What the 10-Year Bull Market in Gold Is Really Telling Us

gold bull marketIt may have been a global recession when it started, but it’s certainly not a global recovery, especially for the U.S.

While the Federal Reserve tinkers with the second phase of what it calls “quantitative easing” (basically, an indirect way to increase the supply of money in the system when all else has failed), the ramifications of which we will feel for months or years, other countries are raising interest rates to slow growth and fight inflation.

Australia, Canada and India have all increased their interest rates over the past several months. Why?

There are several reasons why interest rates have risen in these three countries. Firstly, the central banks are moving rates higher to get away from “emergency” low levels. Secondly, they want to cool economic growth. Thirdly, they are concerned about inflation, especially in India where consumer prices are rising at the second fastest rate amongst the G-20 countries.

But for America and Japan, it’s a very different story. They are not enjoying the economic rebound of countries like Australia, Canada and India. At the same time, the U.S. government has not imposed any austerity measures (like France and England did) to reduce government spending.

Hence, how can the U.S. dollar not be damned? How can gold not rise?

You have major developed countries raising interest rates. You have the U.S. in such a fragile state, where higher domestic interest rates are sure to cause the dreaded double-dip…where politicians have yet to announce any major cuts in spending to bring the $1.4-trillion annual deficit under control…where the central bank is trying every trick in the book to expand the money supply.

If you were a foreign investor, where would you put your money? In a country with rising interest rates and declining national debt or in a country where the economy is so pathetic that rates cannot rise and government cannot help but spend over $100 billion more a month than it takes in?

(In the longer term, the U.S. will have to unwillingly raise interest rates to make U.S. denominated bonds attractive; otherwise foreigners will no longer finance our debt.)

The 10-year bull market in gold is telling us that the U.S. will be dethroned as the reserve currency of the world.

At the same time, the bull market in gold is also telling us that the new reserve currency of the 21st century will not be fiat currency. No, not the Canadian dollar, not the Australian dollar or the Indian rupee (although they will continue to rise in price against the U.S. dollar)—none of these will cut it as a reserve currency (I do reserve judgment on the yuan).

But only old-fashioned gold, the yellow metal that was first accepted in coin format in 600 B.C., a currency that can only be mined with a man’s bare hands, a currency without any debt behind it, can be the real reserve currency of the world.

Michael’s Personal Notes:

Two news stories hit the wire last night that I want to comment on…

General Growth Properties Inc. has exited from the biggest real estate bankruptcy in U.S. history and split itself into two companies. General Growth, the second-large U.S. mall owner, filed for bankruptcy back in April 2009, when it was saddled with $27.0 billion in debt that it could not refinance.

In my opinion, there is more blood that will flow from the real estate bust. There will be more big-company casualties and home foreclosures have still to reach their peak. But, at some point, maybe one, two or even three years down the road, real estate stocks will become great buys. I’m obviously waiting anxiously for that time. The Dow Jones U.S. Home Construction Index is still down 80% from its 2006 peak.

While General Motors Co. has hit the road trying to round up investor interest in its IPO, all the major car companies are experiencing stronger than expected customer demand. This has propelled recent quarterly earnings. However, I believe the “easy money” from the auto stocks rebound has already been made. The Dow Jones U.S. Automobile Index is only 20% away from its 2006 high. A new softening in consumer demand, a “bump on the road” as they say, will whack the auto stocks back down. I’m staying away.

Where the Market Stands, Where it’s Headed:

The stock market has gone nowhere the past two days. I see some investors taking profits from the big 14% run-up stocks have taken since late August. But, frankly, I’m surprised that we are not seeing more profit-taking and lower stock prices, the lack of which I see as a big positive for the market.

The Dow Jones Industrial Average opens this morning up 8.8% for 2010. The bear market rally that started in March 2009 is alive and well.

What He Said:

“There is no mixed signal about this: Foreclosures in the U.S. will continue to rise, the real estate market will get weaker, and the U.S. economy will get weaker. Smart investors should seriously consider unloading their stocks of consumer-products companies that produce nonessential goods.” Michael Lombardi in PROFIT CONFIDENTIAL, March 12, 2007. According to the Dow Jones Retail Index, retail stocks fell 42% from the spring of 2007 through November 2008.