The Beginning of the Gold Era
Gold has had an amazing run for a week, and on Tuesday morning (9/8) at HK market around 2-3am EST, Gold finally broke $1,000 again, an important key resistance level. It seems that the monthly chart has given a better resistance and support levels than the daily or weekly chart, from a long term perspective. Please see the monthly close chart to now from early 1970s when U.S. finally gave up the gold standard linking gold to US dollar.
Let us review the 5 obvious key levels for gold from this monthly close chart above. As you can see, each resistance level becomes a support level once gold breaks out. This is why the monthly chart provides a better prediction on a long term basis and gives a more solid perspective about future gold movement than a daily or even a weekly chart, which tends to be more volatile and misleading on tops and bottoms.
Most people refer to the current gold bull market as a repeat of the 1970s. This is true since there are many similarities of price movement between the two. From the chart above, we can see five major levels since almost 40 years ago from the early 1970s, after the U.S. government abandoned the gold standard of fixing gold at $35/oz. Let us review them one by one.
Level #1: $100/oz. Once the cap of $35 was lifted in early 1972, the floodgate is open. We saw gold quickly explode to $200 in 3 years on the monthly chart (spot gold price was over $200 on a daily chart). During that time, gold did take 2 years to rise above the $200 mark until 1974. Then there was a severe correction, bringing gold back to $100, a 50% retreat, lasting for almost 2 years. The $100 mark, once broken, became a resistance in 1976 for gold. Gold has never fallen below $100 since.
Level #2: $250/oz. Similar to the correction from May 2006 to August 2007, gold took off again in a spectacular run, from $100 all the way to over $800 (daily spot price) in 3 years. At the peak of the then bull market, people were waiting in line for banks to open to buy gold, and those days may be very well ahead of us. However, there was a scary correction toward the end of 1978 when gold broke below the $200 level, resembling the recent correction in 2008 when gold failed to break $1,000 and headed down to $680 (more on that later). Even so, gold at slightly below the $200 level provided the support which once was resistance back in 1974. I decided not to include $200 but combine it with $250, a much more significant level.
For the next 20 years of bear market for gold, you can see how strong the support level of $250 is. In the severe corrections of 1982, 1985, 1992, especially 1999 and eventually 2001 when Mr. Gordon Brown (now prime minister of Great Britain) was dumping 2/3 of her majesty's gold, no one was able to break this level even with 20 years of gold manipulation, dumping and futures shorting from the collaborative and joint efforts by Fed, western central banks and a few Wall Street bullion banks. It is believed that without this heavy manipulation by governments in late 1990s, and if we let gold run its natural cause from pure cycle standpoint, the bear market of gold should have bottomed in the mid-late 1990s. But even with all these tremendous efforts, they could only manage to knock gold down by merely $50/oz! What a waste of our taxpayer's money and her majesty's gold. The only winners were those few Wall Street bullion banks which were shorting futures in order to depress gold price while enjoying the interest rate spread from what was borrowed from the government to what was earned from the market.
Level #3: $500/oz. In 2003 and 2004 when gold broke $400, I already sensed this gold bullish run was for real, unlike any of the previous bear market rallies, a change in major trend. But I was still not 100% certain. However, when gold broke the $500 level in 2005, again the floodgate was open. I felt very confident that gold would never return to the $500 level again for the life of gold (again on the monthly close chart). The 2006-2007 correction looked scary and long, lasting a year and half, like the 1975-1976 one. However, gold didn't get even close to the $500 level (stopped around $550).
Level #4: $700/oz. in 2007, I declared if gold can stand comfortably above $700, then gold will never drop below this level forever on the monthly close basis. The credit crisis in 2008 was the worst among all corrections, including the 1929 market crash. In order to survive, institutions, especially hedge funds, were dumping everything including gold to get liquidity (cash), driving everything below liquidation level. Gold is no exception and it was steamrolled by the financial crisis like all other assets. On the daily chart, it broke $700 to reach $680. However, from the weekly chart, let alone monthly chart, gold didn't break $700 which was a big relief. Gold, as the ultimate currency, survived the $700 test in even the most fearsome correction beyond anyone's imagination.
During the last 2 years, you have heard many renowned gold experts who "guaranteed" that $800 would be the unbreakable support at this latest correction. But I have never treated $800 as a meaningful support level. The reason lies in 1980. Just look at the monthly chart above. Everyone is talking about $887.5 gold in 1980, but it was just a blip lasting for a few minutes. This price was not even showing up at the daily close chart, let alone monthly chart. In fact, gold had never stayed above $700 for a month, not even close. Worse, long term gold investors buying gold above $500 (Level #3) had not seen any profit from 1981 for almost 25 years, until gold finally broke $500 in 2005 for good. The same thing happened in 2006 - gold briefly broke $700 to reach $730 but didn't stay there for long. It was not until 2007 when gold decisively broke the key $700 level that I could feel comfortable about it, and it has done well so far. If you are not a short term trader and ignore the daily volatility, it seems that the monthly chart will give you a better picture for the long term.
