns and making it exhilarating for everyone. The last few investors that still sit on the side line usually gets pulled in during all this excitement.

Then, at the height of this excitement a problem starts to occur. There are not enough new investors left to continue to bid up the price so the whole thing starts to slow down. But after years of superior returns most people no longer remember the pain of the last bear market and they remain hopeful, even after the market starts to head down.

If history is any indication of previous bull markets the chart above will give us an idea of what to expect. Maybe not in exact form, but pretty close to it, just look at previous bull markets, like stocks in the 50’s and 60’s, gold in the 70’s, and stocks again in the 80’s and 90’s.

I believe that we are in the middle or towards the end of phase two. Gold is getting a lot more recognition these days but there are still quite a few naysayers. I recommend retail investors to accumulate gold (GLD), and to a lesser degree senior gold mining shares like Barrick (ABX), Goldcorp (GG), Newmont (NEM), Kinross (KGC), Yamana (AUY) and New Gold (NGD), in anticipation of the mania phase.

Disclosure: I am long GLD, AUY.