“IT DON’T ADD UP”
| By | Leonard Melman |
|---|---|
| Date | JANUARY 19, 2007 |
Note: For readers not familiar with the concept of our “Melmania” section, this is where your editor can take any subject and develop arguments regarding some ultimate conclusions. Since some of those conclusions might sound extremely radical, the name of “Melmania” seems appropriate.
One of my more unusual memories from childhood (we won’t discuss just how many years ago that was!) was a cartoon featuring a big bully-type dog who was trying to nab his prey. After a series of events, none of which made any sense took place, the dog runs behind a tree, grabs a remarkably available adding machine and enters many numbers. The tape rings and bings and when the tape appears, the dog to cries out, “IT DON’T ADD UP!”
That’s the way I’m beginning to feel about the markets. Something just ‘don’t add up’, but here is a clue. Take a good look at the long-term chart on the Dow Jones Industrials and the long term chart of gold. A major change took place in about 2001 and it shows up clearly when the charts are compared, one to the other.
One of the most logical suppositions that has been noted through the years is that gold and the securities markets tend to move in opposite directions. This makes good, common sense. Since gold is normally held as a hedge against failures in the conventional economic world, particularly those involving the U.S. Dollar, it stands to reason that when securities are rising - that is when there is growing confidence in the economic system - gold would likely fall. Conversely, when securities are falling, indicating a growing sense of unease and uncertainty ‘out there’, gold should rise.
Now, let us return to the two charts. One of the great securities bull markets in history ran from the early 1980s until late 1999 or early 2000 during which time the Dow Industrials rose from under 1,000 to almost 12,000. During those years, interrupted only by a very few contra-rallies, gold tended to move steadily lower over time, from the mid-600s to near 250. Next, the securities market plunged sharply to barely 7,000 in early 2003 and gold, not surprisingly, began to rally strongly. What came next, however, was completely out of character.
The Dow then began to rise strongly and, over the next four years, reached to all-time highs which are near 12,500 as this is written. Most normally, during a rally of this magnitude in the securities markets, we would expect gold to once again head toward the basement - but it did not. From 2003 to this day, the major trend in gold has remained bullish and, during the ongoing securities bull market, gold rose strongly from about $350 to $630 at this time.
After examining the charts and the fundamental financial data, this ‘disconnect’ might be accounted for in this manner: From the early 1980s through 2000, the U.S. economy itself seemed to grow on a sound basis. The budgetary deficits gradually diminished and became surpluses, the U.S. dollar regained its strength, America’s Balance of Trade Deficit was held to relatively low levels, technology advanced sharply, unemployment numbers began to fall steadily and so forth. Ergo, gold declined in the face of a strong securities market based on growing confidence.
The background data during the renewed bull market is vastly different. Budgetary deficits have exploded. Balance of Trade deficits have exploded. American debt paper is piling up around the world. Consumer debt is rising at an astonishing rate. Money supply numbers (at least those still being published!) indicate rapid growth in the various monetary categories. In other words, to many observers (this writer included), this renewed securities bull market is being built on a tower of monetary mush, rather than on any firm foundation. It is as if the investing public has adopted the belief that economic stability can be built on mountains of debt.
And so, it appears that gold is telling us that this particular securities bull market is not valid, it does not correspond to historic, sound economic values and it is bound to crumble. Therefore, it appears that precious metals investors, sensing this coming weakness, are placing their bets in favour of the metals which have been real money on earth over time, that is gold, silver and copper.