Level #5: $1,000/oz. A even round number of $1,000 is always an important level for any actively traded securities. Since early last year, gold has attacked this level 3 times, including the current 3rd time and succeeded breaking it. As it is often said, the 3rd time is the charm. Will gold stay above $1,000? Who knows. Technical analysis is always after the fact and it only tries to get insights from historical patterns and there is obviously no guarantee on anything. However, if this 40 year pattern holds and gold stays in the 4-digit territory for a month, the chance is very good that gold will never fall back to $1,000 level again on the monthly chart. This implication is huge, which means anyone who has bought gold before today below $1,000 will make a profit, a true safe haven.
The discussion above is from a technical perspective. Fundamentally, gold can't be stronger now than ever. In 2007, I successfully predicted the collapse of the banking industry and $1 trillion in losses. Looking back, my prediction was too conservative, and probably should have said several trillion. The banking industry has already gone through the first phase of free fall, with the Fed dumping trillions of taxpayer's money implicitly and explicitly to provide some temporary shoring. However, the upcoming second dip will be much worse, with the commercial real estate market taking the same percentage hit as its twin sister, the residential market, which will suffer again from all the ARM interest rate increases for the next 2 years.
The number of bank failures will be like fireworks in the sky one after another in the next two years. Don't forget the total number of institution failures during the S&L crisis approached 4 digits (1,000). The fundamentals for the S&L crisis are no different than today's since both are deeply rooted in the crash of the real estate market, except back then there were no tons of "creative" and toxic financial products. In addition, most of the S&L institutions were smaller than a typical bank, on average, in assets and social implications, so today's failure of each bank has about 10 times more impact than a typical S&L institution then. Imagine 500 bank failures, as Wilbur Ross predicted.
The worst is yet to come. The first phase of the banking crisis has only wiped out bank equities, but the second phase will wipe out many bondholders. However, eventually I expect customer deposits will be protected, with the FDIC drawing a huge credit line from the Treasury Department, otherwise the $10 billion on their current balance sheet would get wiped out overnight. In the first phase, government through its TARP program decided to take the hit by inserting itself between equity and debt to protect the bondholders of big banks. This is why we saw strange things such as Bear Stearns' equity owners being wiped out while their bondholders made profits with their bonds being upgraded to the same level as JP Morgan bonds. Why did all big bank bonds suddenly become Treasuries guaranteed by the government? What happens to the basic corporate structure of capitalism that both equity and debt share the risk together?
TARP was ill-fated from the very beginning. When a few former banking "elites" and now government officials decided not to rescue Lehman since the firm was not politically connected, had no political muscle to implicate them and was the fiercest competitor of their former employer, they decided not to grant Lehman the much needed but small capital request. However, when AIG was in hundreds of billions of dollars in trouble, much of which was owned to their former employer and would have been wiped out along with their huge stock positions, they determine to save AIG at all cost by using taxpayer's money. The money then flowed from AIG via the infamous toxic credit default swaps to become bonuses of their already super rich bankers and traders, while many of the middle class and working class have never received a single bonus in their life. It is basically saving the rich by ripping off the poor, all in the name of free market and capitalism. This kind of behavior raises many ethical and moral issues of conflict of interest, credibility, justice and fairness of our whole social system and the people who are leading them.
When the second economic dip comes, dumping money like we did during the first one won't work. We have already seen the sign of diminishing effect. The biggest impact is always when it was done the first time. The more money being dumped, the less effect it has on the system. Pretty soon we will only see the unexpected and unwanted negative consequences of this monetary inflation. This is really common sense and doesn't need a PhD in economics like Bernanke to do a dissertation and to run millions of Monte-Carlo simulations to prove it.
Helicopter Ben, an "expert" on the Great Depression, thinks whenever he dumps more money, the system will react. The more he dumps, the bigger the reaction from the system. He forgets the human system doesn't behave like the math model in his computer, especially when the credibility and fairness of the system is in deep trouble. The only good thing about reappointing Bernanke is it will eventually put the whole existence of Fed into question. It is a "fool me once and fool me twice" thing. The continued dumping of money will only scare people into anticipating unexpected negative consequences, including hyperinflation and the collapse of the US dollar. This day will come after the second economic dip of the depression, or even sooner.
It leads back to gold. In this sense, gold not only saves people during inflation, but also during depression. Gold is the only credible, trustful, fair, safe and honest asset left in the whole universe. It is the foundation on which all other assets are built upon. This is the only asset which can, once and for all, end the capital manipulation, distortion, rip-off, and cover-up by Wall Street during 20 year Greenspan era.
With gold now in four digit territory, it is the end of an era and is the beginning of a new era: the gold era.