Saturday, March 15, 2014

The Gold Bubble

I doubt this post will be popular (and I apologize in advance), but here goes.

Click to enlarge.

The red line shows gold as an index (2000-01-01 = 1).

The black line shows the consumer price index (2000-01-01 = 1) raised to the 4th power.

The blue line shows the producer price index for industrial commodities (2000-01-01 = 1) raised to the 4th power.

For every doubling of the producer price index for industrial commodities (which has yet to happen even once since 2000 by the way), gold doubles not once, not twice, not even three times, but four times (2 x 2 x 2 x 2 = 16 times in total).

Should these unsustainable trends continue and the producer price index for industrial commodities were to eventually go up by a factor of 10, then gold would go up 10,000 times and cost roughly $13,700,000 per ounce (or $1 million or so per ounce in inflation adjusted dollars perhaps). Good luck on finding many people on the planet able to buy a single gold ring if/when that were to happen.

Gold cannot be both a safe store of value *and* a speculative investment that grows this much faster than industrial commodities in general. One of the two theories is in error.

The following chart shows the real price of gold (adjusted by the producer price index for industrial commodities).

Click to enlarge.

We've been here before (at about these same real price levels). Disinflation came next. Seeing as how inflation has already been falling, deflation is a clear possibility.

These are just the opinions of a former gold bug (from 2004 to 2006) turned heretic. For what it is worth, I have absolutely no desire to own gold at these prices. All a rising gold price does for me these days is inspire me to hoard even more toilet paper. Since gold hasn't exactly been rising in recent years, it can't even seem to get me to do that lately.

This is not investment advice.

Source Data:
St. Louis Fed: Custom Chart #1
St. Louis Fed: Custom Chart #2


Stagflationary Mark said...

Growing as x^2 is parabolic growth.

Growing as x^4 is parabolic growth squared.

x^4 = (x^2)^2

There is nothing at all stable about that equation.

Troy said...

my 'thesis' on gold, in graphic form

Troy said...

or, I can let FRED do the curve-matching:

Stagflationary Mark said...


I agree that many seem to relate gold to oil, and that can itself become a self-fulfilling prophecy.

I have a problem with the actual dynamics though.

1. We burn oil.
2. We don't burn gold.

In any event, what applies to gold also applies to oil. I'm not exactly bullish on oil at $100 either.

It's gone from $11 in 1998 to $100 in 2014. I very much doubt we'll see $900 in 2030. That's especially true if we can't generate much wage inflation (which I doubt we can).

Put another way, I don't picture a billion Chinese driving cars with $900 oil.

January 15, 2014
Coming 'oil glut' may push global economy into deflation

One piece of the jigsaw puzzle is missing to complete the deflation landscape across the West: a slide in oil prices. This is becoming more likely each month.

TJandTheBear said...

False Dichotomy

Stagflationary Mark said...


Perhaps it is only false dichotomy to a gold bug? Would you have thought it was a false dichotomy if I had picked another element from the periodic table to compare against industrial commodities? Because when it comes right down to it, at some level, all elements from the periodic table can be used as industrial commodities.

What makes gold so special? 5000 years of history? The vast majority of elements from the periodic table hadn't even been discovered until recently.

Singling out one element from the periodic table to worship above all others is not something that appeals to me all that much.

Further, a non-gold bug looks at the periodic table and can't spot any elements that stand out as actually money (used as payment mechanisms for things bought on

As for me personally, I find aluminum to be a miracle metal. It allows us to fly. It allows us to drink canned beverages. It's also dirt cheap in comparison to gold. It was discovered in 1825. Not a rich history there of course, so less time for it to develop a fan base?

I once had gold crowns in my mouth but they were recently replaced with porcelain. I don't wear jewelry. I find other things in life to be more important. I really don't have much need for gold. I did own gold from 2004 to 2006 but only so that I could sell it to someone else when I thought the time was right. I speculated, pure and simple.

We're told to have faith in gold as a "safe store of value" even though it experienced one provable bubble of epic proportions in the 1970s and it can be easily argued that it has just happened again.

Well, in my opinion, no asset is good at any price. Stocks? Housing? Gold? It's all the same bubble mentality. The higher prices go, the more momentum investors think prices will rise. That's how bubbles form.

dearieme said...

