Dow Crash Reaches Second Decade - in Gold Terms

21 February 2008, Updated 21 & 23 February 2009 and 21 February 2019

I originally posted this article eleven years ago, on February 21, 2008. It has not been rewritten for contemporary circumstances. Rather, I would like the article to stand as a testament to my 2008 viewpoint on the investment markets. The following text is unedited from 2008:

I am reposting this piece as the theme remains timely. The Dow crash in gold terms will complete its first decade in August of this year. What then? In my view, the second decade of the "real Dow crash" will then begin. Read on for more information. Or, if you recall reading this last year, my updated analysis is at the end of this article. The text below was composed on February 21, 2008:

There has always been speculation as to whether the venerable Dow-Jones Industrial Average will crash in response to one economic event or another. The crisis of the day tends to spark renewed interest in this topic, including various analogies to the great crash of 1929. Of course, today's crisis is the subprime meltdown and the spurious lending and securitization practices that underlie it. Will the present financial and real estate bubble cause the Dow to crash again?

Today's post is intended to keep questions such as this in perspective.

When you measure the Dow in terms of real money (gold), it in fact reached its peak in August 1999, and has declined steadily since that time. In late August 1999, one unit of the Dow Industrials would have cost you 44.84 ounces of gold. That of course would not have been a good buy if you were then a holder of gold (though Gordon Brown, then Chancellor of the Exchequer for Great Britain, was selling the last of the mighty empire's great store of gold at bargain basement prices at that time; in fact, Mr. Brown sold 60% of Britain's gold at a lowly $275 per ounce between 1999-2002, one of the worst acts of market timing by a government official in recorded history - and government officials are rarely noted for their economic acumen - Ronald Reagan and Margaret Thatcher partially excepted!).

If you had held onto your gold in 1999, and waited until today to buy the Dow, you could have had it more cheaply. At today's prices, roughly 13 ounces of gold will now buy you a unit of the Dow. That is, you get a single Dow unit for 32 fewer ounces of gold, which remains a timeless currency with relatively stable purchasing power. Let's round that off, and call it a 70% discount.

Or, alternatively, let's just say that the crash of the Dow is now in its 9th year, and that it has so far fallen 70% while facing into the headwinds of the mega-inflationary 21st century.

Is the Dow done falling, now that the Dow-to-gold ratio stands at 1:13 vs. almost 1:45 only 8-1/2 short years ago?

Not according to those who engage in long-term analysis.

In fact, the Dow has tended to bottom against the price of gold at roughly a one-to-one ratio every 40-50 years. As Eric Hommelberg's 2005 chart of the Dow-to-Gold ratio shows, you could last have bought a unit of the Dow for the cost of about one ounce of gold in 1980 (when an ounce of gold at $887.50 per ounce was almost as valuable in (nominal) dollar terms as it is today (gold presently stands at about $950 per ounce). Mr. Hommelberg was conservative in 2005, speculating that the Dow might fall to the value of as many as 5 ounces of gold. Three years later, Mr. Hommelberg's projection now appears quite modest.

What are the implications?

If you are more patient (and prescient) than Gordon Brown, and hold onto your gold a bit longer, perhaps another 10-20 years, the chances are that you will be able to buy one unit of the mighty Dow-Jones Industrial Average for a single ounce of gold - possibly less, approximately a 98% discount to the deal that Gordon Brown got for the British government, beginning at the Dow's gold peak in 1999.

Is the Dow, therefore, going to crash again?

I hope you can see now that this is the wrong question.

It already has.

The Dow has so far fallen 70% against the price of gold in the 8-1/2 years since the Dow's August 1999 peak in gold terms, and it is presently just in its next leg down, as today's charts make abundantly clear. (Click here for a current analysis by Captain Hook.)

Chances are, the Dow has another 28% to go before it's done - when a single unit of the Dow-Jones Industrial Average will be of the same value as a single ounce of gold. At that time, the Dow will have collapsed 98% against the price of gold.

I guess you could call that a Dow crash.

21 & 23 February 2009:

Since posting this article one year ago, at which time 13 ounces of gold were required to buy the Dow-Jones Industrial Average, the trends I identified have if anything accelerated.

