Mark and I remember March of 2000 when several individuals called to inquire about our opinion of Cisco – during the two days when it was the largest company in the United States based on market capitalization. When we asked these individuals if they knew what Cisco did, not one of them could tell us. To us, that was a tell tale sign that the technology bubble was about to pop. This same phenomenon occurred last year when many were asking about oil when it was over $140 a barrel. Today oil is in the mid 70’s – down 50% in value since last year. Eerily, we are now getting similar questions about gold. Last week, three clients asked me for our opinion on gold. The feeling I had was similar to the technology and oil bubbles. Can the run in gold continue – sure it can. However, we believe there is greater risk of a correction in gold prices than an increase in gold prices. Gold is selling for two reasons. The first is the fear of a total collapse of the United States financial markets. We don’t believe that is likely. The second is for a hedge against inflation. In order for inflation to exist, you need continued growth in the money supply. During gold’s last run in the late 70’s, the money supply was growing at a 13+% annual rate. The latest numbers show that the money supply has shrunk – not expanded – since June of this year. This is deflationary, not inflationary. Such a drop in the money supply does not bode well for gold’s continued ascent.
To see this trend, click on the link below. The Federal Reserve pumped money into the financial system late last year to provide liquidity during the financial crisis. They are now taking away the punch bowl. You can see this change in the MZM index. The MZM index is a broad money supply index that measures financial assets redeemable at par value. It includes M2 and all money market funds.