I think most gold bulls have left town. In fact, gold prices are at a five-year low thanks (in par) to a strong U.S. dollar and oil priced at below $50.00 per barrel. And many are calling for gold to fall even further. But despite the euphoria on Wall Street and optimism about the U.S. economy, the fact is, there are plenty of reasons for gold bugs to remain more than a little confident about the return of gold prices in 2016.
What Should We Expect for Gold Prices in 2016?
Admittedly, most people predicting the glorious return to record high gold prices in 2015 have been caught a little off-guard. Used primarily as a hedge against economic uncertainty, gold prices have been declining since hitting a nominal record high $1920.70 in August 2011. Trading below $1,100 for the first time in more than five years, gold prices are down roughly 42% over 2011 highs.
But the fact of the matter is, the erratic movement of gold is not a result of sound, long-term reasoning. Rather, it is the result of blissful short-sightedness on behalf of those with access to cheap money. This is in sharp contrast to how those without money to invest are managing.
When you take into consideration everything Wall Street has been ignoring, the gold price forecast for 2016 looks bullish.
Top 4 Factors Burying Gold
What are the primary catalysts driving the price of gold lower? Janet Yellen’s unbridled optimism about the U.S. economy and interest rate environment is making gold speculators bearish.
Yellen said she expects the Fed to raise its federal fund rates at some point this year; the first rate hike in nearly a decade. While she cites some concern with the labor market and inflation, it seems she would rather see a so-called smaller rate hike in 2015 than be more aggressive in 2016. (Source: financialpost.com, July 21, 2015.)
The decision to raise rates this year is not unanimous. Minutes from the June 16-17 discussion show that one Fed official was ready to raise rates right away. Most, however, don’t believe the U.S. economy is strong enough to absorb an interest rate hike. (Source: theguardian.com, last accessed July 22, 2015.)
Pressure on gold prices can also be explained in part by the strong U.S. dollar—the currency in which gold is priced. Since July 2014, the U.S. dollar index has been on a tear, up 23% year-over-year. Because gold is priced in U.S. dollars, it often trades in the opposite direction of the world’s reserve currency.
(Chart courtesy of www.stockcharts.com)
Then there is China; one of the biggest buyers of gold bullion. Information from the up-to-date data-shy country shows the country’s gold bullion holding increased much less than anticipated. (Source: wsj.com, July 17, 2015.)
“Official” numbers of Beijing show the country has 53.32 million troy ounces of gold; up 57% from the 33.89 million ounces at the end of 2009 (the last time the country updated the figure). (Source: pbc.gov.cn, July 22, 2015.)
While that sounds significant (China is now home to the fifth-largest holding of gold), the stockpiling of 100 tons per year from one of the world’s biggest economies is modest when you consider it has said its goal is to increase its reserves of precious metals and foreign currencies. China has never been shy about excess and pageantry. So you can decide whether or not you believe the figures released from Beijing.
Finally, if gold is considered a safe haven for investors during turbulent economic periods, then the stock market is saying to dump gold. The S&P 500 is up almost 220% since bottoming in 2009. While the S&P 500 is up just three percent year-to-date, it is showing support near 2050. On top of that, it quickly rebounds to the upside after taking a short breather.
2 Major Indicators Point to a Significantly Overvalued Stock Market
Sustained corrections are a rarity in the world of cheap money. And thanks to ultra-low interest rates and those with access to cheap money, the stock market is the only racket in town. And they’re taking advantage of it. No matter what.
The S&P 500, an index that captures 80% of the available market capitalization, is probably the best measure of the health of the U.S. economy. Investors can be forgiven for thinking all is well with the S&P 500 trading near 2120.
In the first quarter, the U.S. economy experienced negative 0.2% gross domestic product (GDP) growth. While not abysmal, it’s certainly nothing for the world’s largest economy to brag about after trillions of dollars of quantitative easing and government intervention. And it’s hardly reflective in stock market evaluations.
If stock markets are only as strong as the companies that make them up, then the second quarter doesn’t look any better. In the second quarter of 2015, S&P 500 companies are expected to experience a 4.5% year-over-year decline in earnings. That would mark the first decline since the third quarter of 2012 and the biggest one since the third quarter of 2009. (Source: factset.com, July 22, 2015.)
Not surprisingly, two major indicators are pointing to a seriously overvalued stock market.
i) According to the Case Shiller CAPE PE Ratio, the S&P 500 is overvalued by around 63%. The ratio is currently at 26.18; that means that for every $1.00 of earnings a company makes, investors are happy to fork over $26.18. The last time the ratio was this high was in 1929 (enter the Great Depression) and 1999 (watch the dot-com bubble burst). (Source: Yale University, last accessed July 22, 2015.)
ii) Warren Buffet calls it the “best single measure of where valuations stand at any given moment.” Who am I to challenge him? The market cap to GDP ratio compares the total price of all publicly-traded companies to GDP. A reading of 100% suggests U.S. stocks are fairly valued. The higher the ratio over 100%, the more overvalued the stock market.
