This is Part VIII of our multi-part series of questions and answers with Robert Prechter, the world's foremost authority on Elliott wave analysis. (Excerpted from an hour-long June 19, 2010, interview with Jim Puplava's Financial Sense Newshour.)
...Jim Puplava: I want to move on to the topic of gold. It's gone up for ten consecutive years, including this year so far. I know at times you've recommended gold after severe pullbacks, but you've been generally bearish towards the metal. Has its relentless rise surprised you?
Robert Prechter: Yes. It went higher than I originally thought. I actually put out a very bullish comment on gold the day of the bottom in February 2001. Barron's had run an article that day showing that nobody was bullish; even the industry was bearish, and they were putting out hedges. I said this is a real good buy. But I only rode it up for about a year, year and a half, and it's gone much higher than I originally thought.
However, I also think that it's very much a situation such as we had in the oil market, or in the real estate market, or in the stock market, or now in the muni market. It's an area where people have focused particularly in the last two years at the expense of other areas. And that means it's going to probably pay the price and have a serious correction.
There are two things that make me feel that way. First are the non-confirmations against other metals and the gold stocks. The XAU topped in 2008, platinum topped in 2008, and silver topped in 2008, so gold has gone to new highs in the last two years all by itself. The second thing that I think is important is the fact that at a recent peak in gold we had a reading from the Daily Sentiment Index put out by MBH Commodities that showed 98% of futures traders in the gold market were bullish. That's the same reading we had on the euro when it topped out and the dollar bottomed. It's not a good time to be betting that gold is going to keep going up.
I'm very patient. I think we're going to have a buying opportunity in gold sometime in the next few years. I certainly wouldn't want to be overly leveraged in gold right now. It's stretched about as far as it's going to go. (I also realize that I've said that a couple of times.) I think people in gold stocks have been very disappointed for the last two years; they've actually lost money even though gold has made new highs. It's definitely not a monolithic market. It's the single market that's doing well.
I'll also point out that most of the people who believe in hyperinflation do not talk about those other markets very much. I think they're being selective in pointing one finger, and it's better to look not only at gold but also at these other precious metals, the gold stock index, and especially the CRB index of commodities, which includes oil and agricultural commodities and everything else. In a hyperinflationary environment, such as Germany in the 1920s or Zimbabwe in the last decade, everything went up; prices were soaring all the time. And now, very few commodities are moving on the upside, most of them are very stagnant. They're down 50 percent from their 2008 highs and don't seem ready to go anywhere. That could change. But so far, I think people who are saying gold is making new highs because inflation is a threat aren't looking at the rest of the indicators of inflation.
JP: Is it possible that your deflationary scenario plays out only against gold? In nominal terms asset prices rise, but in terms of gold they continue to deflate? I know you've written something similar about this in the past.
RP: Well, that would be inflation. That would be the hyperinflationary scenario such as happened in Germany and in Zimbabwe. Real stock prices were actually going down even though nominal prices were going up. That's the stagflation scenario, a replay of the 1970s but bigger. I don't believe it. I think nominal prices are finally ready to follow real prices on the way down.
Probably my best forecast, but unfortunately not one that I pushed, was one I published in early 2001. It was a picture of the Dow Industrial Average priced in ounces of gold, going back 200 years. At that time, I said I think it's going to go from the current level, which was in the low 40s -- I think the Dow peaked being valued at 42 ounces of gold -- all the way back to 1. So we're going to go down to par; the Dow and the dollar price of gold are going to be equal. Stock prices are not only going to go down in nominal terms, but they're also going to go down in real terms by 40 to 1. The Dow has already fallen to a value of 10 ounces of gold, so it’s gone a long way towards fulfilling that forecast.
It's possible that that forecast, as I said at the time, could happen no matter what happens to the currency, even if it's inflated. That outcome to me is unavoidable. The ultimate decline in the stock market is going to take prices to depression levels. In January 1973, when the Dow made a new high in nominal terms but not real terms, it led to a decline in nominal terms. We had the same thing happen in 2007: The Dow made a new high in nominal terms but was not even close in real terms. It really turned turtle at that point, falling 57 percent in the S&P in 2007 and 2009 in nominal terms. I think that's the beginning of the big decline we're looking for.
We'll have to see how it plays out. ... I think we'll see a decline in nominal terms. Whatever money survives is going to be able to buy a lot more than what it can buy today. This ocean of credit, as you pointed out earlier, that's now being supported by the Fed and the Treasury instead of private interests, has managed to hold prices up. I think it's more precarious than ever. When the implosion begins, it's really going to be relentless.
[Part IX is now online. Topic: What would change Prechter's mind about deflation? Plus, when is hyperinflation likely to start?]
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