By Kris Sayce
“We believe that we have reached the point where we can confidently state that interest in gold investing has reached the level of a speculative bubble. Prudent investors should be very wary of having substantial investment exposure to this precious metal in their portfolios.” – ‘The Gold Bubble’, Wells Fargo, August 2011
You can read the full six-page report by clicking the link above.
As you know, we always encourage investors to be prudent. That may seem strange coming from a guy who tips speculative small-cap stocks.
But that’s why we always tell our Australian Small-Cap Investigator subscribers to only invest what they can afford to lose.
Punting on small-cap stocks is highly speculative. But it can also be highly rewarding. And when the market goes your way, it’s lots of fun too.
But, as we see it, gold is none of those things. We’ll explain why in a moment. But before we do, just remember your editor has a gold bias. We have a big chunk of our wealth tied up in the stuff.
7 Reasons to sell gold
Right. Let’s get down to brass tacks. Why does Wells Fargo put gold in “speculative bubble” territory?
It gives seven reasons. They are:
- Volatile price movements
- No income
- Greater fool dependence
- Central bank activity
- Inflation fighting properties are overstated
- Warren Buffett’s view on gold values (By the way, Warren Buffett’s firm happens to be the largest shareholder in Wells Fargo)
- And… wait for it… [adjusts collar and coughs] “You can’t eat gold”!
Actually you can. We once saw someone do it on a cooking show. It was a very thin gold leaf.
And Goldschläger – Swiss cinnamon schnapps – has gold flakes in it. So bottoms up to that!
That aside, we don’t get why the anti-gold brigade always uses the inedibility of gold as a reason not to own it. It’s just silly. But Wells Fargo goes further:
“Gold doesn’t readily produce cash flow, doesn’t provide shelter, can’t be eaten, nor does it provide efficient clothing.”
Er, OK. But there’s a million-and-one other things that applies to.
Such as, Google shares – or any other non-dividend paying growth stock. It doesn’t pay a dividend… you can’t shelter in a Google share… you can’t eat a Google share… and nor can you turn a Google share into a nice frock.
Or what about a 10-dollar note in your wallet? It doesn’t produce cash flow, you can’t live in it, you can’t eat it (we’ve never seen a plastic-coated banknote used by any celebrity chef in a recipe), and it isn’t the latest in wearable fashion.
Yet that doesn’t mean cash isn’t useful. And it doesn’t mean you should never buy shares in growth stocks… even though [darn it] you can’t eat, dwell in or wear the things.
But Wells Fargo’s anti-gold rant is fine by us. It makes us even more convinced gold isn’t in a bubble (remember our bias though).
Spot the bubble – gold or stocks?
Although we’ll give them some advice. Next time they try to prove gold is in bubble territory, they shouldn’t produce a chart that shows… the opposite.
To back their argument that gold is a poor hedge against inflation, the Wells Fargo team used the following chart:
The chart shows since 1985, U.S. stocks are up 500%. Compared to a measly 100% gain for gold. Both are returns after inflation.
Which got us thinking: if gold is a “speculative bubble” after a 100% inflation-adjusted gain over 26 years, what does that tell you about stock prices which are up over 500%?
Look, Wells Fargo has fallen into a classic trap. First, it shows they don’t understand gold. And second, they’re comparing returns of two completely different asset classes.
Price rises alone can’t be used to prove a bubble. Just because stocks are up 500% doesn’t mean they’re in a bubble any more than gold being up 100% means it’s in a bubble.
Put another way, it’s not the comparative price rise that’s important; it’s the reason behind the price rise that counts.
As we see it, gold is a prudent investment. Sure, it can be volatile. As Wells Fargo points out:
“[D]uring six short months in 2008, gold lost more than 30 percent of its value. In the 1980s, in a little more than two years, the price of gold dropped approximately 65 percent.”
Excuse us for a moment while we glance at the above chart again… what do we see? That’s right. Huge share price volatility. And if we remember rightly, in six short months in 2008, the stock market lost more than 30 percent of its value too.
But that’s fine. Stocks are supposed to go up and down. And so is gold. Both will find and lose favour at different times.
The important thing to remember is that by itself, gold isn’t volatile. As Wells Fargo points out, gold doesn’t do anything… it’s just there. So how can something inanimate be volatile?
One single reason to buy gold
The answer is political. Central bank interference creates volatility. And that’s reflected in the gold price.
The chart below shows this perfectly:
While currencies were fixed to a set weight of gold or silver, the price was stable. That was mostly the case (although not entirely) until the early 1970s.
But as soon as gold backing of currencies stopped, paper or electronic money could grow without limit. That resulted in the gold price taking off.
In other words, it’s not that the gold price has risen to a speculative bubble, but rather paper money has been devalued into the ground. Remove the interference and you’ll remove the volatility in the price of money and gold.
But the one reason why we buy gold – because the interference won’t go away.
Granted, we don’t have seven reasons to counter Wells Fargo’s argument. But like Jason Segel in the movie Bad Teacher, we don’t need seven reasons. Because the one argument we have is “the only argument we need Shawn!”
The upshot is: if you think central bankers will stop devaluing paper money then sure, go ahead, sell your gold – or don’t buy it if you don’t own any.
But if, like your editor, you believe central bankers can’t help themselves and will keep inflating for as long as they can, well, our message is ignore the gold bubble rubbish and keep prudently buying gold whenever you can.
Cheers.
Kris Sayce
Money Morning Australia
Original Article: Return of the Gold Bubble Monsters
