Fear Index shows that gold is undervalued

The year 2011 ended on a very weak note for the price of gold, which tested support near the lowest levels since August as the precious metal slid below $1,550. This movement even drove the GoldMoney Fear Index below 3% as US M3 continued to rise, surpassing $14.4 Trillion. The downward path of gold since the September highs immediately prompted cries that the “bubble was bursting” from every corner of the financial press.

They could not be more wrong.

Neither a rising price, nor anecdotal reports of increased buying are in any way proper evidence of a bubble. If we ignore the chatter and actually look at empirical data, it is quite easy to recognise a speculative bubble or mania. That is to say, an irrational and unsustainable overvaluation of an asset regardless of fundamentals, reinforced by the belief that it will continue to rise indefinitely. We have a number of very vivid examples in living memory: the dotcom bubble, the housing bubble, and history provides many more examples, John Law’s Mississippi Bubble being the classic example.

A strict definition of a speculative bubble will therefore have two basic parts to it:

1. Irrational overvaluation. 2. Mass participation.

It is not enough for prices to go up, they must go up beyond what is justified by value. There must also be a psychological “herd” effect. If only a small minority takes part, it is difficult for a self-reinforcing feedback loop to happen. We’ve already explained how participation in the gold market remains the province of a tiny minority, even including all the “paper gold” instruments.

The importance of the GoldMoney Fear Index lies in answering the first question: What is the value of gold? As we’ve said before gold must be compared to its peers- other forms of money- in this case the US Dollar.

GoldMoney Fear Index January 2012

The chart’s message is powerful, the amount of dollars in circulation is still huge compared to the amount of gold that used to, barely 40 years ago, back them and give them the credibility necessary to become the world’s reserve currency.

A gold bubble would see, at the very least, fear index levels approaching those of the 1980s. It would see financial headlines cheerleading, rather than disparaging gold. It would see as many people buying gold coins as were buying Nasdaq stocks in 1999 or US houses in 2006. It might even see “gold coin” rank higher on Google Trends than “real estate”.

There might come a time when gold is once again overvalued and it makes sense to sell it, (or to spend it), but right now we are a world away from anything approaching a mania phase. The gold price has not even made new inflation-adjusted highs! Meanwhile the fundamentals, monetary policy and interest rates, remain extremely positive and show no signs of changing in the near future.

This last factor is by far the most important. As long as the world’s central banks think that they can go on “making money” and printing at will, the market will look for alternatives that cannot be debased, devalued or counterfeited.

Gold cannot default. If history is any indication, we are approaching an era when protection from broken promises will be worth its weight in gold. In the year of the dragon, hold onto your hoard.

History of financial crises since 1800.


James Turk has been writing about the Fear Index for years, as you can see in James Turk’s Free Gold Money Report.

fear index formula

gold price – goldmoney.com, M3 – shadowstats.com, US Gold reserve – US Treasury Bulletin

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