I was a fan of gold back in late 2000. I was fresh out of university and I was just at the beginnings of my contrarian way of thinking. At the time I was working as an assistant to an advisor and one of my jobs was to scour all of the mutual funds available for his clients to invest in and come up with a short list of the funds I liked. I was very keen on the gold sector for a few reasons:
1) At $285 gold was trading under the cost of production which I believed was about $340 or so making it fundamentally cheap.
2) Absolutely nobody except for the die hard gold bugs wanted to touch gold. The 10 year avg return of the gold funds I was monitoring was about -10%. When gold had its first bull market run in 2001 it was scoffed at. I vividly remembered Cramer and other so called pros doing this.
3) And this is the most important point; in early 2001 gold stocks were quietly outperforming other sectors forming a nice multi-month base. Whenever you see an out of favor sector outperform the market like this, it's a huge buy signal.
When I mentioned to my boss at the time that we should be putting 10% of client’s assets in gold sector mutual funds he resisted initially and of course, like a typical retail investor, he pointed out the previous poor long term returns. I managed to convince him to do this and it paid off big time for his clients.
The mistake I made personally is that I got off the gold train way too early....I've been agnostic about gold ever since it hit about $600 a few years ago but now I'm bearish and I'll tell u why.
Basically, gold is in a bubble right now. Actual physical use of gold has dropped significantly over the past year while investment demand has soared...in 2008 it was nearly double the amount of the 2007. That's a bubble folks. These people were buying gold fearing the end of global financial system was at hand. All commodities except for gold collapsed last year because people don't buy oil and copper when they feel Armageddon is nigh.
So, now that it appears as though we may actually avoid Armageddon we could very well see gold prices collapse quite quickly...weak dollar or not. The "fear premium" in gold is at least $250 if not more. Once that investment demand begins to falter, we will likely see a massive drop in gold.
From a sentiment perspective we've basically come full circle. If 10 years ago you said gold was going to $1000 people would have laughed. Now if you say gold is going to $2000 you would get several nods agreeing with you. Institutional investors wouldn't touch gold with a 10 foot pool 10 years ago...now they all love it. When both retail and institutional investors are fully on board....watch out....who will be the next group of buyers? Aliens?
Earlier this year a cousin of mine who knows absolutely nothing about investing said to me "I heard investing in gold is the way to go". Whenever I hear main street people talk about an investment they feel is good especially after having had a massive run up my contrarian radar goes off the charts. But as with all bubbles, they can get bigger before bursting. Gold has tested the $1000 mark twice and has gotten rejected. Now it's trying for a third time. A technical analyst came on TV the other day saying that gold is forming an inverse head and shoulders and looks poised to break out if it breaks $1000 this time. I've heard several other traders notice this too.
So I'm asking myself....will this break out happen and then eventually reverse to the downside or has gold already made it's peak and it's just starting to tank right now? I'm not so sure....As per the axiom I stated yesterday "the purpose of the market is to make the most amount of people look foolish". If that's the case then gold could very well break out past $1000 in a convincing way to suck in every last person before the rug gets pulled. It's a tough call right now....I'll be watching gold carefully.
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