Peter Brimelow and Ed Rubenstein: Gold is far from overvalued

Note: Use the Internet link below to see the charts
that accompany this report.

* * *

By Peter Brimelow and Ed Rubenstein
CBSMarketWatch.com
Thursday, November 18, 2004

a href=http://cbs.marketwatch.com/news/story.asp?guid=%7BF4CC3B13%2D0DA1%http:/...
2D472D%2D858B%2D0D249E8FE994%7Damp;siteid=mktwamp;dist=

NEW YORK -- The Bush Bounce continues in the stock
market, but gold goes up too. What gives?

Wednesday night Dow Theory Letters' veteran editor
Richard Russell seemed almost on the point of abandoning
his long-held bearishness on stocks.

His (grudging) conclusion: quot;Is the stock market bubble
back? Feels to me as though it is. Wild prices going for
stocks that offer nothing in the way of dividends, but with
all this liquidity, what's a body to do but buy, buy, and,
well -- buy.quot;

But Russell has also been relentlessly, if patiently, bullish
on gold. And it's paid off for him.

He said, quot;Gold and gold shares continue higher -- early in
their second phase bull market rise. You've ridden the bull
so far -- stay on his back even though he'll try his best to
shake you off.quot;

Russell's explanation for the two rallies: quot;Liquidity, liquidity,
liquidity.quot;

Recently we looked at the long-run stock market. We
concluded that the market was still quite high by historical
standards -- the excesses of the 1990s had not been worked
off.

They're even less worked off now!

But we'll see.

Now we look at gold over the long term.

As usual, we use the historical data on returns on financial
assets developed by Professor Jeremy Siegel of the
University of Pennsylvania's Wharton School and used in
his classic book quot;Stocks For The Long Run.quot; Siegel's data
and much else is available on his Web site at
www.jeremysiegel.com.

The remarkable thing about gold is that really has been a
store of value. Adjusted for inflation, a dollar invested in
gold in 1801 has fluctuated around about a dollar ever
since.

It's been as low as 59 cents (1970). And it's been as high
as $4.26 (1980).

Recently, it's rebounded to about $1.45.

What drove the gold price down in the mid-20th century,
of course, was that Washington fixed its price in U.S.
dollar terms.

Arguably, the 1980 rebound to $4.26 (over $800 in
nominal terms) was an overshoot reaction.

What now? Gold is getting into the range that it has
occupied for much of its history. In current terms,
$500 an ounce would seem a reasonable upper limit.

But gold is far below its 1980 recent peak.

And this recent history may matter more, for two
reasons.

First, there is a serious gold bug argument that
central bank selling has driven gold down since 1990
-- in effect fixing its price, arguably unsustainably, as
in the mid-20th century.

If so, an overshot reaction is possible. Replicating
1980s peak could roughly triple gold's price in today's
dollars.

Second, the financial history of the 20th century is
quite discontinuous with that of the 19th century.
Since the advent of the Federal Reserve, inflation
has been vastly greater than previously, and the
course of yields on bonds and bills fundamentally
altered.

We'll deal with that in a future column. For now, the
point is that, on the evidence of these charts, gold is
hardly overvalued.

-----

Peter Brimelow is a columnist for CBSMarketWatch.
Edwin S. Rubenstein is president of ESR Research
in Indianapolis.

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