Valuing the invaluable
More signs suggest that gold has reached a turning point. But putting a fair value on the yellow metal is harder than assessing what a business is worth.
Last week, I received a question from a member of my subscription site who wanted to know about recent action in gold and the miners (which have been showing signs of life), and whether higher prices would give me more confidence that we had seen the lows.
In trying to craft an intelligent and useful answer, I spent a lot of time thinking about the gold market and related ideas I hadn't really discussed in the past.
What follows is my response, which I hope illuminates why it is so difficult to be truly emphatic about the price of gold -- as opposed to the value of a business.
I feel strongly that June 30 was most likely the low for gold and the miners. But the problem with gold is that it is just a price. It isn't like a business, where you can track such things as balance sheet items, sales, margins, channel activity, competitors and suppliers to get a very strong feeling that something important has changed or that the time to act in a big way is now -- long or short.
About the closest thing we have to a timely, nearly unequivocal fundamental fact is that gold has been in backwardation for 30 business days. This should never happen -- and has happened only rarely, briefly in 1999 and 2008 -- because it should just get arbitraged away.
The fact that the market hasn't reverted to contango suggests there isn't enough metal around in New York or London (at current prices) to allow that to happen. A potential conclusion is that there is such huge demand versus supply at current prices that the price should not be able to go lower (and stay there).
If that's true, it would argue in favor of the idea that the lows in June were "it" and that this tightness, combined with the short position and prior liquidation, means that prices are poised to rocket higher at some point soon.
A store of guesswork
The problem is that no one knows for sure. I have talked to several people who are close to the metals trading industry (whom I have known for a long time), and they agree with my analysis. But there could be other technical explanations -- mostly having to do with the fact that interest rates are near zero -- that could mean my thesis is wrong.
We will only know for sure as time goes by and new developments occur. All of the above is also why so many people who have opinions about gold base them solely, and often erroneously, on the chart patterns.
As for the miners, it is even harder to be certain about them, because their whole business revolves around the hard-to-determine future gold price.
The bottom line is it takes melding together lots of clues and charts, as well as fundamental guesswork, to be able to have a correct opinion about the gold price. Obviously, being right about the overall trend, bull market or bear market, is a huge help. I did that pretty well in the bull market but totally missed the shift to the bear market.
I can't believe it, but it took me well over a year to consider the possibility that gold had slipped into a bear market. In any case, I think we are now in the process of restarting the bull market, but I don't know for sure and can't know. Until it is a bull market, it will still be a bear market, with the attendant dangers and different risk management (technique) requirements.
It's who you know
In the investment business we all have periods when we are hot and when we are cold. On that subject, one has to realize in one's own investing there are periods where most everything you think and do is correct, and when that is the case it is possible to be more aggressive.
While it is easy to make money when it seems as though you are getting The Wall Street Journal a week early, the bigger trick is not to get killed when it seems you can do nothing right. When that inevitably happens, you must spend more time sitting on your hands while waiting for your view of how the world should work to coincide with that of the masses, aka the market.
In his most recent Gloom Boom & Doom report, Marc Faber discusses his experience at the tail end of the tech bubble and makes an important and related point. He writes: "I had heavily shorted high-tech stocks in 1998 and subsequently I lost a ton of money. This episode is really a dark spot in my life as an investor and investment advisor. It taught me several lessons that I shall never forget. What I think about markets is completely irrelevant. What matters is what other people think about them. Fundamentally, I was right about the coming collapse of the Nasdaq; however, for as long as the majority of other investors believed in the 'New Economy' theme, high-tech and communication stocks continued to appreciate."
Those of us who understood that the dot-com boom was a bubble were all tortured until the bubble burst. That often happens in markets, where you are exactly right about what you think will happen, but the market doesn't agree with you right away, and until it does you have to manage your positions carefully.
It should be worth the weight
To state the obvious, when the bull market in gold resumes, it will be easier to make money being long, though it will still be tricky. Unfortunately, trading and investing in gold is more difficult than just investing in the stock market. It is more like managing a short position.
I wish that wasn't the case, but it is. I also wish the Federal Reserve wasn't so incompetent, so we could just buy stocks or bonds and didn't have to focus on the variables we do. But we must play the hand we are dealt, and we have been dealt one with central banks pursuing insane policies that force us to deal with a warped economic/financial world where the money is "no good."
I hope this discussion helps readers understand the gold market better and, more importantly, is useful when it comes to managing positions.
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ABOUT BILL FLECKENSTEIN
This column is a synopsis of Bill Fleckenstein's daily column on his website, FleckensteinCapital.com, which he's been writing on the Internet since 1996. Click here to find Fleckenstein's most recent articles.
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