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November 21, 2018 | When This Happens, Buy Stocks

Is an American author of books and articles on economic and financial subjects. He is the founder and president of Agora Publishing, and author of the daily financial column, Diary of a Rogue Economist.

BALTIMORE, MARYLAND – Today will be an interesting day. After falling the last two days, stocks should bounce. And the futures market says they will.

But now, we will see what the speculators are really thinking.

Will they want to go away for a four-day holiday with the stocks they’re holding?

Or will they want to lighten up a little more… just in case?


Money Disappeared

The combined value of the FAANG stocks – the big tech companies Facebook, Apple, Amazon, Netflix, and Google (Alphabet) – is down by about $1 trillion from its peak. That money disappeared over the last few days. Don’t try to get in touch; it left no forwarding address.

Here’s Bloomberg:

One of the toughest years for financial markets in half a century got appreciably worse Tuesday, with simmering weakness across assets boiling over to leave investors with virtually nowhere to hide.

Stocks buckled for a second day, sending the S&P 500 careening toward a correction. Oil plumbed depths last seen a year ago, while credit markets – recently impervious – showed signs of shaking apart. Bitcoin is in a freefall, while traditional havens like Treasuries, gold, and the yen stood still.

But immobility may be underrated. When stocks are backing up, standing still seems like a good idea.

So far, there’s been no dramatic drawdown… no 1,000-point decline… no “CRASH” headlines… yet.

Nor has anything been corrected. All the imbalances are still there… everything that was out of whack at the beginning of the year is still out of whack…

Total U.S. debt, for example, is still at 3.4 times GDP, not at the 1.5 level it should be.

And with the Dow at 21 ounces of gold, as we explained yesterday, stocks are still expensive.

The simplest, surest trading strategy in the world is just to go back and forth between stocks and gold. You spend a lot of time standing still – 39 years out of the last hundred, using our formula – but it pays off.

You buy stocks when they are cheap, relative to gold. When stocks are expensive, you sell them and put your money back in gold, where it will be safe.

Go back 100 years. When you could buy the Dow for 5 ounces of gold or less, you bought stocks. When it took 15 ounces or more, you sold them.

This simple strategy would have had you making a total of only six transactions over the entire century, or about one transaction every 16 years.

You would have bought stocks in 1918 at 4 ounces to the Dow… and sold them in 1929 at 15.

Then, you would have bought again in 1931, as soon as the Dow dropped back under 5 ounces, and sold in 1958 when the Dow-to-gold ratio again crossed the 15-to-1 line.

Your next purchase would have been 16 years later, in 1974, when the ratio fell below 5. Your final move, another sale, would have been in 1996, when the ratio was at 15 again.

If you’d begun with 10 ounces of gold in 1918 – which cost about $206 back then – and followed this strategy, you would have 585 ounces of gold today, or roughly $718,000.


Mom and Pop Capitalists

By comparison, the same money invested in the stock market and left there over the same time would be worth $67,000 today. (This calculation doesn’t include any dividends, taxes, or commissions.)

Just as investors under-appreciate immobility, they greatly overestimate the forward movement of stocks. Popular books and sell-side shills tell them to expect to make profits forever.

According to the theorists, investors are allocating their precious capital to America’s leading industries… and earning a “risk premium” (over bonds) for being mom and pop capitalists.

Many investors think that just being “in the market” should make them rich. They believe they are funding the great American enterprise machine; they deserve to make money.

But as recently as 30 years ago, the Dow was only around 2,000. And since then, most of the gains have not come from healthy, organic growth in sales and profits. They’ve come from fake money and false pretenses.

The Fed began backstopping the stock market in 1987, and then multiplied America’s monetary base by 10 – putting $4 trillion into the capital markets.

But gold wasn’t fooled.

Over the last 22 years (roughly from the time we got our last “sell signal” from the Dow-to-gold ratio) the payoff from the S&P 500 has been no better than from gold. Both are up about 250%.

And even after the biggest bull market in stocks of all time, the Dow in 2017 was worth no more than it had been 88 years before. You could have bought the entire Dow last year with the same 15 ounces of gold that would have bought it in 1929.




In terms of the Dow-to-gold ratio, there were only two other periods in the last 100 years when stocks were higher.

In 1966, for example, the Dow-to-gold ratio hit 27… and then fell to 1.3 ounces in February 1980 – a loss, in gold terms, of 95%.

Then, in January 2001, the Dow-to-gold ratio hit an all-time high at over 40. This was followed by another big selloff, with the ratio falling to a bit over 6 in August 2011 – for a loss of 85%.

Following our formula – buy stocks when the Dow-to-gold ratio is below 5; sell stocks when it is over 15 – you would have multiplied your real wealth – gold – 58 times.

And you would have done so with very, very little risk or volatility. Most of the time, you would have been immobile, simply holding gold and waiting for stocks to go on sale below 5 ounces/Dow, where you could buy back in safely.

That would have meant standing still – being stock-free – for the last 22 years… missing the huge runup to 2007… and again from 2009. Not many people would want to do that.

FOMO – fear of missing out – would drive them to invest.

But… watch out.

The fix isn’t in any more, not like it was. And the smart money isn’t buying; it’s selling. Once again, it is front-running the Fed, which is offloading assets, not accumulating them.

The Fed will reverse course, we predict. When the real pain hits, it will resume buying bonds and slashing rates to lift stock prices.

But not before standing still has paid off again… and the Dow-to-gold ratio is falling fast.




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November 21st, 2018

Posted In: Bill Bonner's Diary

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