I don't think well get the low 350's on this run. Once we hit 400-410, then I think you'll see the 350's. JMHO. ============================================================== Hi ld, Well, that remains to be seen, but I do have to admit that the PoG/goldshares are acting quite well today. The following essay bolsters your view but I remain unconvinced that we're going materially higher from here in the near future.
Stock Markets and the Gold Price
By: Daan Joubert, SAGolds, saGOLDS.com October 13, 2003
Firstly, before we pick up the main theme of the essay, it is worth mentioning that gold has been quite successful so far at holding above $370 as key psychological support. At the same time, short term technical support around $368 also held on the occasions when gold dipped below $370. This is promising in terms of what was written in last week’s essay about the resilience of the bullion market despite a number of efforts to trigger a sell-off on Comex in the wake of the $20 drop ten days ago.
With gold now above $370, if this rising can be sustained it hints at an attempt on $400 in the not too distant future.
It is well known that gold and the dollar appear to sit at the two ends of a see-saw. When the one rises, the other tends to fall. Much the same is true of gold and equities – a strong equity market generally means that bullion and gold stocks are not much in favour. This is not too surprising, since the dollar and equities tend to move in synchronisation and we know the dollar and gold move in opposite directions most of the time.
Over the past 6 months we have seen an extraordinary bull market in the blue chips on Wall Street and an even greater buying spree on the Nasdaq. The Dow Jones is up almost 30% since early March this year, while the Nasdaq is up 50% over the same period and a massive 71% over the past year.
Looking at this good performance, it is clear that only the weaker dollar balanced out the effect of the rampant bull market in equities – with tech stocks leading the way as they did during the late 90’s.
At the same time, we have seen consumers maintain and even pick up on their spending, further turning the clock back to the goldilocks days leading up to the end of the century. This raises the question whether we truly are in the early phases of a new major bull market or whether it is another bubble – the sinister ‘echo’ that often follows the collapse of a major equity or commodity bubble when frustrated and hurting investors believe that the ‘correction’ is over and that it is time to pile into stocks again. Generally in desperate hope to make up on the losses suffered during the collapse of the main bubble.
Of course, all the favourable news on the US economy, such as new employment and a low unemployment rate. Combining with and boosting investor optimism and consumer spending, the future is beginning to look very rosy. Surely even hardened bear must be wondering whether they are not reading the market totally wrong. By all accounts the bull is snorting and pawing up dust, ready to charge along.
In fact, some statistics show that the bull has become a bubble, as is illustrated by two shares mentioned by Steve Sjuggerud of The Daily Reckoning. Consider the following: the share price of AskJeeves.com – definitely not one of the most exhilarating of the surviving dot.coms of the 90’s – has increased 22-fold over the past year. If one had invested $1000 in the company a year ago it would now be worth $22000. This is the equivalent of Didata going from R3,65 in October 2002 to R80,00 today. While it is something to wish for if one owned the stock, this is most unlikely to materialise.
However, another Nasdaq high flyer NetEase outperformed AskJeeves by some margin over the same period. It now has a market capitalisation of over $2 billion that places it among the SP500 stocks, the elite of Wall Street. Investors appear to disregard the fact that its sales – please note, not earnings, but the annual turnover – was only $27 million. If one generously assumed that it was possible to make $5 million profit on sales of $27 million – which did not happen, only as a measure of scale – then the PE of NetEase would be about 400. If by some wave of an accountant’s pen $1 million of profit could have been realised, the PE would be all of 2000.
As there are no profits, one can only calculate a ratio of price to turnover. At a value of 74, the price-turnover ratio is very deep in bubble mode compared to normal evaluations where market cap is rarely more than two to perhaps four times annual turnover.
These are not isolated cases on Nasdaq, although they tend towards the extreme. It goes to show that the belief among American investors that earnings can consistently grow at a steeper rate than what the economy does has not been dented by what has been happening to the markets – particularly the Nasdaq – since 2000. Even many economists appear to have fallen for this bit of economic heresy, if one listens to their justifications of the very high valuations of many stocks.