The Warren Buffet indicator is tracking the Case Shiller Ratio. Based on the historical ratio of total market cap over GDP, the stock market currently sits at 126.6%. The Wilshire 5000 Total Market Index is at $22,413 billion; which is 126.6% above first quarter U.S. GDP of $17,693 billion. (Source: bea.gov, July 22, 2015.)
The Warren Buffet Indicator has only been higher once since 1950; in 1999 when it stood at an eye-watering 153.6%. It only stood at 108% before the housing bubble burst in 2008.
When the broader stock market experiences a real sustained correction, investors will flock back into gold.
This (Unfortunately) is Why Gold’s 2016 Forecast Looks Bullish
So, gold prices are getting hammered because the U.S. dollar is doing well. The stock market is at record highs. China isn’t hoarding as much gold as we thought. And the Federal Reserve is going to start to hike its federal fund rate because the economy is getting “better.”
Unfortunately, the foundations holding up the stock market are shaky. And the mirror reflecting the sunny U.S. economy is cracked.
In light of the booming U.S. economy, there are nearly two million more children living in poverty in the U.S. than during the 2008 recession. Nearly one quarter of U.S. children (22% or 18.7 million) live below the poverty line. That’s up from 18% (16 million) in 2008. (Source: aecf.org, last accessed July 22, 2015.)
The official poverty line, set by the U.S. Department of Human and Health Service, is $24,250 for a family with two adults and two children. Suffice it to say, children living under the poverty line will not have everything at their disposal to succeed in life. Yes, this is in spite of everyone being created equal. (Source: hhs.gov, last accessed July 22, 2015.)
Despite the economic recovery, an alarming number of people are receiving food stamps. In 2014, 46.53 million Americans received food stamps. That’s a 64% increase over the 28.2 million who received food stamps before the recession in 2008. (Source: usda.gov, last accessed July 22, 2015.)
The unemployment rate is at an election platform worthy 5.3%. But the underemployment rate is still above 10%. Inflation might be in range, but real average hourly wages (dollar amount minus inflation) fell 0.4% from May to June. Costs are going up monthly while wages are going down.
For the roughly five percent of American workers that make minimum wage or less, and for those whose wages are not growing, this not good news. Nor is it good news for a country that gets 70% of its GDP from personal consumption.
Again, not a surprise, but despite the growing optimism in the U.S., the International Monetary Fund (IMF) has taken a different tact. It expects the global economy to expand at just 3.3% this year. The IMF has revised its 2015 growth projections downward three times since July 2014. The impetus, of course, has been China’s lagging economy, Japan’s cyclical visits to and from recession, and Greece’s strain on the already-weak eurozone. (Source: imf.org, last accessed July 22, 2015.)
If you’re a gold bug, you should care about the state of the global economy because roughly 48% of sales from S&P 500 listed companies come from outside the United States. And that dependency is growing. In 2013, that number stood at 46.3% and 46% for each of the previous four years. (Source: spindices.com, last accessed July 22, 2015.)
Wall Street might have turned its back on gold bullion and is downplaying the need to diversify your investing portfolio, but Central Banks around the world aren’t listening. In 2014, global Central Banks purchased 477.2 tons of gold, the biggest amount in 50 years. In the first quarter of 2015, central banks bought 119.4 tons of gold. This represents that 17th consecutive quarter where central banks have been net buyers of gold. (Source: gold.org, last accessed July 22, 2015.)
Are central banks looking to diversify their holdings away from the U.S. dollar? Or are they looking for protection from a global meltdown? What do the central banks know that the rest of us don’t? Wall Street isn’t fond of buying gold when its prices are depressed, but central banks certainly are.
If someone had visited the U.S. from Pluto on an exchange program last week and looked at the state of the U.S., you’d probably think all is not well in the world’s biggest economy. Wall Street is doing really well and the wealthy are getting wealthier.
Gold Price Forecast for 2016
Even as an investment, Wall Street has a double standard when it comes to gold forecasts. The talking heads never have trouble reminding investors that the economy and stocks go in cycles. And that after ever thrashing, stocks eventually climb to new highs, as is evident by the long-in-the-tooth bull market following the gutting in 2009.
The same logic must hold true then for precious metals like gold. If the economy and stock market cycles, so too does gold. And the best time to profit off stocks and gold is not when they are at record levels. It’s when you think they are at good entry points and conditions point to a rebound.
Gold was out of favor on Wall Street during the late 1990s and word on the street was that gold would never rally again. Gold bullion did. And gold bullion will again. It’s the way the global economy works.
What is the gold forecast for 2016? Will it be a solid year for gold bugs? Will gold prices rally and top $2,000 an ounce? It’s hard to say what the U.S. and global economies have in store for us. One thing is certain; there are a large number of catalysts that could propel gold prices seriously higher.