In a short year, you now get almost "twice the Dow" for your amount of gold, as the Dow has fallen almost another 50% in gold terms over the past 12 months. 7 ounces of gold will presently buy you the Dow-Jones Industrial Average, as compared to 44.84 ounces of gold in August 1999, or 13 ounces of gold in February 2008. That is, the Dow:Gold ratio has now slipped by 84%.Want my advice?The Dow is still no bargain. Don't cash in that 7 ounces of gold for the Dow, but hold onto your gold - for further long-term appreciation. This trend has years to run, as the "real Dow crash" completes its first decade. As of August this year, the Dow crash against gold will enter its second decade, and the crash - or collapse, if you prefer - will simply continue.

Gold has much further to rise, and the Dow much further to fall. A unit of the Dow for 7 ounces of gold remains no more a bargain than when 45 - or 13 - ounces of gold were required to purchase the Dow in 1999 or 2008!Let me emphasize that I am not predicting short-term trends here. The Dow might rise for several months, and gold could fall for several months. I believe short-term market prediction is essentially impossible. But why take the chance? The trend is clear. If you did not exit mainstream equities in 1999, or even in 2008, you can still get out now.

Gold - though volatile in price on a short-term basis - remains a safe and comfortable companion in uncertain economic times. And in our present case - where is the uncertainty? We know that the foundations of the economy are at their most unstable in almost a century - and, as a consequence of leverage and other forms of financial gymnastics - perhaps at their most unstable in all of human history. Gold is the obvious choice in such circumstances.
(See also these related posts, comparing the Dow to the AMEX Gold Bugs (HUI) Index, and exploring the issue of "financial disasters.")

UPDATE FEBRUARY 21, 2019: Here's how the Dow looks in nominal (non-inflation-adjusted) terms. It seems to be doing well, particularly since 2009. However, appearances can be and frequently are deceiving, especially in the investment markets. 

By way of contrast, in gold terms, the Dow Jones Industrial Average has lost 57% of its value since 1999, and that is not adjusted for inflation, which has been quite considerable over the past 20 years, and more than the government is willing to tell you. Using official numbers, you must subtract an additional 34% from your adjusted 1999 investment amount (43% remaining, minus 34% inflation, leaving only 28% of your original investment intact). This calculation yields a (marginal) inflation-adjusted 20-year loss of 72% in gold terms.

Once you take out the inflation, there is just about nothing left, except you do get to keep your dividends. To be clear, dividends are nice to have, but when you have lost 72% of your principle, the dividend is best attributed to "return" of principle (I would say "destruction" of principle). 

Keep in mind that inflation is much higher than the government reports. A rough estimate is that very likely 90% of your principle is already gone, 20 years later (when contrasted to a scenario in which you had purchased gold with your investment funds, rather than the Dow). 

Further, after falling from 2011 to 2015 in US dollar terms, gold has renewed its uptrend since December 2015 (so far modestly, though definitively). Gold's greater than 3-year renewed uptrend implies a return to a downtrend in the Dow on the Dow:Gold ratio chart, quite likely very soon. 

You'll recall that 44 ounces of gold were required to buy the Dow in 1999. That number fell to 13 ounces in 2008. While the Dow has obviously recovered considerably, and is currently at new (all-time record) nominal highs, you can still purchase the Dow for only 19 ounces of gold, yielding the 57% cost saving we discussed earlier. 

Are we again approaching a time when you can buy the Dow for only 1-5 ounces of gold? As we saw above, that happened in the 1930s, and again in the 1970s (and came as close as 7 ounces of gold in 2009). Cycles tend to repeat, and it's virtually certain that this will happen again.

My advice: If you haven't done so already, get out of the stock market now, while your savings are still intact, and maintain a substantial portion of your savings in the precious metal sector (the percentage is up to you, though the standard recommendation of "10%" is insufficient for current circumstances --- I suggest 50% or more as a proportion appropriate to today's highly dangerous bubble conditions in all asset markets). 

And: Click here for a great discussion of this topic: Dow Gold Ratio: How Does Gold Compare to Shares For the Past 100 Years?

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