Gold and Silver: Much Better Than US Stocks

The following article was written by Mary Anne and Pamela Aden for the May 2011 edition of Peter Schiff’s Gold Letter.

To hear Fed chairman Ben Bernanke tell it in his press conference this past month, the US stock market is in the beginning stages of a moderately paced recovery. Many on Wall Street are no doubt preparing for a return to normal: buying real estate, selling bonds, taking riskier equity positions. But the price of precious metals is telling a different story.

Before you buy into this “recovery” story, look at recent stock market returns compared to gold and silver. Chart 1 shows this clearly, with the three starting at 100 in 2003.Note that the disparity started in 2005 and it’s still going on. Gold and silver are far stronger than the stock market.

But, some will argue, the gold bull has been going on for some time. Isn’t the stock market due to overtake precious metals for awhile?

Based on our close market analysis, we believe the precious metals bull market is secure and the recent stock market rally is illusory.

Inflation Sweeping the Globe

Part of the reason why gold is rising is due to safe-haven buying to protect against inflation and chaos. Inflation is picking up around the world.

In Europe, it’s rising at the fastest rate since the financial meltdown in 2008. Plus, their debt situation is serious. Portugal’s debt has risen to an all-time high and their borrowing costs are unsustainable.

China has been trying to defuse inflation by raising interest rates for the fourth time in six months. Due to rapid increases in the price of fuel, they had their first large-scale strike by teamsters at the port of Shanghai.

Meanwhile, the US keeps pumping out the money. The Chairman was right this month when he finally acknowledged that domestic inflation must be watched closely. It should, because it’s become the driving force of global inflation.

Dollar Drifting Down

As our dear friend Richard Russell so well explains:

“Few Americans realize the advantage the US has enjoyed over the years in being able to print the very currency our debts are denominated in. The US has been able to print trillions of dollars that it never earned. Somewhere ahead, the reserve status of the dollar is going to bump into the wall of non-acceptance.”

This will accelerate the dollar’s decline, and it will come as a shock to most people. The dollar itself is sending this message. It was the worst performing currency over the past six months.

When the bottom falls out from the dollar, it will take stocks down with it.

Gold Has Room for Growth

Meanwhile, gold is nowhere near saturation. It is still a very small part of total global assets. Be it investment or pension funds, you don’t see an important position in gold, though Peter writes above about how that is quickly changing.

Perhaps gold is a smaller percentage of this total because other investment areas, like the emerging world, have taken the limelight. Or, perhaps lots of money is on the sidelines waiting to buy on weakness, which has yet to materialize.

Whatever the reason, gold and silver’s bull markets haven’t been much noticed by the average person. This is a stark difference compared to the 1970s when all eyes were on gold.

Overall, it’s a bullish omen because the situation in the world today calls for people to protect themselves, and eventually they will.

Silver Even Better

Silver is getting a boost from both the rising gold price and a recovering global economy. When this is in sync, silver tends to soar. It is also helped along by rising inflation, commodity shortages, and the turmoil in the Middle East.

While there are similarities between silver’s rise in the 1970s and the rise of the past decade, the difference is silver rose 3000% then versus a gain of only 830% since 2003.

This suggests that silver could eventually rise past its 1980 peak in real terms. Remember that there are a lot more reasons for silver to rise today than there were in the 1970s, especially the tens of millions of newly middle-class Asians.

Rates Are Bottoming

Interest rates are at the same level as they were last month, but they’ve been volatile, rising and falling on the news of the day. We believe interest rates are going much higher – probably sooner rather than later. This will be confirmed once the 30-year yield clearly stays above 4.50%.

Once this happens, it’s going to be a whole new ball game. A major trend change would mean that interest rates are going to rise for years to come, along with higher inflation. It would be bullish for gold, but bearish for the dollar, and it would put heavy downward pressure on stocks.

The Inflation & Interest Rate Tandem

In fact, this is probably already starting. We know that commodity prices have been rapidly moving higher, especially food and oil prices. As we mentioned last month, producer prices have been picking up a lot of momentum over the past four months. This month, however, was a real eye-opener.

Producer prices soared at an annualized rate of 19%, due to the biggest jump in food costs in more than 36 years (see Chart 2). Food prices surged an unbelievable 47% annualized, in their largest rise since 1974.

This will have a tremendously depressing effect on economic activity. Unemployment is still high, so firms will not be able to pass these higher costs onto consumers. The result? Tighter margins, lower dividends, and falling share prices.

So, this is already equivalent to the inflationary 1970s, and it’s likely still in its early stages. How bad could it get? Who knows… The point is, we’re in uncharted territory. All we can do is protect ourselves, see how events unfold, and take it one step at a time.

For starters, avoid bonds and keep a good chunk in precious metals.

Mary Anne and Pamela Aden are authors of The Aden Forecast, an investment newsletter now in its thirtieth year. It is one of the longest continually published investment newsletters in the world. They specialize in the precious metals and foreign exchange markets, as well as the US and international equity and credit markets.

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