Another Look at Gold BubbleOmics

The recent gyrations of the Gold price are rather typical of a bubble about to pop, with lows coming in lower than the upward trend-line of lows. Although figuring out exactly when a bubble will pop is a bit like figuring out when a volcano will blow…there are rumblings, false alarms…more rumblings…and everyone says “don’t be a scaredy-cat” then….BOOM.

George Soros says Gold is the ultimate bubble, that’s why he bought in a while back, what we don’t know is when he sold (did he?) or when he will sell? But either way if the King of Bubbles says it’s a bubble, that’s good enough for me.
Long-term the best driver of a model to predict the price of gold is the price of oil; that gets you a 74% R-Squared on annual data since 1971 [ref]  http://www.marketoracle.co.uk/Article14473.html [/ref] By that marker Gold is 55% over valued right now if oil is priced correctly, which I think it is.


The black line on that chart is what the price of Gold (in this case the ETF GLD because the data is easier to download), “ought” to be if it followed oil prices.

This is my explanation of the “story”.

• In 2008 there was a bubble in the price of oil (manufactured probably by the combination of Clueless George buying oil for America’s Strategic Reserve plus Goldman Sachs “doing God’s Work”).

• Then there was a bust, and the pivot point (the square root of the peak multiplied by the trough) which gets you to the “fundamental” then, was at $72 GLD (interesting how they both coincided on that day).

• Then GLD which was not mispriced before, chugged along and did not follow oil down its trough (no reason why it should have), but then there was uncertainty about “the banks”, and a flight to the safety of the “ancient relic”.

• Oil found its “fundamental” quite quick – and that was a mite lower than in 2008 thanks to reduced demand, and the “trough” lasted about as long as the previous bubble (classic bubbleomics).

• Since then, according to that logic gold has been pretty much 50% over priced.

What that says is that at some point it’s going to bust down to the “fundamental” divided by 1.5 = about GLD = $50 or thereabouts. When is anyone’s guess, although the lower lows, is like a sort of rumbling of the volcano.
The fact that the ECB has produced a hilarious set of smoke and mirrors to trump the Geithner Stressed Clown Tests (and thus draw a line in the sand saying that if anyone wants to speculate against European Banks they are going to turn on the ECB printing presses (no one thought they had any but they do))…that’s the important message, don’t be fooled by the red-nose that Jean Claude is wearing… means that “stability” has returned.

So if indeed the lousy “assets” held by European banks are not worth the paper they are printed on, no one is going to find out just how lousy they are for quite some time. And that might mean that Gold’s place as the refuge from lunatic central bankers, may not be needed for a while, the central bankers have flexed their muscles and defended the integrity of their fiat currencies, and if you want to mess with the ECNB or the Fed – well you will need to be sharper and to have bigger pockets than Soros.

Remember, a drop in the price of gold would make the central banks ecstatic, their scorecard is measured in the price of Gold, the higher it is, the lower their score.