It sounds to me as if I could get useful diversification by having fixed-interest bonds in my portfolio, and some gold too.

But bonds of which nation? I want nothing to do with the Euro; the US and UK look shaky long term. I assume that Swissies yield next to nothing. What's a poor fellow to do?

Canada? Singapore? Norway and Sweden? If we enter a new Little Ice Age, three of those may become shaky too. And Singapore could yet become The New Crimea. Oh dear, oh dear.

Mr Slippery said...

Well, in my opinion, no asset is good at any price. Stocks? Housing? Gold? It's all the same bubble mentality.

It doesn't matter much what my opinion is regarding gold or stocks or housing. Neither does yours, or any other individual. It is the group that matters. Prices go where the herd takes them.

The periodic chart doesn't tell you the abundance of each element on earth. Turns out that magical aluminum (and it is magical) is 8.1% of the earth's crust by weight. Scarcity might factor in the gold/aluminum price ratio.

Bottom line for me is that I am not sure where herd will stampede next, so I own real estate, gold, silver, treasuries, cash, copper, i-bonds, corporate bonds, and stocks (indirectly through a pension fund).

Stagflationary Mark said...


What's a poor fellow to do?

Get shafted? (Mining pun. ;))

Stagflationary Mark said...

Mr Slippery,

I certainly realize that aluminum is abundant, but that didn't stop it from tripling in the 1970s. (It does take energy to get it out of the ground after all.) This time around, not so much.

Housing has the NAR telling us when to buy (always).

Gold has the World Gold Council doing the same.

Perhaps aluminum just needs a group of "unbiased" financial experts telling us when to buy (and never to sell) too?

Just a thought.

Stagflationary Mark said...

In any event, the momentum gold herd is currently being tested. I have great doubts that they will recover.

The commodity super-cycle is at serious risk if I'm right to be bearish on China (which I have been since I started this blog in 2007).

Mr Slippery said...

The commodity super-cycle is at serious risk if I'm right to be bearish on China

I see cross currents in commodities generally, but I think oil will not go down in real terms from here, except maybe a minor dip in the next recession. It also takes energy, in increasing amounts, to get out of the ground.

Just opinions, worth the cost of the electrons to publish them.

Stagflationary Mark said...

Mr Slippery,

I believe that global oil supply is constrained at this demand level.

I'm not bullish on the demand level over the long-term though. How many more ghost cities can China build before the vehicle wheels pop off?

Our vehicle miles traveled won't be looking that good either in the aftermath of the next recession. They aren't even looking good right now. Sigh.

UPDATE 3-China's 2013 oil demand sees slowest rise in at least 22 years


Chinese Car Sales Jump 18% as Japan Brands Extend Rebound

It's a fascinating disconnect.

Stagflationary Mark said...

Buying Gold and Silver using our In-House Financing

Leverage is a simple concept that can be explained with an example that most of our clients are familiar with – purchasing a home. Let’s say you bought a $100,000 home with 30% down. The next month the value of the house rose 15% (or $15,000) and you sold it. Setting aside closing costs, etc. rather than making a 15% gain, you would have in fact made a 50% gain ($15,000 on a $30,000 investment). The same applies to your gold or silver purchase.

Just throwing it out there as a sign of the times.

Fatboy said...

"1. We burn oil.
2. We don't burn gold."

Hard to hold oil runs through your fingers. It's hard to hold. Gold is the last bastion once credibility's are lost

honestcreditguy said...

Hard to compare gold to oil, stocks, bonds etc. Seems gold has built the world so their is merit in it. Without gold the shifts in economy thru the generations would have been quite different I believe. PF Chart target is 1440, heading there..

In the build up of currency wars and competing reserve reset views globally, maybe inflation, ppi, cpi etc are just numbers thrown out by people whom also control libor

Stagflationary Mark said...


Hard to hold oil runs through your fingers. It's hard to hold. Gold is the last bastion once credibility's are lost

That's true of course.

On the other hand, Mad Max was a resourceful fellow. He'd use whatever was available to hold gasoline. A saucer? A rag to soak up the drops?

I don't believe he weighed down his vehicle with gold though.

Hey, just an apocalyptic thought.

Stagflationary Mark said...


I'm not going to even attempt to make any predictions on where gold goes over the next few years.

I just believe that the bubble has popped and the former trend won't be resumed over the long-term. That's all.