Single companies can outperform the economy for quite some time during the early part of their life cycle, while they grow into a new niche or acquire other business in the same sector – but once a company has grown large relative to its market, growth tapers down to match the economy at best. The stock market as a whole grow faster than the economy only when growth comes off a very low base, such as after a recession. Once the economy is up to speed again, earnings decline to match the economy.
Outperformance over a period of many years requires a low starting base as well as more than eager assistance from the accountants, as was evident during the late 90’s, when top management applied their imaginations more than anything else to conjure up the kind of earnings investors were expecting – and for which they were willing to pay.
With the PE of the Nasdaq sky high again – with margin debt on the hi-tech stocks at new record levels – what we have is a desperate attempt by households whose balance sheets were ravaged by the subsidence in equity prices over the 2000-2002 period to recover their lost wealth. In pursuit of this objective, momentum play is now being taken to an extreme rarely seen even during the 90’s – all based on the assumption that tomorrow will deliver a profit when it brings along a buyer willing to take on the stock at an even higher and more absurd price..
This attitude is no different from the time tulips were all the craze in Holland, or when land in the South Seas had the London exchange on a roll or when investors did not think it strange during the late 90’s that 14 companies in one hi-tech sector were all being priced on the basis that they will have 40% of that sector in three year’s time; that investing in one of these stocks was out and out a lottery, with relatively few winners and many losers – and where even the winners could turn out losers, given the absurd values investors were willing to pay while the euphoria lasted.
The implications
What does this have to do with gold?
Very much. Among others, it is the reaction of some relatively few sober investors to developments such as a 22-fold increase in the stock of a dot.com in just one year that has been supporting the gold price over the past few months. They remember what happened in 2000 – to the Nasdaq and then to gold; they know it is going to happen again and that it is much better to own gold than the AskJeeves of this world.
Yet, while taking the gold price to above $390, the surge in demand for gold has not been impervious to the raids on the yellow metal at opportune moments in time. The gold price was knocked lower on more than one occasion during recent months and the decline has been limited, in extent and in duration, but even greater demand is needed to finally break free of the chains forged by the short sellers.
When investors come to realise the absurdities of Nasdaq and other valuations, when the Nasdaq and Wall Street crash in even more spectacular fashion than in 2000, many more investors who still have some funds left will be looking to gold as their safe haven of last resort. Foreign investors in the US in particular, suffering from both a crashing stock market and a dollar in deep decline, have a closer memory of the role of gold in history; they are the prospective new buyers that will trigger a surge in demand for gold.
A collapse of the Nasdaq is not an absolute requirement for gold to break free – if enough investors get scared simply of the prospect of such a development and flee into gold it would be sufficient. Directly or indirectly the existence of such absurd valuations as those of AskJeeves and NetEase and others will create a feeling of great concern among those investors who have painful memories of three years ago and some of them will remember what gold had done since then – and may continue to do.
Of course, when the day of reckoning comes for these absurdly priced stocks, all other stock markets around the globe that are more reasonably valued will not escape the sell-off due to originate in New York. As in the past, the shock wave out of the US will have a disproportionately large effect on other stock markets of the world – in London, Tokyo and in Europe.
Conclusions
Gold has an intrinsic value, not least because it carries no counter party risk. In a world of paper investments, where it could even become quite scary to hold US Treasuries – for a long time considered the most risk free of instruments – gold offers a safe have that has no peer. As turbulence and turmoil in the markets continue to increase, rapidly escalating the degree of uncertainty, more and more investors will look to gold as an essential part of their investment portfolios. This will be good for shares of gold mines, but it will be even better for bullion – this demand is to become the lever that will open the way to a much higher gold price.
For that reason, the more investors become aware of the precarious state of the Nasdaq and other paper markets, the sooner that day will dawn.
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