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A Possible Gold Price Scenario 1998 - ?

May 5, 1998

Students, analysts, traders and just observers of the gold market will find an article by Peter Brimelow in the May 4, 1998 issue of Forbes (pages 50-51) very interesting. The chart of gold prices from the 1300's to the present time (depicted in 1998 dollars) is very helpful in understanding gold price fluctuations over that span of time, especially given the notes which accompany various dates on the chart. We are in debt to Edwin S. Rubenstein, Research Director of the Hudson Institute, Indianapolis, Indiana, for the chart.

A reading of the text which accompanies the chart and a few minutes studying the chart will help the reader understand the remainder of my comments much easier and better; therefore, I suggest that the reader do that before proceeding with the remainder of this article.

Gold miners versus haberdashers

By Peter Brimelow

"WITH AN OUNCE OF GOLD a man could buy suit of clothes in the time of Shakespeare, in Beethoven and Jefferson, in the Depression of the 1930s," according to one of the sources for our chart. That remained true in the 1980s, but it isn't true in the late 1990s. The suit standard now implies a gold price of perhaps $1,000 per ounce. A really good man's suit today can easily cost 4 ounces of gold - say, $1,250 at gold's mid-April high for the year to date. And that's without a vest, once standard.

Which is particularly interesting because the real gold price has been astoundingly stable since Shakespeare (born 1564). Even in the troubled 20th century, with inflation in the West on a scale unprecedented during the last 600 years (FORBES, Jan. 12, 1998), gold's wild oscillations averaged at $612, very close to its $639 average for the tranquil 19th century. And comfortably within its historic range.

Interesting point: Gold will have to rise by about $300 just to get back to the $627 average of the last two centuries.

Arguably, some of those 20th-century oscillations were due to the 1934-71 U.S. government fixing of the nominal gold price (shown on our chart as a real price decline, because inflation ate away its purchasing power) and the subsequent rebound.

Plus the gold price does seem to have staggered temporarily in response to supply shocks-for example, the Californian and Australian discoveries in the middle of the 19th century, the Yukon and South African discoveries at its close.

A supply shock is the favored explanation for our chart's most striking feature: the abrupt and permanent downward shift of the gold price in the early 16th century. That's when the gold stocks of the Aztecs and Incas were introduced to world markets, courtesy of the Spanish conquistadores, and the Western Hemisphere's gold mines began to make their presence felt.

A pleasingly convenient symbol: The price of gold reached its historic peak ($2,400 in 1998 terms) in 1492, when Columbus sailed the ocean, etc., etc.

Of course, past performance is no guarantee of future success. But compared with its post-Shakespeare norm, gold is unquestionably rather low. You could argue that recent technological improvements and demonetization have caused a (permanent?) supply shock. Or you could take the situation at face value and agree with portfolio manager Caesar Bryan, whose Rye, N.Y.-based Gabefli Gold Fund is the best-performing gold fund this year. "This chart says cheap to me," he concludes.

Research: Edwin S. Rubenstein, research director Hudson Institute, Indianapolis. [email protected]

Now to build on the excellent base provided for us by the Forbes article. It is mentioned that the large influx of gold from the discovery of the Americas lowered the real price of gold to an equilibrium level which lasted for over 200 years. It becomes very clear that the real price of gold was relatively stable from the time of Shakespeare (1564) until the late 1800's when large new gold deposits were discovered in South Africa and Alaska and brought to market. You will notice that the price started to climb in the 1800's after the dip caused by the French Revolution and the Napoleonic Wars. The reason for the 200 year stability and then the upward price tendency can probably be attributed to the fact that the population of the Civilized World was rather stable during the 1600 and 1700's, but started to rise during the 1800's, which added demand to the gold equation as the per capita supply of gold tended to decline. The real price of gold dropped again as the South African and Alaska gold production was absorbed into the world economy, reaching a bottom in 1919. We will explain later in the article the extreme importance of the 1919 bottom. Also notice that the price of gold did not stay on a lower plateau after 1919, but has shown a distinct upward bias. Again, I feel this can be attributed to the rather rapid population growth world wide in the last 100 years and the establishment of a worldwide economic system; which has lowered the per capita supply of gold and allowed prices to adjust higher.

The logical conclusion drawn by the Forbes article is that gold prices currently appear to be very low in the early months of 1998. The suit price analysis suggests a logical price of gold would be closer to $1,000 to 1,200. As the article also mentions, the gold price would have to rise $300 just to reach the equilibrium point of the last several hundred years at $627. This is valuable information for a gold market participant to know, but I feel there is more we can learn from this already helpful chart. To extract the added information we need to apply the Elliott Wave Theory to this chart. It is not within the scope of this article to discuss the Elliott Wave Theory in any great detail because it is a complicated theory that books have been written to explain. If the reader is unfamiliar with the theory, I suggest you go to the web site and search under "Elliott Wave". You should find many good references that will help you understand this well known theory. At a minimum, for the purposes of this discussion, you should know that a normal bull market according to the Elliott Wave Theory evolves in five waves. Waves 1,3 and 5 take place in an upward direction. Waves 2 and 4 are corrective waves and occur in a downward direction. Another important fact that we will discuss is that an Elliott Triangle can develop in Wave 4 (a corrective wave).