It's an opinion. It's not like I'm going to short gold. I will be the first to admit that it has 5000 years of emotion built up in it.

In some ways, it would be a bit like shorting God. (For the record, I'm an agnostic at best.)

That said, I have no desire to own it at these prices. It's not even close to a level that I would consider buying it again.

Troy said...

gold can be stockpiled indefinitely.

oil can be stockpiled (by speculators) for only a few months before the tankers have to be unloaded.

oil can and will be replaced in our economy as supply runs out.

gold will always have uses given its chemistry.

supply-wise, there's a threat that new gold supply will come online (from the sea is my favorite).

There's under 100M ounces of gold produced each year.

And around 15M millionaires in the world. If I were a millionaire I'd be buying an ounce every month, why the hell not when it costs $1000 or so to pull out of the ground anyway.

Stagflationary Mark said...


gold will always have uses given its chemistry.

So does every other element in the periodic table.

If I were a millionaire I'd be buying an ounce every month, why the hell not when it costs $1000 or so to pull out of the ground anyway.

If you were a millionaire and you thought it would only go up in price (in real terms) then why would you dollar cost average your way in one ounce at a time?

It would make much more sense to load up when the price was reasonably cheap (say in 2000) and be done with it.

Further, you might even be willing to unload some of that hoard 10 years later after it had gone up 500% or more and find some other element in the periodic table to invest in instead.

Stagflationary Mark said...

For what it is worth, I certainly didn't dollar cost average in 2004.

The wealthy have no need to dollar cost average. They see a price they like and they buy.

The only times I've ever used dollar cost averaging is when I was relatively poor and had no other choice.

This is one reason the rich get richer faster than the poor do.

Take two smart people. One is rich. One is poor. Both think gold will rise from $300 to $1800 over 10 years and let's say both are right.

The poor person uses dollar cost averaging to slowly build a position starting at $300 and sells all at once at $1800.

The rich person goes all in at the beginning at $300 and sells all at once at $1800.

From a total return on investment perspective, which one did better?

And for the sake of argument, how would another person do who started dollar cost averaging late with borrowed money based on the "sure thing" be doing in the aftermath?

The Hunt Brothers were convinced that silver could only go up in the 1970s and borrowing heavily would enhance their returns. Oops. Greed begets greed.

Troy said...

I didn't mean DCA per se, but as part as my savings portfolio, $10,000/yr would be a 1/15th position from a putative $3M @ 5% cash stream.

5% in gold sounds about right as a max. 1% for the bigger fortunes, and sub-1% for the billionaires.

The point of linking gold to diesel was that it takes diesel to get it out of the ground.

If the US prints this decade and/or next, and I think we will, we're going to flood the world with dollars (more than we are now) and diesel will be in the $10 range.

I don't know how this inflation will effect housing etc, since housing doesn't have a lot of fuel input, and already built housing has no cost inputs at all, other than the labor to cash rent checks etc.

But gold's not going down (sub $1000), not unless they find a cheaper way to mine it.

Top 5% of the US economy cleared $3T in 2011. 1% of that is $30B, or ~25% of global production. Add in another 25% for Europe, another 25% for oil economies, and 25% for E Asia, and there you are . . . savers alone can easily soak up the entire global production with just ~1% of their incomes.

Total gold output is $130B/per year at current prices, 5% of annual oil production.

Stagflationary Mark said...


But gold's not going down (sub $1000), not unless they find a cheaper way to mine it.

1. Nearly every ounce of gold that's ever been mined still exists. The same cannot be said of every drop of oil. That's my problem with gold to oil ratios. They make no sense over the long-term.

2. The long standing joke is: "A mine is a hole in the ground with a liar standing over it." When gold demand is high, production costs go up as mines strive to boost output. How much of that is being factored in?

If you start with the premise that diesel will be $10 per gallon in the next decade or so, then all inflationary things are possible.

Meanwhile, I lean deflationary. I expect to see demand destruction, especially out of China.

Stagflationary Mark said...

already built housing has no cost inputs at all

Already built gold has no cost inputs at all either.

When I owned gold, it was in the form of old Krugerrands. I didn't own any freshly mined gold. Just sayin'.

Stagflationary Mark said...

Diesel Price (Past 3 Years)

No price increase for three straight years, even with ZIRP, QE, and government deficit.