If you could package an antidote to financial fear it would look like... a bar of gold.
For those who fear future inflation; for those who fear paper money is not worth the paper it’s printed on; for those who fear debt defaults; for those who fear political unrest – the ultimate security is a gold bar. Many gold fans believe money should be backed by gold. Gold itself is always backed by fear.
It’s impossible to say how high gold will go because it’s impossible to say how much people will pay to allay their fear, whether their fear is based on expectations that turn out to be true or on expectations that turn out to be false. Gold is the ultimate fear trade. It will go up as long as there are buyers willing to pay for imagined or real “insurance‐against‐fear” that gold embodies.
Gold has gone up +25% this year and +19% since June 30th alone to $1,781 a troy ounce on August 10th. Since the end of 2000 when it was $272 an ounce, it has risen + 554%. (By the way, in the same 101⁄2‐year period the CPI was up +29%). We’re told gold could go much higher. It's still below its 1980 inflation‐ adjusted peak of $2,450 an ounce. Could it breach that barrier? Rise to $3,000? To $5,000?
But one fine day gold will peak. And when it does, watch out!
Gold will peak because the fear that backs it will peak. And fear will peak for one of two reasons. Either fear will give way to optimism. Or fear will give way to a reality which, however bad, is as bad as it gets and less bad than the imagined fear.
Either way the day will come when buyers of fear‐protection will be a little less afraid than they were the day before. And when they are, they will look round to cash in some of their gold bars. They will look for buyers who are as afraid today as these sellers were yesterday. For a day or two these early sellers might be lucky. They might find that they are among the very few who are feeling better.
But a funny thing will happen. If you were buying gold at higher and higher prices to satisfy your imagined fears and now reality, no matter how bad, is better than your imagined fears, the chances are that you are not alone. Very soon others will see reality as you do – as less bad than their imagined fears. Fear is contagious. But so is relief and optimism, even the first stirrings of optimism. It will not take weeks or months or years for relief and optimism to spread. It will take days. It is always so. For the simple reason that human emotions tend to be binary. You feel good. You feel bad. You feel happy. You feel sad. People don’t measure their emotions by small degrees but by states – states of being. And these states, when they change, change suddenly. So suddenly that it’s hard to remember how one was so optimistic yesterday and so fearful today or so fearful yesterday and so optimistic today.
All products need customers. Customers have needs. I need a car. I need Crackling Oat Bran cereal. I need a vacation. I need a coffee. I need, I need, I need. How much the need is driven by an external reality (my car is totaled, I need a new one). Or by an internal reality (my car is old and boring, I need something new and exciting). Or by some combination. In the end, need drives demand.
For most products most of the time need varies between steady (I need toothpaste) to cyclical (I need a new suit). But in the case of gold need varies between steady (for industrial use) and binary (I need it when I'm scared; I don't when I'm not). The non‐industrial customer base for gold either needs gold because fear is in the air or doesn't need it because relief and optimism is in the air. It’s either crowding into the market place clamoring for gold at higher and higher prices to buy protection against fear. Or it’s left the marketplace empty to go elsewhere because its fear has dissipated. Imagine if the customer base for toothpaste acted this way: one day in the drugstores because people were afraid their teeth would rot; the next day nowhere to be found because they felt invincible against tooth decay. Yet that is the situation with gold.
So when gold peaks I venture to say its drop will be precipitous. It will be precipitous because its customer base will vanish. The customer base will vanish because its fear‐based need will vanish.
Years of rising will be undone by days of falling. A binary market shift will happen just as it did in 1980 when gold dropped from $835 to $486 or ‐42% in 11 weeks. Fear‐protection buyers will vanish just as they did then. And remember the drop in gold happened about 2 years before the big inflation of 1968‐81 peaked at the end of 1981 and about 31 months before the stock market began an 18‐year bull run in August 1982 that took the S&P 500 from 102 to 1,469 by the end of 1999 or up over 14x. (Yesterday the S&P closed at 1,120.) Shifts from fear to relief and optimism do not need billboard‐sized announcements to trigger them. Our emotions can flip imperceptibly from one state to another. All it takes is some action or event to convince people that the direction of their imagined fears will be down, not up.
Having said all this I completely understand why people buy gold. There are big problems in the world – really big ones. If you read these BLOGs you know I’m attuned to them. Where else do you put at least a portion of your money if you think the financial world will suffer repeated mega‐stresses in the years to come? It's comforting to know that if all else fails you have an asset in your vault whose scarcity value and other attributes have been recognized for thousands of years. If worst comes to the worst it's comforting to know you can take your bar of gold and trade it for some good or service in the future – that you will have the universal asset of choice if paper money does a Weimar Republic or other Armageddon scenarios come to pass.
So while it is literally impossible to predict how high gold will go (and how many months or years its climb might take) because it is impossible to predict the collective quantum of fear that will drive it higher, I have the highest confidence in predicting that gold will plummet dizzyingly the moment the equation changes.
The only thing we have to fear is fear itself said FDR. In the world of gold it's different: the only thing we have to fear is optimism or relief. So if you’re buying gold at $1,781 it’s possible you will never see that price again – on the way up and on the way down.
— John A. Allison