From an examination of the 600 year gold chart, we can easily see that the lowest gold price in that entire span of time occurs in 1919. It appears reasonable to me to assume that 1919 can be considered the end of a bear market and the beginning of a bull market in gold. Following up on that belief we can deduce the following:

Wave 1 - Begins in 1919 and ends in the early 1930's

Wave 2 - Begins at the end of Wave 1 and ends in the late 1960's

Wave 3 - Begins at the end of Wave 2 and ends at the 1980 peak

Wave 4 - Begins at the end of Wave 3 and probably ended at the low of early 1998

Special Note 1 on Wave 4 - A student of the Elliott Wave Theory will possibly wave a red flag at this juncture because I have ignored a rule of Elliott analysis. Namely, that Wave 4 should not extend below the top of Wave 1. I have not ignored this rule, I have given it careful consideration and have come to the conclusion that we can ignore that particular rule for good reasons. To understand those reasons, it would be helpful for you to read my earlier paper on gold written in December of 1997, titled "Monetary Gold Mismanagement in the Twentieth Century", which is available on the Gold-Eagle web site. I cover in great detail how central banks and governments around the world (with the help of producers and hedge funds) have depressed the price of gold below its equilibrium level by causing a supply shock to the market (very similar to the supply shocks caused by the introduction of gold from the America's into Europe in the 1500's, and from Australia, California, South Africa, and Alaska in the 1800's). It is my belief that those actions have distorted the price level and forced it to go below the top of Wave 1 artificially. In addition, the top of Wave 1 may also be shown higher than it should be simply due to the problem of accurately depicting its price in 1998 dollars. Determining the average yearly prices in nominal dollars is sometimes difficult and then to correctly find the proper factor to change this number into 1998 dollars is difficult and can introduce errors. If we assume that the top of Wave 1 may be too high and the bottom of Wave 4 may be too low due to the reasons given in my December article, then it is not unreasonable to ignore the rule that says Wave 4 should not go below the top of Wave 1.

Special Note 2 on Wave 4 - Included in this article is a chart of monthly gold prices going back to the top made in 1980. An examination of that chart will show that the correction of gold prices from 1980 to early 1998 appears to be an Elliott Triangle. An Elliott Triangle unfolds in five waves named A, B, C, D and E. All gold prices listed below for the 18 year Elliott Triangle are in nominal dollar terms, and not adjusted to 1998 dollars as in the Forbes chart.

Wave A - Starts at the end of Wave 3 and ends in February, 1985 at $281.20

Wave B - Starts at the end of Wave A and ends in December of 1987 at $502.30

Wave C - Starts at the end of Wave B and ends in early 1993 near $325.00

Wave D - Starts at the end of Wave C and ends in early 1996 near $418.00

Wave E - Starts at the end of Wave D and probably ended in January, 1998 near $277

Special Note on Wave E - A close observer may complain that the triangle failed when Wave E dropped below the bottom of the triangle when it violated the line drawn across the bottoms of Waves A and C. A violation of this line does not negate the validity of an Elliott Triangle in any case. In this particular case it certainly should not when we consider the extreme pressure placed on gold prices as described in my December article.

Wave 5 - Probably has started at the low in January of 1998

and will most likely end in 1999-2001

Now let's turn our attention to some interesting speculation concerning what this analysis tells us about the price of gold for the next few years. All of the prices mentioned in this section will be in 1998 dollar terms. The Elliott Theory tells us that Wave 5 is the last upward leg in a normal bull market, so we can expect prices to move higher. How much higher? The normal expectation is that prices should exceed the high of Wave 3, which was made at $1,568 in 1998 dollars. We already know from the Forbes article that prices are $300 below the average price for the last 200 years, and that on the men's suit analysis the price should be at or above $1,000.

An analysis of the Forbes gold chart on the basis of Fibonacci Number theory and ratios tells us that if we measure the distance from the 1919 low to the high of Wave 3, and multiply that number by 1.618 ($1,764 X 1.618), we get a number that should be a close approximation of the length of Wave 5. When we do this arithmetic, we obtain a number of $2,854. When we add this number to the low of Wave 4, we arrive at a gold price objective of $3,131.

Still another price projection can be made from an analysis of the 18 year Elliott Triangle, which tells us that a price over $2,000 is a reasonable expectation. When we consider the extreme valuations now seen in the US stock markets, which have reached mania levels in the opinion of many observers, and if we assume that even a small portion of that money will flow into the gold market, then it is really impossible to tell how high the gold price can go.

A top somewhere between $2,000 and 5,000 over the

next few years does not appear out of the question.



From a reading of the Forbes article we can see that gold prices are at a low level historically based on an analysis of the last 600 years, and are undervalued by at least between $300 and 700.

From an Elliott analysis, we can see that the direction of prices will very likely be up for the next year or two and that prices should at a minimum exceed $1,568, and might be expected to exceed that level by a wide margin. It is not unusual for Wave 5 to extend in both time and degree, so an expectation of high prices is not unreasonable considering the extreme liquidity of paper money in the world financial system.

If this analysis is correct, we can expect great volatility not only in gold prices, but in all asset markets and other commodity markets. So much so that society will be shaken up a great deal and many drastic changes will take place. The reader should keep in mind when considering this information that the Elliott Wave Theory is very complicated and subject to different interpretations of the rules by different observers. As a market pattern develops it is not unusual for an observer to revise his opinion of the wave structure and meaning. The future is unknown, and it has been said quite correctly that "Things unknown are highly uncertain."

What the author takes away from this analysis is simply, that there is rather good evidence that the price of gold is low based on historical evidence and that an upward price adjustment is a reasonable expectation. How high prices will go, only time will tell. A price

between $2,000 and 3,000 seems possible. It will be very interesting
to observe the future as it unfolds over the next few years.

2 May 1998

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